Understanding Franchise Law

#franchise law


Few franchise law practitioners come out of law school plotting a course to help the next great franchise system expand globally. Most likely, this is because few new attorneys and law students have ever even heard of franchise law or understand what franchise attorneys do on a day-to-day basis.

Franchising is a business model that companies use to expand their brand or system. A franchisor is a company that has developed a system and name and grants a third party the right to operate a business under the system and name in exchange for the third party paying certain fees. The Federal Trade Commission (FTC) and a number of states have enacted legislation that regulates the sale of franchises and the relationship between the franchisor and its franchisees. A franchise practice representing franchisors generally focuses on advising franchisors on regulatory requirements, drafting franchise agreements and related agreements, counseling franchisors on day-to-day issues that arise in connection with working with franchisees, and counseling franchisors on dispute-related issues.

Before addressing laws and regulations that are unique to franchising, franchise attorneys often find themselves advising companies on corporate and trademark issues. For example, a company considering franchising may wish to form a new entity to offer franchises and must decide what type of entity to form, how to organize it, and what organizational documents are necessary. Because franchisees buying into a system will want the unrestricted right to use the name and mark used by the system, a franchise attorney will work with the franchisor to obtain federal registration of a trademark.

Franchise attorneys must become familiar with the patchwork of federal (FTC) and state laws that require franchisors to disclose certain information to franchisees before a franchise is sold. The disclosures are included in a disclosure document, which is similar to a prospectus for a security. The FTC Rule, promulgated in 1979, did not preempt more protective state laws, and fifteen states enacted laws that regulate franchise sales. Among other things, the state laws require some additional disclosures and prohibit certain agreement provisions (i.e. choice of law, choice of forum, governing law). Eleven states require franchisors to submit a copy of the disclosure document to the state regulatory authority for review and approval before the franchisor can sell franchises in that state. These states are known as “franchise registration states.” In addition, eight states require that all advertising of franchise offerings be filed with the state before use. Most of these states place restrictions on the types of claims that can be made in the advertisements (such as the franchisor cannot refer to the franchise as a safe investment).

Because the purchase of a franchise often involves a substantial investment of capital by the franchisee, a number of states have also enacted laws to protect the franchisee and its investment. These laws are referred to as “franchise relationship laws” and restrict, among other things, termination of the franchise relationship, refusing to renew the franchise agreement upon expiration, and transfer of the franchise. For example, under many of these laws, a franchisor is prohibited from terminating a franchise unless the franchisor has good cause and has provided the franchisee an opportunity to cure.

Franchise practitioners spend a considerable amount of time drafting and negotiating agreements between the franchisor and its franchisees and between the franchisor and third parties, such as vendors and suppliers. The franchise agreement between the franchisor and the franchisee is the cornerstone of the franchise relationship and is likely to be in place for a number of years. While no two franchise agreements are identical, most include provisions such as the grant of a trademark license, the right to operate the franchised business, payment of fees, terms of the rights granted, limitations on how the franchisee can use the franchisor’s trademarks, operational standards and specifications, restrictions on products and services that the franchisee may offer, reporting requirements, default, termination, post-termination obligations, restrictions on competition and disclosure of confidential information, and procedures for dispute resolution.

Finally, as with any business relationship, there is a dispute resolution component to a franchise practice. Franchise litigation attorneys typically deal with claims such as violations of franchise sales laws or franchise relationships laws, misrepresentations during the franchise sales process, failure to pay amounts due, failure to make required refunds, and failure to provide support. Franchisors typically try to control litigation somewhat with contractual provisions that require the franchisee to submit certain claims to mediation or arbitration or require the franchisee to litigate only in a specific forum.

Perhaps the most rewarding part about being a franchise attorney is working with businesses on a broad basis to solve a wide variety of legal issues as companies expand. For a new attorney considering a legal practice that focuses on helping emerging and mature businesses succeed, this might be the right niche!

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