Bret Lowell of DLA Piper.
Updates, renovations or brand innovations. Whatever you want to call it, system change can be a challenge for concepts large and small. While just about anyone in a franchise system understands the need for innovation and keeping up with the competition, it’s wise to both prepare for that innovation at a foundational level and ensure that it makes sense for the franchise.
Given the frantic adoption of technology by consumers, the new pace of system change can weigh on the franchisor-franchisee relationship.
“I think we’re facing a new era of ‘needs’ for keeping up with what’s going on,” said Bret Lowell, a partner in the franchise practice at DLA Piper. “The classic pattern there has to do with remodels and renovation of stores, but with the technology revolution that’s upon us, we’re seeing a lot more in the way of software and IT upgrades and franchising needing to keep up.
A landmark case came out of the Wendy’s system when DavCo, a 140-unit franchisee, refused to update its locations or invest in a new point-of-sale system.
According to legal documents, DavCo said the updates were in “violation of the franchise agreements, commercially unreasonable and breaches of the implied duty of good faith.”
A bitter three-year legal battle ended “without prejudice,” and the entirety of the DavCo holdings were acquired by NPC International, Wendy’s largest franchisee, which took on the updates.
Smart and reasonable
The outcome was not ideal for anyone, racking up legal fees and becoming a major distraction. But as Lowell said, such disputes can largely be avoided by embedding some good practices into the standard operating procedure.
“I start with the premise that the franchisor needs to roll these things out in a smart and reasonable manner.
“By doing so they keep the dispute to a minimum, and we find that they are rolled out in a win-win-win sort of way for the benefit of the franchisor and the franchisee and the system as a whole,” said Lowell.
The ideal rollout process depends largely on what kind of innovation is involved. Remodels and ongoing updates to keep the actual properties looking fresh among a competitive set are generally baked into the franchise disclosure document in explicit language around timelines and investments.
But for the slew of non-standard or unforeseeable updates at the writing of the FDD, there needs to be some contractual wiggle room for whatever innovation might come along.
“Where we don’t have that specific language, franchise agreements have or typically have general language. You’ll find language about how you must follow the requirements of our operating manual,” said Lowell. “The manual is a tool to roll out changes, as manuals are recognized as legally modifiable in order to keep up with change over the, say, 20-year term of the franchise agreement.”
If those updates become disagreements, franchisors have the power to either terminate the franchisee based on not adhering to brand standards, or go to court seeking specific performance to force the issue. Smart brands will also include contract language that will rationalize the updates across the system and stay out of court.
“It comes to a rub because every franchisee is not identical. For example, you may have one franchisee with many units and one with few units. Maybe it makes sense for the large franchisee that can afford it but not the small franchisee that can’t afford it,” said Lowell.
“Yet the franchisor needs to look at the system as a whole and keep the brand positive and shiny when it comes to consumers and customers. If there is a franchisee out there that a change doesn’t work for, forcing it upon that franchisee could be problematic, so ideally the terms of a compromise upgrade can be worked out.”
‘Use plain English’
Franchisees don’t always have a lot of power to make that case, especially when the majority of the system is adhering to the change. But they can watch for certain language in the FDD to see what’s ahead.
“Franchisees should look for provisions that allow the franchisor to change fees over the course of the franchise agreement. Any fee that can change should say so in Item 6 of the franchise disclosure document,” said Mike Drumm, founder of Drumm Law.
But to keep the system strong and avoid franchisee unrest, franchisors should try to be clear about what those requirements could be.
“Use plain English,” said Drumm. “I have seen many franchise agreements try to tackle technology issues with legalese and use outdated terms like CD diskette or electronic website on the worldwide Internet. Everyone knows technology changes, so be up front about it.”
And if a dispute comes up, it’s in everyone’s best interest to find a resolution as soon as possible.
“When I look at disputes, I see that we could have gotten there six months ago. Every time,” said Brian Schnell, partner at Faegre Baker Daniels. “We just weren’t having the right conversation.”
Change, however, will be constant as consumers crave innovation and a reflection of their daily lives in the franchise industry. That means it’s up to both franchisees and franchisors to come together on innovation.
“A big part of this is customers and consumers are demanding innovation,” and if a system doesn’t innovate, “they won’t continue to be relevant. They’ll die on the vine,” said Schnell.