Using Shared Services Arrangements To Manage Costs During and After Covid-19
As Covid-19 continues to disrupt franchised businesses and affect the global economy, franchisors and franchisees should consider shared services arrangements to spread costs, create efficiencies, and leverage knowledge and expertise across brands. In shared services arrangements, an entity provides generally the same type of services to more than one brand operated by a franchisor and its affiliates; the same applies to franchisees and their affiliates. Examples of shared services for brands include human resources, legal, finance, real estate, IT, training, and sales and marketing.
Anecdotal evidence suggests that shared services arrangements are highly beneficial to franchisors and franchisees alike. In the current economic climate, shared services arrangements may help brands cut costs and remain financially viable. Franchisors and franchisees that implement shared services arrangements now to counteract the present impact of Covid-19 will likely continue to realize the benefits of shared services arrangements long after the Covid-19 pandemic is over. However, there are some risks to consider. The overarching concern in shared services arrangements is to prevent unfair advantage to one brand at the expense of another brand. Here are some critical factors to consider in creating a shared services platform.
Disclosure of shared services arrangement
A franchisor should disclose the shared services arrangement to its franchisees, especially where costs for the services may be passed on directly to the franchisees. Disclosing this information will foster transparency and may avoid legal claims alleging breach of the implied covenant of good faith and fair dealing or tortious interference with contractual relations, based on a franchisee’s objections to the shared services arrangement.
A franchisor would disclose the existence of shared services arrangements in one or more items of its FDD. In Item 1, the franchisor may alert its franchisees that certain services will be provided by an affiliate or by personnel or departments that also service the franchisor’s other brands, especially where such brands offer competitive services. If the affiliate will sell goods or services directly to the franchisee, such affiliate must be disclosed in Item 1. If the franchisees are required to directly use the shared services, disclosure of the arrangement will commonly occur in discussion of fees in Item 5 and Item 6. In fact, such disclosure is required if the franchisee will pay the affiliate directly or if payment is made to the franchisor for the benefit of the affiliate.
For example, a franchisor may use the real estate services of an affiliate designated as an “approved supplier” by the franchisor to assist franchisees with site selection, lease negotiation, and construction. Item 8 should address affiliates that are designated or approved suppliers or suppliers of goods or services that must meet the franchisor’s standards or specifications. Item 11 may discuss shared services in the context of the franchisor’s obligations to the franchisee, particularly if the entity providing shared services will provide those services directly to the franchisee on behalf of the franchisor. For example, if a franchisor conducts franchisee training for multiple brands on a shared services basis, the third party that conducts the training would be described in Item 11.
It is also advisable for the franchise agreement to require the franchisee to acknowledge and agree to the franchisor’s right to delegate a third party to perform services for or on behalf of the franchisor. The franchise agreement may also require the franchisee to acknowledge and agree that shared services may be performed for competitive businesses within the same territory. The franchisor may reserve the right to allocate costs, personnel, and other resources across its brands.
Safekeeping of confidential information
There should be no transmission of a franchisor’s confidential information to a related franchisor for its advantage. Armed with non-public information about a competitor, the brand could have an unfair advantage at the expense of its related franchisor.
Fair and proportional allocation of costs
Because the essence of a shared services arrangement is cost-sharing, much scrutiny will be given to how costs are divided among the brands to determine whether the arrangement is appropriate. The determination of what are fair and proportional costs may vary (e.g., how franchisors split costs for a group media buy), but the costs should be justified and well-documented.
Sharing of customer information
Some shared services arrangements are a vehicle for cross-brand marketing initiatives. Brands have used information about customers and consumer trends and the successes and failures of their affiliates’ marketing efforts to make more-informed marketing decisions. Some brands use customer information to increase cross-utilization of affiliated brands and enhance their affiliates’ customer loyalty programs.
Neighborly (formerly Dwyer Group) owns 25 brands including Glass Doctor and Window Genie and supports the cross-brand sharing of customer information through shared services. Thus, Neighborly’s 4,000 franchisees “get to share customers… which enables users to buy services from its many brands through a [centralized] portal.” Neighborly brands identify customers’ other needs and cross-sell the affiliated brands to “mak[e] life easier for our customers.” While affiliated franchisors stand to gain much benefit from these cross-branding initiatives, the applicability of data privacy laws to this information sharing should be considered.
