Check Your Franchise Agreement Before You Sell
Franchisees around the country are breathing a collective sigh of relief as the post-recession rebound officially sets in. For many who weathered the economic downturn, earnings have increased, profits are up (thanks to strategic management decisions), and potential purchasers are again lining up to enter the market with finances in hand. And for others, fair market value for the business has reached a point where it may make financial sense to sell, particularly for those who held on to see a better day. But before you make plans to sell the franchise, whether now or in the next few years, there are a few simple steps that you should take to prepare and avoid unwanted surprises. After all, preparation enhances the value of your business; surprises cost money and time.
Re-read your franchise agreement (from front to back)
Since it may have been several years since you last read your franchise agreement (FA), and while you've been busy operating your business, you've likely forgotten - or memory has faded - about many of the provisions and details. The sale of the franchise is one of the commonly overlooked areas of the FA, because, frankly, when you're enthusiastic and excited to start the business, you naturally don't want to think about the end.
The sale of your business involves three parties: you, the purchaser, and your franchisor - and the FA is one of two critical documents, along with the sale agreement, that requires key attention.
First, when reviewing your FA but before entering into sales negotiations with a prospective buyer, you should be able to answer these questions:
- If you are a multi-unit owner, do you have multiple franchise agreements that contain different terms?
- Does the FA prohibit or limit you from disclosing confidential information about your business (and the franchise system) to the potential purchaser?
- Does the franchisor have the first right to purchase your business before outside buyers?
- Do you need the franchisor's prior consent to sell your business to the purchaser? (Often, the franchisor will want to ensure that the purchaser has the proper training and financial/operation capabilities to operate the business in a first-class manner.)
- Are you required to release the franchisor from all claims of liability as a condition to the franchisor's approval of the sale?
- Are there state-specific rights that you have in connection with the sale (e.g., the franchisor's consent cannot be unreasonably withheld if you are in good standing)?
- Are there transfer fees due to the franchisor upon sale of the business?
- Is the purchaser of your business obligated to enter into a new FA - which could completely change the economics of the business for the purchaser?
- What is the remaining duration of the FA? For instance, is there a new franchise period or will the purchaser step into your remaining term?
- Will you remain obligated to the franchisor for the performance of the purchaser after the sale?
- Are you subject to non-compete and non-disclosure limitations post-closing?
Talk to your attorney and accountant (early)
Talk to your attorney about the sales process, and have a non-disclosure agreement in hand to present to the purchaser before you begin negotiations and reveal confidential information about your business. Have this conversation and have the agreement signed before you sign a letter of intent.
Early in the sale process, with assistance of your attorney and accountant, initiate your own "internal housekeeping audit" to identify any potential problems with taxes, pending or threatened lawsuits, employment-related claims, unissued or expired permits and licenses, the physical condition of your building and tangible assets, any disputes with vendors and customers, the terms and duration of your building lease, and third-party consents required for the sale.
Explore whether there are legitimate business planning opportunities that can minimize the state and federal taxes you pay on the sale, and whether there are any state or local withholding obligations that require you to "pre-pay" taxes at closing of the sale.
Even if you are not considering a sale for several years, have your accountant calculate the "net sale proceeds" that you would receive after payment of debts, taxes, and sale related expenses (legal, accounting, and advisor fees). You don't want any surprises after you are locked into a deal.
Finally, know that it is a long and winding road, and while all sales are different, one can reasonably expect the process to take around three months, from signing the letter of intent (LOI) or term sheet through the sale closing date. (This timeframe is after you've done your homework with your attorney and accountant in preparation for putting your business on the market for sale.)
Gleam guidance from other current and former franchisees to learn from their experiences. Decide when you've reached the point in the sales process to have a conversation with your trusted lieutenants about the sale, and enlist their help in assisting the purchaser in the due diligence process. Make sure that you surround yourself with the right team of professionals who understand, respect, and act in accordance with your goals.
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