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. 

The franchisee that owns all 90 Waffle House restaurants in Central Florida has filed Chapter 11 bankruptcy largely to stop the parent company from kicking it out of the 1,600-store system. Northlake Foods Inc., which is controlled by W.B. Johnson, an Atlanta entrepreneur, filed for the bankruptcy court protection in September.  By then, Johnson and his partners in the franchisee group had been fighting one another in court for more than a year.

Waffle House Inc., the Norcross, Ga., company that owns the chain and the rest of the Florida Waffle Houses from Tallahassee across the Panhandle, argues that Northlake’s franchised stores would be profitable had it not been for the way Johnson and his partners split up their personal ownership of assets to settle their own differences.

source

A partner in the law firm DLA Phillips Fox in Australia cites Iowa as an example of what happens when a government over-regulates franchisors.

“We have seen the effects of over-regulation in various countries and notably also the US State of Iowa where the franchising sector shrunk substantially and franchisors deliberately avoid franchising into Iowa, resulting in lost contribution to GDP and job creation. Various attempts were even made to have the 1992 Iowa Franchise Act declared unconstitutional as it is considered to unlawfully interfere in contractual relationships,” Conaghan said.

Is Iowa overreaching?  You be the judge.  You can read more about the drama in Iowa franchise law over the past 15 years here.

Iowa (link to current regulations) has gone to great lengths to protect the franchisee.  Below are examples of the protections:

• restrictions on the franchisors ability to refuse a transfer,
• imposes financial liability on franchisors who permits encroachment that adversely impact a franchisee’s sales,
• restrictions on “good cause” for terminating or not renewing the franchise agreement,
• franchisors cannot require franchisees to sue in another state,
• good faith required in honoring the franchise agreement,
• independent sourcing must be permitted,
• very limited non-competes  after the franchise agreement is terminated, and
• franchise agreement must apply Iowa law

Some of the current political debate in the United States revolves around regulations, which really means imposing rules on private contracts.  Governments must balance regulations with encouraging businesses to operate in your region.  In Iowa, many franchisors simply choosing not to do business there.

Franchisees in Australia beware! A franchisor may withhold consent to transfer a franchise to a 3rd party if it goes against the interest of the franchisor’s known policies and future development plans. Read the case summary here.

When considering whether withholding consent to a transfer is reasonable, a court will assess the reasons advanced by the franchisor against the special nature of the relationship between the franchisor and its franchisees or potential franchisees.

A court will accept reliance on the franchisor’s policies and future franchise development plans. It is necessary to caution that in this instance the franchisor’s policies and plans were well documented and known. Accordingly, a franchisor attempting to rely on an overall system of policies and future development plans will have to ensure that those are documented and known to franchisees.

The ability of a potential buyer to comply with its obligations under the franchise agreement is only one of the factors a court will consider.

In this case, it was common ground that Zupps is a highly respected franchisee but this was outweighed by the franchisor’s broader policy considerations.

Franchisees intending to sell their franchises will be well advised to familiarise themselves with the franchisor’s policies and selection criteria.

Franchisors will also be well advised to document their policies, future plans and selection criteria and apply those objectively and in good faith when considering a franchisee request for consent to transfer of a franchise.

Whilst Justice Douglas clearly followed the likely approach to be adopted by Australian courts, it remains important to appreciate that the outcome will invariably depend upon the facts of each case.

Entrepreneur.com’s Janean Chun posted an article entitled,  Can You Buy a Big Franchise?  The topic seemed interesting so I read it.  The article essentially says you too can own popular franchise brands, if you meet the net worth requirements.  She supports her proposition by interviewing a Subway agent in California as a credible source, where he implies that Subway is a strict selector of franchisees who only work with entrepreurs, not investors.  What a hoot.  Disgruntled franchisees would disagree.

Three Burger King franchisees in Florida found that every word counts in the franchise agreement.Burger King’s franchise agreements mandate operating hours “at a minimum of 7 a.m. to 11 p.m, seven days a week, 52 weeks a year, unless otherwise authorized or directed by BKC or unless prohibited by applicable law.”The franchisees argued that the language only gave Burger King the authority to exempt franchisees from those minimum hours, but not to mandate extended hours.  The franchisor argued the language clearly gives them the right to require additional hours.I agree with the franchisor that the language “unless otherwise…directred by BKC” clearly gives BKC the authority to change the hours of operations.

In the forum, a visitor proposed a question whether a buyer of an existing franchise can renegotiate the lease.  Paul Steinberg as always provides great guidance:

As previously noted, most landlords will not agree to a novation but most leases contain provisions relating to assumption.

Viz the personal guaranty, I have had leases which provide that upon assumption, the incoming tenant signs a personal guaranty whereupon the outgoing personal guarantor is released. Of course, this works only if the outgoing (selling) entity will be a shell after the sale, but if that is not the case then you can tweak the language to achieve the desired result.

If you are the seller and are unable to get a release from the guaranty, you should make sure to have appropriate language in your contract (or addenda thereto) to enable you to go after the purchaser and the natural person/guarantor which stands behind the purchaser. This will avoid the purchaser defaulting and leaving the original guarantor stuck. Of course, this will only work if the defaulter’s guarantor has assets…but judgments are good for many years (depends on state law). At very least, the new (purchaser) tenant will think twice about defaulting.

