Why Do Franchisees Sue?
Our expert explains what you need to know to avoid the trap of franchise litigation.
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Q: I've been looking into a number of franchise companies. I'm finding that most of them have had lawsuits with some of their franchisees. Is there a common denominator for why these suits occur, and what can I do to avoid this if I become a franchisee?
A: The sad fact of life is that we live in a litigious society. Many Americans believe lawsuits are a fine method to solve disputes. I know a number of very good franchise attorneys, and they all say litigation should always be a last resort to conflict resolution. They also point out that, in most franchise lawsuits, no one really emerges as a winner. One party may prevail, but the price of litigation, economic and otherwise, is usually much higher than either party anticipated.
There are two common reasons litigation occurs in franchising:
1. When one party to the franchise agreement believes the other is not doing whatever they agreed to do under the terms of the agreement. For instance, the franchisor may initiate litigation for failure to operate the business under the terms and conditions of the franchise agreement, for failing to pay ongoing fees or royalties as specified, for violating the territorial operating provisions of the agreement or for violating noncompete provisions.
A franchisee may initiate litigation alleging that the franchisor has failed to provide the agreed upon support in relation to any aspect of the initial business setup or has failed to live up to the terms of the agreement in relation to ongoing commitments. Franchisee lawsuits often allege that the franchisee was promised something verbally during the investigation of the opportunity that later did not materialize.
2. When either party believes the other is conducting itself in some unanticipated manner that is injurious to its business. For example, franchisees might initiate litigation if they believe the franchisor is opening additional units so close to their unit that the new one will encroach on their business and harm it.
Franchisors may initiate litigation to stop an unanticipated action of franchisees that they consider injurious to their brand, such as hiring topless employees to help draw more customers into the business.
The second half of your question, regarding what you can do to avoid ending up in litigation, is much more important than the first. There are three parts to this answer:
- Research. First, make sure you conduct a complete and thorough investigation of any franchise opportunity before you invest. This sounds so simple as to be trite, but it is vital. Make sure you carefully review all disclosure documents and other material the franchisor delivers to you. Pay special attention to any disclosed litigation history, and discuss the matters with both sides if they're willing to talk to you. Call the existing franchisees and ask them about their experiences resolving conflict with the franchisor. The really good franchise companies all want to avoid litigation if at all possible, and you should get a great sense of their attitude in this area through these calls.
- Get it in writing. Most good franchise companies make you sign a compliance questionnaire before being accepted as a franchisee. One issue this questionnaire always addresses is if anyone promised you anything that varies in any way from the contract you are about to sign. If the answer is yes, do not execute the franchise agreement until you have that promise in writing. This is critical to ensuring you don't end up in litigation later over whether any such promise existed or what exactly the promise was.
- Accept responsibility. An absolute truth of franchising is that your success is not guaranteed. All good franchise systems have very low failure rates (another factor you'll discover in your research). If you get into a system where virtually everyone else is succeeding except you, before you consider litigation, look in the mirror. Many people who start experiencing difficulty fall into the trap of looking for someone else to blame. Instead of doing this, get humble, ask for help and follow the advice of the franchisor to the letter.
I can guarantee you that no good franchisor wants to be involved with you on the basis of either failure or litigation and will do everything it can to avoid both events. This has to be your attitude as well.
Make sure you do your research, so you know you're getting into business with people who have these values. This is your best protection against ending up in litigation as a franchisee.