Avoiding competitive activity
Shared services such as sales and marketing and real estate are more likely to lead to competition between franchisors or franchisees if the proper precautions are not taken to keep the services provided to each brand completely separate. For example, information sharing may lead to a competitive advantage for one brand over another in advertising campaigns.
Shared real estate services may raise concern. United Franchise Group, for example, provides real estate shared services to its brands including Signarama and Fully Promoted. In the FDD for each of these brands, the franchisor mentions that an affiliate and “Approved Supplier” (Franchise Real Estate, Inc.) assists franchisees with site selection, lease negotiation, construction management, store design and layout, and assistance with obtaining building renovation costs. Thus, franchisees of similar businesses in similar territories may find themselves using the same real estate service to lease, construct, and/or build out a location. Competition issues may lead to actionable claims by franchisees if there is evidence that a shared services arrangement led to diversion of business from one brand to the other.
Services such as accounting, human resources, and call centers are largely administrative functions that can be shared without raising much concern. Administrative functions are the low-hanging fruit for a shared services arrangement developed to combat the economic impact of Covid-19. Sharing office space, equipment, management, and personnel can be extremely efficient and economically advantageous. Franchisors may have centralized shared costs (IT, supply chain, accounting) and centralized compliance costs (legal, tax) that can be consolidated without much concern.
For example, DineEquity, owner of IHOP and Applebee’s, has set up an affiliated entity, Dine Brands, to provide support services to franchisees through its Restaurant Technology Support Center (Help Desk). DineEquity has credited millions of dollars of cost savings to leveraging the shared services operating structure across these two brands. Similarly, Yum Brands, which owns KFC, Taco Bell, and Pizza Hut, announced in 2019 that it created two new technology leadership positions within the company to “partner with the global brand divisions to elevate the customer experience and accelerate global growth” in the IT space. The announcement referenced Yum’s “IT shared services team.”
Separation of systems
This can be preserved through a formal shared services agreement or informally through common leadership with different departments to separate the shared services functions. A formal shared services agreement should cover, among other concerns, the parties’ obligations, allocation of costs, nondisclosure of confidential information, ownership of intellectual property, and metrics of success.
With respect to informal separation, some companies have created global support centers to centralize shared services functions and to separate these services from the individual brands’ unique departments. Inspire Brands, which owns multiple brands including Arby’s and Buffalo Wild Wings, opened a shared services center for its brands in February 2018. Inspire shares services across human resources, finance, legal, IT, development, communications, customer personalization and insight, and media.
On the other hand, a franchisor and its affiliates may have an executive oversee marketing across all its brands. For example, Focus Brands’ portfolio includes small and mid-sized businesses such as Moe’s Southwest Grill, Auntie Anne’s Pretzels, and Cinnabon. Focus Brands has a Global Chief Marketing Officer to oversee marketing, advertising, menu innovation, and digital and mobile commerce initiatives across all franchises. Within the marketing department, there are three social media managers, each of whom oversees two brands’ marketing efforts. These informal departmental combined efforts can be applied to multiple shared services functions, such as real estate and franchisee training.
Franchisors and the entities providing the shared services should develop policies and procedures to ensure separation between the brands. They should also create a plan for taking and investigating franchisee complaints related to the services. Individuals employed by the entities providing the shared services should be aware of the risks inherent in shared services arrangements and should be mindful of keeping the systems separate.
Franchised businesses of all sizes are grappling with how to manage costs during the Covid-19 pandemic. The economic benefits, increased efficiency, and improved experiences of franchisees make shared services arrangements an enticing option to consider implementing now, and to continue in the future. When developed and administered carefully and with the above considerations in mind, shared services platforms are positioned to become a go-to cost-savings option in franchising both during and after Covid-19.
Joyce Mazero, a shareholder with Polsinelli PC, a law firm with more than 900 attorneys in 21 offices, is Co-Chair of its Global Franchise and Supply Network Practice. Contact her at 214-661-5521 or firstname.lastname@example.org. Emily Doan is an Associate with the firm and also focuses on the firm’s Global Franchise and Supply Network. Contact her at 303-256-2702 or email@example.com.
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