Forward Franchising - Las Vegas, Nevada Franchise Attorney Matt Kreutzer

Negotiated Franchise Sales in California: Making Sense of the Rules and Regulations

In connection with preparing for this year’s franchise registration filings, I recently re-read California’s statute and regulation on negotiated changes.  For those of you who are not already familiar with that law, it is part of California’s overall regulation of franchise sales under the California Franchise Investment Law (“CFIL”), which can be found at Cal. Corp. Code §31109.1.  Briefly, the statute creates a precondition to all franchise sales (above and beyond those included in the CFIL registration scheme) made in California.  Specifically, a franchisor must make available to a California-based prospective franchisee any terms different from those contained in the franchisor’s disclosure document that have been negotiated with franchisees in California during the previous year.  In other words, if a franchisee has been given a “special deal” that is not part of the franchisor’s standard offering, the terms of that deal must be disclosed to subsequent franchisees.

In reviewing California’s requirements on negotiated sales, I again noted a disparity between the statute (cited above) and the regulation covering the same issue, which was enacted by the Department of Corporations (“DOC”).  The two provisions use different approaches to address the same issue, as explained further below.  By researching the background of the statute and the regulation, I was able to determine why they are different and, most importantly, what options a franchisor has to comply with their requirements.

Purpose Behind the Provisions

Ostensibly, the purpose of the law (as well as the regulation) is to control discrimination or favoritism among franchisees.  If one franchisee obtains the benefit of special terms, the reasoning is that all other franchisees should be able to see those terms and possibly use them as a basis for negotiating similar changes for themselves.  In that way, the playing field among franchisees is somewhat leveled – those franchisees who are not savvy or aware of the franchisor’s willingness to negotiate additional or different terms to the agreement are given the benefit of those that are.

The Unintended Franchise – A Trap For Unwary Business Owners

Are you unknowingly operating a franchise system? If you are licensing others to use your trademarks for a fee, the answer could be yes. Under federal or even state law, a commercial relationship between two parties could be a franchise -- even if neither of the parties intended to create one.

Regulatory Landscape

The Federal Trade Commission ("FTC") has been empowered by the federal government to administer and regulate franchising. It does so under a series of regulations known as the "Franchise Rule."  Under the Franchise Rule, any person or corporation that sells franchises within the United States is obligated to provide its prospective franchisees with a disclosure document, known as the Franchise Disclosure Document ("FDD"). The FDD must contain information regarding the company, the business being franchised and the franchise relationship.

The Franchise Rule makes it "an unfair or deceptive act or practice" for a franchise company to fail to provide a FDD to a prospective franchisee. The FTC has exclusive jurisdiction to enforce violations of the Franchise Rule, and penalties can be stiff-including injunctions, asset freezes, and monetary penalties.

Franchising As A Growth Strategy

Author's Note: A version of this article was originally published in the Business Resource Guide of Las Vegas, Winter/Spring 2009 Edition.

More and more businesses are discovering the franchise model as a method for increasing sales and brand visibility. Over the past two decades, franchising has been one of the largest growth industries in our nation’s economy, with a net annual economic impact close to one trillion dollars.  Franchising is no longer just for roadside motels and quick service restaurants; today, companies are franchising their businesses in industries as diverse as mortgage brokerage firms, medical spa treatment centers, auto repair shops, and veterinary clinics.

 

If you are thinking about growing your business, you may want to consider franchising as a way to reach your goals.  While most people have general knowledge about franchising from their experience as consumers, not many understand how it works.  Simply put, a franchise is a license granted to an individual or business entity (the franchisee) to market a company’s (the franchisor) goods or services in a particular territory using the franchisor’s business systems, trademarks, and methods of operation. 

 

There are many reasons that businesses decide to franchise.  Franchising offers the potential for rapid growth with a relatively low capital investment.  Moreover, franchise companies retain a significant level of control over the use of their brand and system, while at the same time having the comfort of knowing that each location is being operated by an independent business owner that is highly motivated to maximize the sales and profits of the business.