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The Future Of Franchise Laws

A look ahead at franchise legislation that could be considered by the new Congress
February 5, 2001
URL: http://www.entrepreneur.com/article/37332

Washington, DC, has settled into the groove of governing again, and that may mean new life for franchising legislation. This session, Congressmen Howard Coble (R-NC) and John Conyers (D-MI) plan to reintroduce the Small Business Franchise Act. Among other things, the bill would require franchisors to inform current franchisees of any expansion plans into their territories that might affect their businesses. It would also enable franchisees to pursue encroachments in federal courts, taking the burden of initiating legal action off the federal government.

As president and founder of the American Franchisee Association, Susan P. Kezios has pushed hard for the bill, arguing that it would cause franchisors to behave more reasonably and fairly. "There's nothing in the Coble-Conyers bill that doesn't already exist in some state statute, " Kezios says. "Even the encroachment provision comes from Iowa. The duty of good faith came from Washington state. The transfer provisions came from New Jersey. It's not like we created something out of thin air here."

When it was introduced in 1999, the Coble-Conyers bill never even made it to the House floor for a vote. David J. Kaufmann, a senior partner at New York City law firm Kaufmann, Feiner, Yamin, Gildin & Robbins LLP, which represents some of the nation's largest franchise systems, says it won't go much further this year. "When it comes to spouting reasons for supporting ill-conceived legislative proposals like the Small Business Franchise Act, franchisee advocates are frequently in error but apparently never in doubt," he says.

Recently, we asked Kezios and Kaufmann to talk with us about the prospects for franchising legislation in the new Congress.

Current Franchise Laws

Franchise Zone: Do current franchise regulations provide sufficient protection to franchisees?

David J. Kaufmann: Before they sign any contracts or pay any money, franchisees are given all the information they need to make informed and intelligent investment decisions regarding whether to proceed [with] acquiring a franchise. These franchise laws have achieved two goals simultaneously and delightfully. One is that federal and state franchise disclosure laws have driven out criminals and organized crime from the franchise marketplace. Number two, they've made prospective franchisees informed investors who understand exactly what they're going to get, what they're not going to get, what the fees and charges are, who the franchisor is and what his management is like, and what the track record has been.

The second category of laws on the books are so-called franchise-relationship laws. I don't think franchise relationship laws do anything in particular to benefit franchisees. They do serve as a fertile ground for litigation, but at the end of the day, franchisees don't make money through litigation. They make money through operating successful units.

Susan P. Kezios: There's a patchwork quilt of very few state laws and a federal rule. The emphasis of the federal rule is mostly pre-sale-what happens to you before you buy the franchise so you're not defrauded in the pre-sale. The majority of the problems that our franchisees encounter are post-sale, after you buy the franchise. The federal rule doesn't deal with any of those issues. There [is] basically nothing out there to provide a post-sale standard of conduct between the [franchisor] and the franchisees.

What State Laws Have To Teach Us

FZ: What can you learn from Iowa's franchise relationship laws?

Kezios: David Kaufmann's friends have bitterly fought the Iowa franchise act. Despite that fact, franchising is flourishing in Iowa. If you look at any state that has some state relationship legislation, and, if it's adjacent to a state without any, there's not a mass exodus of franchisors from the state with the legislation into a state without. David Kaufmann and the lobbyists that work for the franchisor side of the fence have no evidence that legislation harms franchising.

Kaufmann: I disagree entirely. First of all, there is hard evidence that franchise activity in Iowa subsided significantly as a result of Iowa's enactment of its franchise-relationship law. Secondly, with due respect to the citizens of Iowa, Iowa is hardly representative of some of the more populated and economically active states where such legislation would be absolutely ruinous. Thirdly, if franchisee advocates would stop advancing shrill and wholly unsupported sob stories and instead avail themselves of the sophisticated studies and other data that exist regarding market penetration, market saturation, advertising curves and similar econometric information as to what makes successful chains successful, they would swiftly withdraw their oft-repeated suggestions that franchise relationship laws are not extraordinarily harmful.

