Here is a partial list of franchisors that have filed bankruptcy, or are reported near filing bankruptcy recently.

• Perkins
• Marie Callender’s
• Old Country Buffet
• Real Mex Restaurants
• Giordano’s
• Cork and Olive
• Dial-a-Mattress
• Bally Total Fitness
• Friendly’s
• Souper Salad
• Sbarro
• Dippin’ Dots
• The Little Gym
• Fatburger (A little controversial -Fatburger parent company not part of bankruptcy, but the two subsidiaries accounted for 72% its total revenue in 2008. The bankruptcy came under pressure from G.E. Capital Business Asset Funding, which Fatburger owed $3.9 million for defaulted loans.)
• Mrs. Fields / TCBY

A bit older bankruptcies.  It shows that some brands can recover quite well, especially Denny’s, Day’s Inn, 7-Eleven and Church’s Chicken:

• Bennigan’s – 2008
• Baker’s Square – 2008
• Roadhouse Grill – 2007
• Ground Round -2004
• Boston Market – 1998
• Denny’s – 1997
• Church’s Chicken – 1991
• Sizzler’s – 1996
• Krystal – 1995
• Day’s Inn – 1990
• 7-Eleven – 1990

WorldWide Papa’s is going public on the heels of opening up its 5th store in Russia. But, there are people who claim to have invested with WordWide Papa in Russia but were ignored by the company once they received the investment. The whole story isn’t here, but a company that fails to communicate with its investors in a respectful manner must be avoided.

I’ve seen a lot of investment fraud as an attorney, and I still am amazed at how often folks will steal from people they know.

I just finished negotiating a commercial lease for a restaurant and thought this would be a good opportunity to relay some real time advice on the topic.