Inc. magazine tackled this question.

….If the landlord is reasonable,

Go to the landlord and say, ‘We really want to stay here, but we just can’t make it at the rent we’re paying. Here’s what we can afford as a base rent right now.’ And explain how you came up with the figure. Take him through the numbers, and show him why you’ll be able to survive with the lower base rent but you’ll go out of business if the rent remains at the current level. “At the same time, I would make it very clear that you have no problem paying more as your sales come back. One way to do that is by offering to give the landlord a percentage of your gross sales over a base amount that you agree upon.

….If the landlord is NOT reasonable,

Basically, you need to do a hardball negotiation. I’d go to him and say, ‘We can’t make it at the rent you’re charging us, and we’re going to be forced to close the store unless you give us some help.’ Then see what he says. It’s important to understand that you have a fair amount of leverage in this situation. Even if the landlord weren’t facing tenant problems already, it costs him money whenever somebody leaves, in terms of lost rent, broker’s fees to find another tenant, probably some demolition, and so on. My advice would be to hold out for a rent abatement of some sort. I think you have a good chance of getting one. For example, you can probably get the landlord to let you have a rent vacation, which would be preferable to rewriting — and extending — the lease. If you have problems with the landlord, you don’t want to lock yourself into a lease agreement for a period that’s any longer than necessary. You’re better off keeping your options open.

What metrics should you use to determine whether your rent is too high? Some experts recommend targeting any store with negative cash flow, or with occupancy costs higher than 10 percent of sales.

This article provides a very good overview of important provisions and potential traps in franchise legal documents.  (article is from a Canadian newspaper)

Quiznos seems to be in perpetual defeat.  Here is another money-losing franchisee from Quiznos:  

“We can’t make money,” said Quiznos franchisee Marty Tate, who said his Erie, Pa., store leads the region in sales. Mr. Tate, who is not part of the lawsuit, said 40% of his sales go directly into advertising, royalties and food for the next week. He added that three of seven locations in his county have closed in the past year. Mr. Tate said that when his contract expires next spring, he will open his own independent store.

Advertising funds are always somewhat of a mystery. Typically, the franchisee will pay about 5-8% into an advertising pool that is supposed to be leveraged across all applicable markets. Unfortunately, there is often not as much bang for the buck as the franchisor would like you to believe, particularly in the creative production and media buys. Quiznos example:

Then there’s the issue of advertising. Quiznos’ agency is Cliff Freeman & Partners. According to TNS Media Intelligence, the chain spent $83 million in measured media in 2007 and $55 million in the first half of 2008. Despite the increase, many franchisees said that they rarely see their own ads, and most say the work isn’t memorable. (By comparison, Subway spent $361 million in during 2007, according to TNS.

“The last good Quiznos commercial was Baby Bob, and that was 2004,” said Mr. Tate, who said he’s complained to executives about the creative. “I would challenge anyone to remember the last Quiznos ad they saw.”

Source

Starbucks plans next week to launch warm sandwiches, called Piadini, on artisan breads filled with sausage, egg and cheese or Portobello mushroom, spinach and ricotta cheese.

….

He says about 30% of McDonald’s U.S. business comes from breakfast, and credits breakfast with “a majority of McDonald’s growth in the last two to three years.”

I thought I read they were ending the warm English-muffin based egg sandwiches. Appaprently it was all a ruse.

“We are not reversing our decision to replace the breakfast sandwiches. Rather we are continuing to evolve our food offerings,” says a spokeswoman. “We have found small ingredient changes that address the aroma issues of our current breakfast sandwiches, and have implemented these already.”

The company says it recently changed the kind of cheese it was using in its warm breakfast sandwiches to neutralize the cooking smell. Starbucks has ovens in about 3,000 locations and plans to add them in 800 more stores. Over time it wants ovens in 90% of its stores, according to Michelle Gass, the company’s senior vice-president of marketing.

Dream Dinners is an example of good idea but profit challenged business model.   It’s just too expensive to attract and retain customers.

A Forbes article looked through the Dream Dinners FDD from the state of Washington, and focused on the required audited financial statements.

As of Dec. 31, the company boasted $2.9 million in assets, against which it carried $3.4 million in liabilities. (Such negative book value implies that if Dream Dinners were unwound today, shareholders wouldn’t get much.) That’s a snapshot, but here’s a trend: Last year, the company lost $628,000 on $7.5 million in sales; compare that to 2005, when it earned $928,000 on sales of $4.5 million.

….

Typically, new business concepts need up to five years to season before they can be franchised successfully. Dream Dinners–along with its next largest competitor Super Suppers, now with 165 stores–both began franchising in less than two years.

Franchisees accused the franchisor of false promises and unsubstantiated financial projections.

A major point of contention has to do with rosy promises Dream Dinners seemed to have made to its franchisees. Under the Federal Trade Commission’s franchise law, franchisers are not permitted to make “predictions” about franchisees’ financial success–unless they do it in the Uniform Franchise Offering Document, which typically contains a host of disclaimers.

