TALK IS CHEAP: WHAT THE FRANCHISE SALES REP DOESN’T WANT YOU TO KNOW
by David G. Ross

I’ll be there for the messy divorce. In fact, I’ve probably heard your story before. One common scenario sounds something like this: If you had known then what you know now, you never would have signed that franchise agreement. The franchisor’s sales representative seemed like a great guy, and he promised you lots of marketing support, great brand awareness, and huge profits. He handed you an overwhelming, 400-page Uniform Franchise Offering Circular and downplayed the importance of the 35-page franchise agreement. Though he acknowledged that the franchise agreement’s terms were favorable to the franchisor, he explained that the “technical” language was put in at the insistence of company attorneys. In practice, he assured you, the franchisor would “work with you” to protect your interests – regardless of what the franchise agreement said. Just hurry up and sign on the dotted line so you don’t lose this great deal!

Unfortunately, after you signed the franchise agreement and invested enormous sums of money into your new business, the rosy scenario didn’t play out. In fact, franchisor support was nearly non-existent, the public’s awareness of the brand was minimal or even negative, and revenues were scarce. Things got so bad that you had difficulty paying your utility bills. Compounding this nightmare was the fact that your monthly franchise fees were based on “gross revenues” rather than profits – meaning that you had to continue paying your unhelpful franchisor even as your business lost money. Over time, it became financially impossible to continue remitting these payments (or to make the costly repairs and facility improvements demanded by your QA inspector).

Now, the franchisor who led your business to ruin is terminating the franchise relationship, suing you for breach of contract, and demanding tens or even hundreds of thousands of dollars! Meanwhile, that “great guy” who had made you all the promises at the beginning doesn’t remember your discussions with him quite the way you do. You and the franchisor are about to engage in costly litigation.

If this is your scenario, you face an uphill battle. America is a contract-based society, and business owners in this country are usually bound by the contracts they sign. Except in the rarest of circumstances, it doesn’t matter that one party was much more powerful than the other or that the contract was extremely one-sided. In fact, a court will usually assume that each party to a contract read and understood it – whether he or she really did or not.

What does this mean for you, the franchisee? Quite a bit, actually. Established franchisors are usually infinitely more powerful than the franchisees with whom they contract. In fact, the franchise agreement and the Uniform Offering Circular that the franchisee relies upon for protection are written by and for the franchisor, whose main goal (understandably) is to protect its own interests. A “well-written” franchise agreement, from the franchisor’s perspective, will clearly and exhaustively spell out the franchisee’s many obligations while committing the franchisor to relatively little. Further, the franchisor presumably has read and fully understands its own agreement. The same cannot be said for the typical, unrepresented franchisee.

Here’s one very important thing that the franchisor understands about its own franchise agreement: that document, like most well-drafted contracts, contains an “integration clause,” or “merger clause.” When you sign a franchise agreement that has an integration clause, you are effectively agreeing that the only promises that are binding on the franchisor are the ones specifically mentioned in the document. For example, one prominent franchisor requires its franchisees to agree that “[t]here are no express or implied covenants or warranties, oral or written, between [the franchisor and franchisee] except as expressly stated in this Agreement.” (Emphasis added.) That same franchise agreement also contains this clause: “This Agreement, together with the exhibits and schedules attached, is the entire agreement superseding all previous oral or written representations, agreements and understandings of the parties.” (Emphasis added.) If you don’t know to look for them, these clauses are easy to miss in a large franchise agreement.

Unfortunately, some franchisor sales representatives are able to use the integration clause as a shield for fraud. That “great guy” who made promises of franchisor support and monetary success probably received a hefty commission from the sale. Further, he most likely knew that the franchise agreement itself contains no such promises – and that, by signing it, you were inadvertently agreeing that his words were meaningless. Of course, you can raise his fraudulent behavior as a defense (and a counterclaim) in the litigation, but fraud based on oral promises is extremely difficult to prove. Don’t expect the sales representative to admit under oath that he promised you anything.

The good news is that winning is not impossible. As demonstrated in Learning Centers of Central Florida v. Knowledge Points Development Corp., a recent arbitration case in Florida, courts and arbitrators occasionally “get it.” In Learning Centers, the arbitration panel found that a franchisor had made inaccurate oral and written earnings claims in the course of selling two franchises. Not only did the panel effectively nullify the franchise agreements, but it also awarded the franchisee significant monetary damages under an applicable state statute. On the other hand, franchisee victories such as this one are not the norm and come at great expense.

So be forewarned. I’m not suggesting that all franchise sales representatives are shady or that franchise relationships are inherently harmful to franchisees. Many sales representatives are scrupulously honest, and a franchise, when delivered as advertised, is a dynamic model that can serve everyone’s interests. What I am suggesting is that, when seeking a franchise, you should accept the sales pitch for what it is. Listen to what the representative tells you, but also be diligent in your independent research. Learn about the brand and its appropriateness to your geographic region, have a CPA review the financial portion of the Offering Circular, and talk to some of the franchisor’s existing franchisees to gauge their satisfaction. And have an experienced franchise attorney review the Offering Circular and franchise agreement to see what each party’s legal obligations really are. As I said, I’ll be there for the messy divorce if and when it happens. But I’ll be wishing you had spoken to me during the courtship.

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Originally published in The Franchisee Voice, Vol. 11, Issue 5, Spring 2006.