1. Everything is negotiable in a lease agreement.  You simply have to ask for it in a sensible and compelling manner.  But just because everything is negotiable doesn’t mean you should try to negotiate everything.  Pick your battles, and accept some reasonable offers.
2. When you’ve been emailing red-lined lease drafts back and forth with the landlord and you’ve reached a stalemate on several key issues, schedule a face-to-face meeting to hammer out the rest.  It will usually help drive things to completion.
3. Be reasonable.  Don’t try to hammer the landlord on every aspect of the lease.  For example, if the price per square foot is reasonable compared to the market, then offer to pay the full rate and focus on other things like build out assistance, CAM, start of lease payments, hiatus of lease payments for remodeling, personal guarantees, etc.  Some landlords hold dear the price the receive per square foot but will heavily negotiate many other things.
4. List everything in an exhibit what you will take with you at the expiration or termination of the lease, or the landlord will claim it as a permanent fixture or improvement and not let you take it.
5. Most parties routinely start a lease negotiation with a Letter of Intent (“LOI”) to hammer out the big details like pricing, tenant improvements and the like.  A minority of other will recommend not starting off with a LOI, such as the self-proclaimed “Lease Coach” who touts his $1k-$7k services at the National Restaurant Association trade shows.  What’s my opinion?  In a perfect world I’d prefer starting out with the lease but I don’t think in the end it really matters whether you start negotiations with an LOI or lease.  Either way your negotiating the same details.  If the landlord insists on an LOI to start things off and you refuse, the landlord will view you as a pain-in-the-butt difficult tenant and he will be less likely to make concession on your lease demands.  Landlords will definitely make extra concessions for tenants they like and trust.
6. Support your reasonable requests with research.  For example, if you are attempting to lease a shell with a dirt floor and you are asking for a vanilla box plus $35/sf of tenant improvement (“TI”) money for a new build out, then have comparable offerings from neighboring landlords.  Often the landlord doesn’t know what the competition is offering to lure in tenants.
7. Economic Abandonment.  Include an out in your lease that gives you the option to accelerate the termination of your lease upon 60 days notice if the trailing twelve months sales are below a certain amount (i.e. $375,000).   This is a huge benefit and basically gives you a way to end the lease early if sales aren’t good.  I’ve seen several tenants do this like GNC and I think it’s a great idea.
8. Vanilla box is a generic term.  Always define it very specifically and list exactly what you want the landlord to provide in the vanilla box – ADA bathrooms, size of hot water tank, plumbing issues like size of water line and PSI, separately metered utilities, minimum 4-inch concrete depth with 4000psi strength and termite treatment, emergency lighting, electrical and HVAC details and capacity (i.e. 1 ton of A/C per 200sf), tap and meter fees, drop ceiling specifications, fire alarms up to code, electrical J box for outdoor sign, lighting, etc.
9. Have your architect inspect the premises before you finish the LOI.  Make sure the ingress/egress comply with the state code or you may need to install additional exits.  Make sure the square footage provided by the landlord is actually square footage that is usable by you and doesn’t include pillars, angled corners, etc.
10. Always try limit your personal guarantee as much as possible.  You never know what can go wrong, even things outside of your control like a war, natural disaster, or 10 new competitors within a few blocks.   If they landlord insists on a personal guarantee for the entire lease, try to ask for just the initial 5-year or 10-year term, or if you have the cash offer to pay an extra deposit that will be refunded in a year or two in exchange for a shorter personal guarantee.
11. Pay attention to insurance requirements.  There are some things that are cheaper for the landlord to insure as a rider to his insurance than you.
12. Possession Date.  This is the date you will have the right to start building in the space.   If the landlord is performing some build out on the space for you, make sure the landlord gives you sufficient notice such as at least 4 weeks so you have time to get your general contract organized and ready.
13. If parking is on site, make sure it is enough. Try to negotiate your own dedicated parking spaces.
14. Exclusivity is a big deal.  Can the landlord rent to your competitor?  If the landlord won’t grant you an exclusive (i.e. Deli sandwiches for Jimmy Johns), then ask for an option to terminate the lease or get an automatic reduction in rent if a direct competitor moves in.  Often it will be defined as someone generating more than 10% of sales from “ice cream” if it is an ice cream exclusive.   But, be careful and make sure terminations are not automatic but optional for the tenant or tenant can easily remove you by letting a competitor move in.
15. Landlords can be sneaky and unethical.  If they see a successful pizza shop in their shopping center, a leasing manager may want his lazy son to open up pizza shop there and thanks to you proving the concepts work in that spot, he’ll figure out how to get you out of your lease quickly.  What will automatically terminate the lease?  What are breaches and how are they cured?  A favorite method is using a failure to timely notify the landlord within the Notice Period of your intent to extend the lease for another term.

You’re a franchisee and your financial and operational problems are snowballing out of control.  The result is you’re not operating in compliance and you’re late on payments to the franchisor, and the franchisor decides that you need to stop operating.   How does the franchisor shut down your store using the courts?

See Krispy Kreme v Satellite Donuts (franchisee)

Test time!  Is the following non-competition agreement enforceable?

“Frank, a Jimmy John’s franchisee, hired his nephew, Nick, to begin working at his Jimmy John’s franchise in Ohio.  Three months after Nick started working, Frank realized that Nick never returned the noncompete agreement he gave Nick during their initial discussions about the job.  The non-compete agreement states that Nick is prohibited from participating in another sub shop within 15 miles while employed and for two years following employment.

Frank has trusted Nick with recipes and procedures that are proprietary and trade secrets of Jimmy John’s, so Frank wants to be sure his entrepreneurial minded nephew doesn’t get any funny ideas about starting his own neighborhood sub shop.

When Frank approached Nick about signing the non-compete agreement, Nick said he forgot and promptly signed and returned the agreement to Nick.  Two months later, Nick quits to open up Nick’s Original Gourmet Subs a few blocks away.  It’s modern decor and authentic rocker vibe is attracting Frank’s customers away, and Frank’s sales drop 40%.   Frank sues Nick for breaching his non-compete agreement.  Who wins?

Hint:  The issue is whether an employee’s continued employment is sufficient consideration (is it enough benefit) for the employee to make the agreement enforceable.

