A different approach to drafting franchise agreements
I have written often on the subject of the complexity of franchise agreements, and the clear trend over the past four decades to make them even longer and more complex. Why has this trend developed?
I see three reasons. The first is caused by technology. For those of us old enough to remember mag-cards, mag-tapes, and even carbon paper, we have seen an exponential change in technology that has allowed us to produce longer documents with greater ease with the inevitable effect of allowing attorneys to prepare longer documents with less burden. Does this mean that legal fees have gone done down, after adjustment for inflation? Probably not.
And that brings me to the second reason: Protection. To the franchisor, one of the advantages of a carefully crafted franchise agreement is that it will provide more rights and more protections. For example, 30 years ago an arbitration clause might simply read:
"Any and all controversies between the parties shall be resolved through binding arbitration conducted under the rules of arbitration of the American Arbitration Association."
Was this an effective provision? It would undoubtedly send the parties to an alternative dispute forum, with all the attending benefits and burdens, if that is what the franchisor wanted to accomplish. Did it unlevel the playing field in the franchisor's favor, as so often franchisors want to do? Not really. And this observation is what has caused arbitration clauses, like The Blob (for all you old-time movie goers), to swell in size.
Today, arbitration clauses will almost always be several paragraphs long, and I have even seen them two or three pages in length. With the ability to draft longer, more one-sided provisions, and then write and rewrite them, lawyers have, like a child in the candy store, taken advantage of the situation.
Since the franchise agreement is drafted by the franchisor's lawyer 99.9 percent of the time, the "add" goes to the franchisor in this match. As David Kaufmann and I wrote over a decade ago, an arbitration clause gives the franchise lawyer the opportunity to create a whole judicial system. Where will the arbitration be filed? How many judges will there be? What will be the rules of discovery? Will there be motion practice? How many witnesses may be presented? How long will the hearing be? Will there be appeal rights? And what matters will not be arbitrable? Most lawyers have shown a reasonable level of respect toward the complexity of these issues and responded with acceptable restraint.
But the franchisor-favorable provisions are creeping up in size and complexity, and I predict that will probably be the trend, as more lawyers become more paranoid. And the lawyers will also convince their clients, who are often ignorant on this subject, to be mentally so inclined and agree with counsel they need more protection (kind of like being a life insurance agent!). Let's put that hypothesis in the time capsule for five years or so.
A third reason has contributed to this trend, and that is the fear of the lawyer finding himself in the position where the client asks why his document doesn't cover this point or that--and that is a real fear. It can occur in the context of general counseling both pre-sale and during the franchise marriage, and it can come to the forefront, more troublesomely, when claims arise.
Unfortunately, even the longest of franchise agreements cannot cover all possible risks. A 40-page franchise agreement will afford more protection than a 20-page one. However, will the protection be double? What if the agreement is increased to 80 pages? Definitely more protection, but practically speaking, is the increase in the number of trees that have been sacrificed to effectuate this increase in length worth the cost? Nevertheless, as lawyers and their clients discover new risks, they will eagerly take the steps necessary to protect their clients.
I am reminded of the first residential lease I ever reviewed. One provision prohibited the playing of musical instruments or saxophones after 11 p.m. I had always thought that saxophones when used by trained musicians were musical instruments, but I gather that this landlord had a bad run-in with a tenant and found himself in front of an unsympathetic judge who pitied the plight of musicians. Today, of course, with the advent of technology and paranoia of the legal community, that same clause might read:
"After 11 p.m., Tenant shall not, nor shall Tenant permit any other occupant or visitor to the Premises to, utilize any device that would, in Landlord's sole, absolute, and unfettered discretion, interfere with any other tenant's or any other occupant's peaceful enjoyment of his premises, which devices shall include, but not by way of limitation, any musical instrument, including without limitation, any woodwind (by way of example but not by way of limitation, clarinets and saxophones), brass or percussion instrument, or any other device which Landlord, in its sole, absolute and unfettered discretion, may consider a musical instrument.
And that's the short version.
Now, what is the cause of my harangue? Actually, it was not reviewing another franchise agreement of never-ending length, but a challenge from a franchisor client: to produce a franchise agreement shorter than 10 pages. The business reason for this challenge was that the future franchisor had other business relationships with his prospective franchisees, and that affiliation would provide him with sufficient leverage to protect its brand. These other relationships stemmed from distribution arrangements that were short term; product supply was critical to maximize on the value of the franchised service. The distribution agreements were terminable upon 90-day notice. Without the distribution opportunities, the value of the franchise to the franchisee would be significantly reduced and likely abandoned, even if the franchise term had not expired. Stated differentially, through distribution came control over the franchisee.
Why would any person enter into such an arrangement, where investment was necessary but early termination of the arrangement--before recouping the investment--was always a possibility? I honestly don't know, but there are thousands of distribution agreements out there that are either very short term in duration, or terminable upon relatively short notice. I asked my client: Was this arrangement salable? The client's response: Absolutely! There are, however, many comparable legal relations that are susceptible to abuse. Signed a demand note recently? Why would someone borrow money, knowing that it might be repayable immediately after the ink dries?
Returning to the art of drafting franchise agreements, we discovered that this challenge was not that difficult to achieve. There are basic risks inherent in almost all franchise relationships: the franchisee may not pay agreed-upon amounts; the franchisee may take action that damages the brand; the franchisor needs to be able to terminate the agreement if imperfect performance of a material nature occurs; and the franchisor wants a means to put the franchisee on the street if the franchisee misbehaves.
Today's franchise agreements, however, often use a shotgun to kill an ant. The lists of default will include 15 activities, which could probably be condensed into four or so. Are all 15 critical? Similarly, are two pages for insurance provisions necessary? The agreement could simply state that the franchisee must provide certain minimum types of coverage, and the terms, conditions, scope, and level of retentions may be provided in the operations manual. The operations manual is a very useful device to provide a separate forum for addressing issues.
Also consider transfer provisions. I question whether it is necessary to spell out the 10 conditions on transfer we so frequently find in franchise agreements. Have we lost so much faith in the judiciary, and do we have such a fear of overprotective judges that we no longer trust them to determine what is "reasonable"? Consider the following for the franchise agreement:
"Franchisor may reasonably withhold its consent to any direct or indirect transfer of the Franchise. Franchisor shall have a right of first refusal on any direct or indirect transfer. An indirect transfer shall include any interest in a Franchisee which is not an individual."
Does this afford as much protection as the "long form" transfer provision? Certainly not. Is the protection that much less than the long form provides? An interesting question. I would ask attorneys--and clients--to review the reported decisions over the past two decades, as well as their own experiences, and consider how worse off they would have been with a more simplified form of document.
I must confess that I have not yet had the guts to go on the offensive in drafting kindler and simpler agreements. However, this recent experiment in brevity has caused me to question the saneness of the long form. The first franchise agreements for Dairy Queen and KFC were one page. I am not sure I would go to that extreme, but I do think there must be a better and simpler mousetrap out there.
Rupert Barkoff is partner resident in the Atlanta office of Kilpatrick Stockton, LLP, where he heads up his firm's franchise team. He is also a former chair of the American Bar Association's Forum on Franchising.
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