Dream Dinners “totally disregarded these regulations,” says Garner. It not only posted financial projections on its company Web site, he says, it also put them in a Power Point presentation given to potential franchisees.

Jennifer Hemann, a former Dream Dinners franchisee in Maryland and one of the plaintiffs in the suit, alleges that she was shown that Power Point presentation–which included estimated profit margins for a given volume of customers–when interviewing with the founders. “They told us, ‘Our lawyers said not to show this to you, but if you write fast, you can get it all down,'” she says…

The slides, provided by Garner, present some tantalizing figures: Allen and Kuna projected that, at 187 customers per month, a franchisee could expect to earn $75,400 in profit annually, or 18.9% of total revenue. On the high end, at a quoted 328 customers per month, net profits jumped to $163,300, or 23.3% of sales. The estimated distance customers would be expected to drive: two to five miles. Allen and Kuna insist that “the figures were realistic and based on the actual performance of stores.”

The owners look innocent and reliable enough, eh?  On face value and blind trust, I would be tempted to believe Allen and Kuna.

Meal Assembly Watch has an insightful 5 Ways to Save Dream Dinners.

I have acted as general counsel to franchisors in my law practice.  From what I have observed, most smaller franchisors do not have experienced managers.  This inevitably turns growth sloppy by allocating too many resources and cash to new franchise sales.  Marketing programs for their franchisees and brand/product development suffer.  Inevitably, the franchise sales process is much longer and more expensive than projected, and ends up monopolizing the franchisor’s time and money.  Sometimes this get worked out (McDonald’s), and sometimes it doesn’t (Quiznos).

Why do many franchisors tend to reduce their holdings of company owned stores?  To stabilize earnings from same store sales swings.

Safety In Franchisees

For franchised concepts, sales are diffused throughout the entire system, with the franchisor, or parent company, taking a little off the top for themselves in the form of royalty payments. Costs are also shouldered by the franchisees.

The difference between franchisee and company-owned models is evident in the effect fluctuations in same-store-sales, a closely watched industry metric, have on earnings.

At Darden, for example, each percentage point in same-store sales accounts for a roughly 14-cent swing in earnings per share, or roughly 5.1% of annual earnings, according to Larry Miller, restaurant analyst at RBC Capital Markets Inc. Compare that with McDonald’s Corp. (MCD), the fast-food giant that owns a little over 21% of its more than 31,000 stores, which sees EPS move about six cents, or 1.7% of annual earnings, for each percentage point change in comparable sales.

The relative isolation of franchise concepts from same-store-sales swings is one reason why investors have flocked to place their money in companies like McDonald’s, whose stock is up about 29% over the last 12 months, and Burger King Holdings Inc. (BKC), which owns about 12% of its roughly 11,500 stores and whose shares are up almost 9%.

“Right now, people are crowded around the defensive investments,” Miller of RBC said. Comparatively, Darden has lost more than 27% over the previous 12 months, while its casual-dining competitor Brinker International Inc. (EAT), owner of Chili’s Grill & Bar and others, has lost nearly 31%.

To be sure, the mix between franchisee- and company-owned stores is far from the lone factor affecting stock performance. Also contributing to that is a penchant for consumers to “trade down” and eat at fast-food joints rather than sit-down chains.But several chains in recent years have taken measures to transfer some of their company-owned stores off their books. DineEquity Inc. (DIN), formed after the merger of Applebee’s International Inc. and IHOP Corp., is re-franchising its Applebee’s locations, selling them off to investors.

Brinker has also said that its near-term focus will be less on company-owned restaurants, which make up a little more than 55% of its 1,600-plus eateries.

I’ve become much more interested lately in the study of Customer Experience, a rapidly growing field especially in retail and restaurants.  Every touch point with the customer, both before, during, and after the visit,  impacts the customer’s decision to buy.   In franchising, the customer experience is mostly defined by the franchisor, with only minor execution responsibility for the franchisee.  The store layout, marketing, the parking lot, the type of flooring, the web site, the lighting, the registers, employee training, customer service processes…all contribute to the customer experience, which in turn, contributes to repeat and referral sales.

Understanding the elements that make a customer experience successful is critical when evaluating a franchise opportunity.   Before you can evaluate it, you need to understand what makes a good and bad customer experience.  Learning and keeping tabs on the trends in customer experience is easy with blogs.  Here is a list of 36 blogs in the area of brand and customer experience.

Well, you have to go to Australia to buy these Pizza Hell franchises.

Hell has been torture for Matt Blomfield – so he’s auctioning his $830,000 Auckland store for a $1 reserve.

Mr Blomfield, a Hell Pizza franchisee, is so fed up with the New Zealand owner TPF Group’s handling of the business that he’s willing to take a loss selling up his five stores.

“I just want to get the business sold, pay all the bills and move on with my life.”

Why is this business model not making money? Here are potential reasons from the article:

The Herald has also sighted emails from franchisees complaining of the lack of support from TPF, the high cost of ingredients – which they can only purchase from TPF’s own supply and distribution operation – and what they say is unsatisfactory marketing.