The short answer is… it depends what state you are in.  In Ohio, it would be enforceable.  In Washington, South Carolina, Colorado and Minnesota, the non-compete agreement would not be enforceable because continued employment IS NOT sufficient consideration, courts require more benefit such as a pay raise.  In Illinois, the outcome is uncertain.  Illinois courts have held that continued employment for a “substantial period of time” will constitute sufficient consideration.  The length of time that the employee remains on the job, along with the manner in which the employment ends, are relevant factors for Illinois courts to consider when examining the validity of afterthought covenants.

In the above example, not only is Frank going to have a tough time stopping Nick, but Frank likely violated his franchise agreement which has it’s own set of ramifications.  So the lesson is don’t do casual hires!   Seemingly minor legal oversights can sink you.

The marketing function performed by most franchisors can mean the difference between a flat year-over-year sales, and 13% year-over-year decrease in sales.   For Pizza Hut’s largest franchisee, NPC, that difference in sales a massive amount of money.  Hypothetically, if the average Pizza Hut does $1.5 million in sales, then we are talking about a $195,000 difference per store.  With 1,150 stores, we’re talking about $22.4 million.  That’s a large distribution check for the owners to miss out on!

Burger King franchisees are suing their franchisor over being forced to price the double cheeseburger at maximum of $1.  Franchisees’ problem is that it costs more than $1 to make and sell.  I’m sure Burger King corporate response to the loss argument is that the total average sale involving the $1 double cheeseburger turns a profit, because on average people also buy at least a drink and fries.

A former franchisee of Pizza Pizza in Ontario lost his franchise for allegedly falling behind on payments to the franchisor.  This whole relationships seems to have gone mismanaged by both sides.  The franchisee wasn’t keeping good sales records and delivery drivers were impatient with customers, and the franchisor let bad practices continue for too long.

http://news.guelphmercury.com/News/Local/article/524725

source: USA Today

Which donut hole do you prefer, the “A Hole” or “B Hole?”  That is ruffling feather of some franchisees.

Unfortunatley, there is not much the franchisees can do about it legally.  Franchisees can only voice their opinion, sometimes it works:

Burger King recently acquiesced to franchisee pressure to tone down its advertising. In the spring, consumer groups and franchisees said that a kids meal with a SpongeBob SquarePants cartoon character giveaway was too sexy. In the ad, women with square derrieres dance to Baby Got Back. Same-store sales for Burger King are due at the end of the month, but on Monday, its largest franchisee reported a 5.5% sales drop in the quarter.

Franchisors love to sell multi-unit development agreements, but some of the reasons may not be so obvious.

• Multi-unit franchisee typically pre-pay a portion of the franchise fees for each potential location.  Similar to a non-refundable downpayment.  Lately, many franchisee haven’t opened their additional locations or have slowed the opening pace, but the franchisor still keeps their pre-paid franchise fees, which is typically $5,000 – $15,000 per location.  For example, if a franchisee signs an agreement to develop 10 units, then he may pre-pay a franchise fee of $10,000 per unit, or $100,000 for the rights to open 10 units.  He still would pay the remainder of the (oftern discounted) franchise fee as each location is opened.  The Development Agreements typically set a timeline for openings, and if you don’t keep to the schedule which is often opening at least one per year, then you lose your pre-paid franchise fee.
• The parties are negotiating one franchise and development agreement rather than a new agreement upon each new opening.
• Concentration of stores in one small area will help franchise sales in neighboring areas
• Generally multi-unit buyers have more reserve cash, so stores are less likely to fail from lack of short-term capital.
• A multi-unit franchisee is more likely to honor their penalty charges for closing a unit, compared to a single unit franchisee who has less assets.

For those looking to familiarize themselves with franchise agreements, this checklist from the Jacksonville, Florida Chamber of Commerce provides a good start. 

