Understanding Your Rights When You Sell Your Franchise
Why your franchisor will want the right of first refusal and what that means to you
Q: I am considering buying a franchise from a large, well-known franchisor and notice that the franchisor has a right of first refusal if I ever try to sell my franchise before my term is up. Is that a standard clause in franchise agreements, and will it impact how much I can get for my business should I decide to sell it? Should I avoid buying this franchise?
A: If you are considering the purchase of a franchise, you are likely to find that most franchisors have given themselves the right to purchase your franchise if you offer it to someone else. Rights of first refusal are common today in franchising. Franchisors insert them into franchise agreements to provide some controls over who can join the franchise system. They also put them in so that they have the ability to acquire additional company-owned locations, or, in the event they think your selling price is a bargain, they can purchase your business to sell to another franchisee at a profit.
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For most franchisees, the right of first refusal means that when you receive a written offer from someone to buy your business, in addition to being able to approve or disapprove the buyer, the franchisor has the right to match that written offer. That means the franchisor has the right to pay you the exact same amount as you were offered and make those payments under the exact same terms and conditions. The language of the agreement, however, may not be that simple. As with everything else concerning the purchase of a franchise, it is important that you have an experienced franchise attorney assisting you in reviewing the franchise documents.
There are times when a buyer will not offer you a cash price for your business. For example, instead of setting a cash price, the buyer's offer might include some property or other noncash asset as part of the purchase price. In that situation, because the franchisor can't match the offer exactly, the franchise agreement may give them the right to appoint an appraiser who will value the business independently. Sometimes, but not always, you may have the right to appoint your own appraiser, and sometimes those two appraisers may have the right to appoint a third independent appraiser. The reason for appointing an appraiser is to give a fair valuation of the purchase price when assets other than cash are offered, or in situations where the purchase price or terms cannot easily be determined.
If it appears that the process of appointing an appraiser and waiting for their valuation will take some time, you're right. It can also be expensive, and you may have to pay the appraiser's fees. (The franchise agreement will specify the process and who pays the costs.) Once the buyer has determined what your business is worth to them, there are usually some negotiations regarding the ultimate offering price. Factors that can impact the offer include the length of time you have left on your franchise agreement and the costs of bringing the location into compliance with the physical and other requirements of the franchise system. Sometimes, the new franchisee will be required to sign the then-current franchise agreement offered by the franchisor. That agreement may contain terms different than you currently have in your agreement, including an increase in the fees you are paying the franchisor. Those factors will usually have an impact on what the final offering price is and may result in an offer that is lower than what you expected.
In the vast majority of purchase transactions, the franchisor's right of first refusal will have no impact on your ability to sell your franchise. You will simply inform the franchisor that you have received an offer to sell your franchise, and while it may have 30 days or longer to make a decision on whether to match the offer, most franchisors, once they have evaluated buyers as potential franchisees, will make their decisions about their desire to match buyers' offers very quickly. However, should the franchisor have made a determination to buy back franchises on a routine basis, your ability to find buyers willing to invest in the due diligence process may become limited because it will tend to stop sophisticated buyers from even considering your business.
While we always recommend to potential franchisees that they contact existing franchisees to discuss the system, when it comes to a franchisor exercising its rights of first refusal, this advice may have limited benefit. Even if the franchisor has historically not operated company-owned locations or acquired franchises when they came up for sale, the franchisor's strategy may change by the time you decide to sell your business.
Speak to your attorney or another advisor about what rights the franchisor has retained in this area. If you think the your agreement's right of first refusal is an obstacle to your purchasing the franchise, talk to the franchisor-and your attorney-about it. See if the franchisor is willing to negotiate a change in your agreement.
Michael H. Seid, founder and managing director of franchise advisory firm Michael H. Seid & Associates, has more than 20 years' experience as a senior operations and financial executive and a consultant for franchise, retail, restaurant and service companies. He is co-author of the bookFranchising for Dummiesand a former member of the International Franchise Association's Board of Directors and Executive Committee.
Kay Marie Ainsley, managing director of Michael H. Seid & Associates, consults with companies on the appropriateness of franchising; assists franchisors with systems, manuals and training programs; and is a frequent speaker and author of numerous articles on franchising.
The opinions expressed in this column are those of the author, not of Entrepreneur.com. All answers are intended to be general in nature, without regard to specific geographical areas or circumstances, and should only be relied upon after consulting an appropriate expert, such as an attorney or accountant.