So, your franchisee has breached the terms of their franchise agreement. What do you do next? While their breach may be cause for termination, you shouldn’t rush into any conclusions. Otherwise, you could be making a misstep.
First, consider whether a lawyer or compliance manager is needed. Not all defaults are equal. Some might require a simple phone call to fix. Others might require a formal default notice and termination. Many fall in between and can be resolved short of termination.
Your franchise lawyer will help you correctly identify what terms of the franchise agreement were breached. This may seem like a simple task, but that isn’t always the case. There are many instances where the franchisee’s behavior, while clearly wrong, doesn’t directly fit with any of the default terms of the agreement. This is where an attorney can help you identify which specific terms of the agreement the franchisee could be considered to have violated.
After determining the nature of the breach, you must provide your franchisee with adequate notice of their default. Your franchise agreement will define how notice must be served, but in general it is best to send notice in multiple forms (email and a hard copy letter) of their notice of default. Serving timely notice is especially important, because the franchisee’s clock for curing the default won’t usually start until they receive adequate notice of that default. Those notices should be sent strictly via the notice provisions under the agreement.
Some breaches require the franchisor to give the franchisee an opportunity to cure the breach. It is imperative you give your franchisee an opportunity to cure if you are required to do so. Your franchise agreement will dictate how long the franchisee has to cure its default, but sometimes it can be in your best interest give them additional time to cure. Similarly, in instances where you have the option to immediately terminate the agreement based on default, it can still be advantageous to allow the franchisee an opportunity to cure. The main benefit for doing so, is that it is a clear indicator that the franchisor is operating in “good faith”, and you are making a legitimate effort to keep the agreement intact. That way, if you are later forced to terminate, the franchisee would have a difficult time proving that you were acting in a way that was unfair to them or deliberately trying to find reason to terminate their agreement.
The last thing you must consider is the location of your franchisee. Many states have additional restrictions on the termination of the franchise agreement, and typically require the franchisor to show good cause in termination. For example, California has “good cause” rules that are defined by state law. So not all breaches necessarily can result in termination. California also has an inventory buyback requirement following termination that needs to be analyzed in order to see whether it applies.
It is important to understand whether a specific default would be considered good cause under specific state law. In some instances, you may be required to offer the franchisee an opportunity to cure where you would otherwise not have to or you may have to give additional time to cure. For example, New Jersey commonly requires 60 days’ written notice and opportunity to cure for many types of breaches.
Violating these laws could end with a franchisor owing damages to a terminated franchisee, despite the franchisee’s default and what appears to be a valid reason to terminate.
In addition, good faith and fair dealing laws should be considered. Would you terminate your “gold star” franchisee for the same reason? Are there other franchisees guilty of the same breaches that you aren’t defaulting or terminating? If so, could this lead to an argument of discriminatory conduct if you were to terminate one franchisee for bad behavior or breaches that have repeatedly occurred across the system without terminating?
All of these factors are important to consider when dealing with a franchisee in default, and a seasoned franchise lawyer can help you navigate the proper route for handling those situations.
As always, if you have any questions, please contact us here.