FZ: Will having George W. Bush as president affect the outcome of this bill in the new Congress?

Kaufmann: I'll be as blunt as I can on this one. I don't think this bill is going anywhere. I don't think this bill has any chance of success whether the Congress or the president is Republican, Democratic or wholly independent. The simple fact of life is that [franchisees] are making a lot of money, have made a lot of money and will make a lot of money, and [that success] can only be jeopardized by heavy-handed government legislation that can turn franchising into an operation as efficient as the U.S. Postal Service.

Kezios: I think that might be wishful thinking on Mr. Kaufmann's part. Right now, the fact that the Senate is so evenly divided-50-50-means this could be the best chance ever for franchisees to move a piece of bipartisan legislation through the Senate.

The Encroachment Issue

FZ: One of the big issues between franchisors and franchisees has always been encroachment. Can you talk about the encroachment provisions of the Small Business Franchise Act?

Kezios: If your loss of gross revenue is due to encroachment, you're going to see it the very day, the very week at the latest, that the other unit opens up. The Coble-Conyers bill doesn't say you can't encroach. It says, yeah, you can encroach, but if you encroach and the harm to the franchisee is 10 percent or greater of their gross sales, then you've got to pay money to the franchisee over a period of time to make him whole.

Kaufmann: The encroachment provisions of the proposed Small Business Franchise Act amount to nothing more than a truly selfish power play by existing franchisees who don't want to see other franchisees share the wealth. If I'm the first franchisee of McDonald's here in Manhattan, clearly I don't want to see another McDonald's restaurant anywhere in Manhattan. It's a totally illogical sentiment on my part. It's totally selfish on my part. Yet if I'm that first McDonald's franchisee in Manhattan, I want to be illogical and selfish, because then I'll get all the business to myself, keep everybody else out, make myself a fortune and inhibit anybody else from doing so. Of course, what that does to the McDonald's system is prevent it from any expansion in Manhattan.

Aside from sheer greed, the encroachment provisions of the proposed Small Business Franchise Act will have absolutely no benefit to any party, franchisor or franchisee. Let's remember something that a lot of franchisee advocates would have you either not know or forget: The reason franchising has proved so successful is franchisors understand, as other nonfranchise chains do, that the name of the game is market penetration, market expansion, economies of scale and adequate advertising curves. To draw customer traffic to your franchise network, you have to have a sufficient number of units in each marketplace to generate enough advertising investment, which will lead vast numbers of consumers to your outlets. It's that advertising coupled with the increased name recognition of a vast number of units in any given market that has accounted for the vast success franchising has enjoyed over the past 40 to 50 years.

What's Missing From Existing Legislation?

FZ: What should franchising legislation focus on that's not already out there?

Kaufmann: I would love to see federal franchise legislation that preempts and, through preemption, negates all existing state franchise relationship laws. The state franchise relationship laws, like the proposed Small Business Franchise Act, are pernicious in their impact upon the logical and profitable operation of franchise networks, both to the franchisor in question and all its franchisees.

Kezios: What is not in Coble-Conyers that should be is something we couldn't get the Democrats or the Republicans to agree on: renewal. When you buy the franchise today and you sign the contract, you ask the franchisor "What happens at the end of the 10 years?" They say "Oh, don't worry. We'll renew you." What they don't tell you is you're not going to be able to sign the exact same contract in 10 years.

Kaufmann: I don't think there's any confusion in the franchise arena, whether by franchisors or franchisees, that at the time of renewal the contractual relationship, and from time to time the franchise system itself, has to be recalibrated to take into account changed consumer preferences, changed demographics, new technologies, new political realities and other developments that have occurred in the years since the original franchise agreement was entered into. We all know, and Susan and those she represents know it as well, that franchise renewal merely means the execution of a new franchise agreement, not the identical franchise agreement that was entered into originally.