Five key causes of breakdowns in franchise relationships

1. Lack of support from the franchisor and insufficient human resources

A franchise system that is not providing an adequate level of support to its franchisees and that has insufficient human resources to interact with franchisees on a regular basis may lead to disappointed franchisees. On the legal front, franchise agreements do not typically impose a great deal of legal obligation on a franchisor to provide support, so this is not normally a contractual issue but rather an issue with the business model. It may also raise potential concerns about failure to disclose material facts about the lack of support at the time of the franchise sale.

2. Changes in the market; dissatisfaction with the business model or brand

Market changes can lead franchisees to re-evaluate their business and move into other areas. These market changes can include economic downturns, shifts in consumer behaviour, significant new competitors,or labour shortages.

Related to this, not all business models keep up with changes in the market, industry or consumer preferences. A franchise system that falls out of step with competition and the evolving market will likely end up losing traction and franchisees. For example, successful restaurant franchises would periodically introducing new menu items to stay current with consumer, food industry and health trends. The same result tends to follow when the franchised business simply does not perform financially on par with what the franchisee expected at the outset.

Other than looking for an amicable exit from the franchise system, the franchisee in this situation may evaluate what legal options may be available, such as franchise disclosure of material facts or other legal grounds.

3. Change in the franchisee’s circumstances

Like all human beings, franchisees may have changes in their personal circumstances that no longer make it feasible for them to continue operating the franchised business, such as health, retirement, caregiving responsibilities or other personal circumstances. The best resource for a franchisee in this situation is to negotiate with the franchisor an amicable exit by way of a resale or buyback of the location.

4. Failure to comply with system standards

Some franchisees are just not meant to operate in a franchise system, which normally requires strict adherence to system standards.  They may be more suitable to run an independent business or perhaps not be in business at all. An ongoing failure to comply with system standards will eventually lead to a breakdown in the franchise relationship through demand letters and notices of default from the franchisor.

It would be best for the franchisee in this situation to proactively attempt to exit the system on amicable terms with the franchisor, such as through a resale or another satisfactory arrangement.  Otherwise, a franchisee whose franchise agreement is terminated on an adversarial basis may end up not getting anything, or worse, may be liable for significant damages to the franchisor for breach of the terms of the franchise agreement.

5. Renovation costs and schedule

Franchise systems that are based on retail or other physical premises normally require periodic upgrades to the unit – such as in renovations to the premises and upgrades to equipment.

Franchise agreements often have a renovation clause that require the franchisee to renovate the premises or upgrade equipment at the franchisor’s request during the term, as a condition of renewal or as a condition of a resale of the franchised business.

Some of these costs run in the hundreds of thousands of dollars, effectively making it financially unsustainable for the franchisee to continue operating the franchised business. On the other hand, it is important for the franchisor and the reputation of the franchise system for all locations or retail outlets to be regularly updated, and to stay relevant and modern in the market, and just as importantly, for all locations to provide a consistent consumer experience.

Summary

Franchise relationships can break down over time. It is important for franchisors and franchisees to understand the causes of a breakdown in the franchise relationship and what steps each side can take to ensure long term success for both sides.

Given the complexity of these issues and the importance of strictly adhering to the procedures set out in the franchise agreement, franchisees are wise to consult the expertise of an experience franchise lawyer when considering their options for exiting the franchise system.

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The information contained in this article is provided for informational purposes only and does not constitute legal advice. Readers should not act on this information without seeking professional legal advice from a lawyer experienced in this area. The content in this article may not reflect the most current legal developments, and the application of law can vary in different provinces and territories. As such, the information in this article is not guaranteed to be complete, correct, or up to date. The author and the publisher of this article disclaim all liability for any actions taken or not taken based on any or all of the contents of this site.

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