In the United States, resale price maintenance (RPM) is illegal under current U.S. Antitrust laws. In Japan, the Fair Trade Commission’s ordered Seven-Eleven Japan to end its refusal to allow franchise stores to discount bento boxed meals and other food items when the food is close to expiration. This will force all convenience store chains in Japan to review their policy of fixed prices for such products.Hat Tip: Chris Conner @ FranCorp’s Blog 

There has been a lot of talk lately, from Joel Libava’s Franchise King blog to recent MSNBC article, looking at whether 401(k) retirements savings should be used to fund a new franchise.  Many franchisors for obvious reasons like this idea, such as Westshore Pizza & Cheesesteaks who focuses their sales pitch as a great 401(k) investment.Use 401(k) money to buy a franchise?  My legal and financial opinion is almost always a NO!  It is too risky to gamble your needed retirement funds in a franchise.  If you need to tap your 401(k) to buy a franchise, you cannot afford to buy a franchise.  If your entire retirement life is already FULLY funded and you have plenty of cash, then use your excess cash for the franchise opportunity.

Professional investors always take a little cash off the table, and your 401(k) is what you took off the table.   Keep it there, don’t risk it away.  You could easily lose ALL your money in a franchise, but you couldn’t lose all your money in a 401(k) even if you tried.  Additionally, a single unit franchise will almost certainly not make enough money to payout and match a six-figure retirement account in less than a decade.

Tax and Match Advantages – Big DifferenceIs 401(k) a good investment in the first place?  YES!  Since your 401(k) investments are done with pre-tax income, you are saving about 30% more than you would have with after-tax income.  Plus, an employer match will nearly double the money that goies into your 401(k) than if you just invested the income from your final paycheck.  Upon retirement, you can control the 401(k) withdrawals to minize income taxes.  Even if the employer is not matching, the certainty of pre-tax investing is powerful because it is taken out automatically, but once the paycheck hits your bank it is much more likely to be spent rather than invested.

Quiznos is helping franchisees renegotiate leases at no cost to the franchisee. Good move.

Since the teams have been in operation, Quiznos has negotiated more than 40 leases thus far, with an average reduction of 15-20 percent in lease payments

Here is one franchisee’s experience in the press release

Thomas Mihailovich, a franchise owner in Rochester Hills, MI, participated in the lease renegotiation program in late February. Quiznos and a third-party team worked with Mihailovich and his lessor to arrange a reduction in rent of more than 20 percent, a cost savings of $50,000 over the term of the lease.

“I began the process and within one week I was saving nearly $500 per month on my rent,” said Mihailovich.

How do you renegotiate a lease?


If you are currently leasing a space for your franchise and want to renegotiate the lease, you do have a few leverage points. First, the landlord doesn’t want to lose a tenant because it will usually mean unrecoverable expenses and vacant space for a period of time. Second, along the same lines, a long-term stable lease makes landlords smile, so offering to extend or renew a lease for a longer number of years is very attractive, even at a reduce price per square foot.

Here is a sample approach. Find another space nearby that fits your needs equally well and is less expensive. Then approach your landlord and ask him to match the rent or you intend to move. See what the response is. From that point, ask permission to sublet. Depending on how long you have on your lease, ask also offer to sign a longer lease in exchange for reduced lease payments.

Getting the assistance of a real estate broker or better yet an attorney is usually well worth the money in renegotiating a lease.

Here is an insightful article with examples on the subject.

Australian franchisees have similar gripes to U.S.A. franchisees – disclosure issues and the renewal rights in agreements for franchisees.

It has not always been so crystal clear when a franchise chain collapses and there is an urgent need to clarify the legal rights, obligations and ranking of franchisees in a liquidation or sale of the business by receivers.           

The article brings up an interesting ethical question:  Is it legal or ethical for Franchisors that are at the brink of collapse to recruit new franchisees to their stricken businesses even as they face the very real prospect of bankruptcy?   

In my opinion, the legal and ethical answers are similar.  The franchisor must not lie or mislead in the sales process and it must disclose risks accurately, but within those boundaries it should do what is necessary to survive. 

Does a cash starved franchisor have tell a prospective franchisee – “We need to sell 10 more franchises this year or we will go bankrupt and you will lose your license” ? No, I do not believe that is or should be a requirement because many businesses live on the edge of financial survival.  But, if the franchisor knows that bankruptcy or winding down the business is a 100% certainty, I do believe the franchisor should ethically stop selling franchises, inform the franchisees of the situation, and work out a sale of the assets in the best interests of all stakeholders.  Franchisors who sell a few more franchises just to pay off some bills or salaries as they wind down the business are indeed unethical.

