Franchise Agreement enforcement and recovery procedures

The COVID-19 pandemic and the ensuing economic fallout has put a strain on many businesses. Franchisees and resellers are certainly not exempt from that strain and may quickly accrue considerable debts and fall in breach of franchise agreements or reseller or distribution agreements.

The question for franchisors is whether and to what extent they should adjust their usual enforcement and recovery procedures. There will be a number of considerations that franchisors should consider before deciding whether an adjustment to usual procedures is necessary. Franchisors should use the following as a checklist to assess their exposure to potential fallout from bad debt or franchise disputes and then devise an appropriate revised enforcement and recovery procedure accordingly:

1. Is the economic downturn felt by franchisees or resellers the cause of breaches or non-payment of debts?
2. Are the breaches or non-compliance likely to resolved once economic conditions return to a relatively normal positon or were issues present prior to the onset of the pandemic and corresponding lockdowns?
3. Has any law or regulation been implemented that limits what action can be taken in response to breaches or non-compliance (i.e. for landlords or premises licensors the ‘leasing code’ places obligations on landlords and tenants dealing with the economic fallout)?
4. Is there a material risk of a claim against the franchisor based on lack of good faith or unconscionable conduct? Or would some other legal principle apply? As a guiding principle, behavior that seeks opportunistically to take advantage of the COVID-19 may create a legal risk.
5. Is there a risk of debtors or franchisees becoming insolvent?
6. Does your contract grant you any security interest or a right to make a security interest?
7. Can the franchisor sustain rising debt and a reduction of incoming fees for an extended period of time?

When revising an enforcement and recovery procedure, it will be important to ensure that any temporary concession offered to franchisees, distributors or resellers are appropriately characterized as ‘temporary’ and cannot be misconstrued as a waiver of the franchisee’s, distributor’s or reseller’s liability for future non-compliance with the usual contractual terms. This will be especially important for franchisor – franchisee arrangements where the franchisor needs to preserve the right to breach the franchisee for non-compliance in the future if that non-compliance continues after any agreed concession period. Accordingly, any concessions made should be properly documented in a way that makes clear what has been agreed and the period of time for which the concession stands.

If having reviewed the checklist above you’ve determined that your business needs to revisit its enforcement and recovery procedures, please contact any member of our Consumer Markets and Franchising team to discuss how your enforcement and recovery procedures might be amended. We can assist with drawing up appropriate temporary variations or ‘standstill’ agreements to suspend certain obligations for a period of time as necessary for your network to emerge successfully from the current economic climate.