Being a franchisee in a larger system does have advantages if the franchisor goes bankrupt.  The likelihood is very high that some group will acquire the assets and enable the franchisees to continue operating.  Or, worst case, the franchisees themselves could come together and buy the franchisor’s assets out of bankruptcy.   Small bankrupt franchisors have such little book and IP value that there typically scant interest from investors.

How is a franchisee to know if the franchisor is near its end? The only sure way to know is to analyze at the franchisor’s financial statements such as it’s cash flow and balance sheet. If you don’t know how to do that, HIRE AN ATTORNEY OR ACCOUNTANT/FINANCIAL ANALYST TO GUIDE YOU!

Ontario attorney Michael Webster blogged on this franchisor bankruptcy issue last year. 

Rick Romell from the Sentinel Journal in Milwaukee called me to discuss the Meal Prep industry a few weeks ago.  He produced an informative article which can be read here.

Burger King complained to the National Advertising Division (NAD) of the Council of the Better Business Bureau regarding “Wendy’s, Always Fresh, Never Frozen” burger claim. Long story short, Wendy’s substantiated their assertion. Fresh is possible, Burger King.

Former Petland Inc. franchisees are suing the Chillicothe chain for fraud, alleging the stores are doomed from the start – and the company knows it….Melick estimates the average investment per franchisee totals up to $250,000, and the firms have been in contact with more than 40 franchisees.

The lead plaintiffs claim Petland fraudulently induced them to start a pet store when it knew, or should have known, the shops couldn’t succeed. A major allegation from franchisees, Melick said, is that pets supplied to the stores through Petland’s vendors were sick or dying.

Melick compared the franchisees’ problem to a restaurateur opening a new business and sending dozens of people to the hospital for food poisoning in its first weekend.

“For a large group of these franchisees, sick puppies is a problem when they open,” he said. “You just can never recover.”

source

You’ve probably heard that a couple of teenage female KFC employees took a bath in the big kitchen sink and took pictures.  I’m sure the franchisee was outraged to wake up and deal with this PR disaster (not to mention the parents of the kids).  A news crew was outside showing the pictures to customers who unanimously said “GROSS!”  Ditto…see image to the right.   The article mentioned that zee fired the employees. 

A group of Geeks on Call franchisees are suing their franchisor for essential competing against with an telephone/online service.   I’m sure the FDD permits this.source

All of the suits were filed by the counsel for a recently formed franchise association. The suits, all substantially identical, claim that Geeks on Call is responsible for a financial downturn allegedly experienced by the Plaintiffs. The suits point to the recent introduction of CalltheGeeks.com as a cause of diminished revenue.

CalltheGeeks.com, remote technical support, is not offered in areas currently served by franchises. Company records show that many of the franchisees who filed suit are, in fact, showing year to date revenue exceeding prior year revenue.  Current economic data indicates that the small business community is choosing to repair rather than replace computers, a trend that bodes well for our franchisees within the IT sector. Unfortunately, rather than working with the Company to seek out and capitalize on this opportunity, these franchisees chose to file suit.

Mark Baumgartner, General Counsel for Geeks On Call Holdings, Inc. stated “the allegations in the Complaint are without merit. Numerous Plaintiffs had previously been notified that they were in breach of their franchise agreements. We know that many of these Plaintiffs have been more focused on disparaging the Company than on building their business. Unfortunately, their disparagement harms the Company and the Geeks on Call franchise community as a whole.”

It’s always hard franchisees to imagine the nice salesman’s boss would ever dilute your sales by competing against you, but it happens all the time. If you see a clause permitting the franchisor to compete with you even though they won’t open a location within your territory, negotiate that point before signing!!   Insist on restrictions on how they sell in your territory, even when the zor claims their lawyers require that language.  Ask for a percentage of sales generated within your territory at the very least.I’m not surprised the franchisor chose to not own a single store. For a different perspective, here is an apparently happy franchisee.