Video Transcription

Hi, my name’s Jeff Goldstein from The Goldstein Law Group. We represent franchisees in litigation and counseling across the country in all states. What I’d like to speak to you about today is a continuation of two earlier tapes regarding the system operations manual of a franchisor of a system, where the franchisor creates a bible, in a sense, of how the franchisee is to operate. And went over briefly in the other videos the types of things that are in a franchise operations manual. They can run from very…from the minute aspects of operating a business, to the color of shirt, to name tags, to hours, it can get more important and more significant having to do prices, types of menu, and the most significant in many of the cases and from a business point of view, renovations, upgrades, and remodeling to a franchise site.

What we also talked about was there were three competing strains or complex that run through this issue as in almost every other franchise issue. The pro-franchisor view here where the franchisor needs the discretion to be able to keep up with competitors and keep the system fresh, and updated, and meeting all the technological requirements that are available. The franchisee on the other side is arguing, “Hey, I signed this agreement and all the sudden, you come over with the system standards manual, bring it in the back door of the franchise agreement, and make these requirements contractual requirements that were never in my franchise agreement. Further, I don’t even know about certain of these operations manual standards that you’re enacting, I don’t know what criteria you’re using to impose these on me. And I have no way to plan ahead the budget as to the cost these things might impose on me.”

We looked at some state statutes that provide some protection, New Jersey was the interesting one that don’t permit a franchisor to impose standards and things of that nature that will be an unreasonable standard of performance on the franchisee. Those are the most easily dovetailed into a suit for significant changes in the operations manual. Most other states we discussed, there are hooks there, some in Hawaii, some disclosure laws in California, but these statutes are few and far between. However, you can get some mileage out of these things if you do enough legislative history research and you’re somewhat creative with those statutes, you can get some relief on remodeling as well as on the operations manual modifications themselves.

What I wanted to do is finish off the series on the operations manual by looking at a case that…from a couple weeks ago. It was a Kentucky Fried Chicken case. And the franchisee there was one of their biggest worldwide, he had hundreds of franchises. And the franchisor and the franchisee had been getting along fine. And there was about 10 years earlier, a modification, a settlement of a lawsuit or a dispute back then. And as part of that settlement, if the franchisee signed on for a new 20-year term, there was an addendum that wouldn’t require massive remodeling for 10 years from the date that the franchisee signed that new agreement. This franchisee with hundreds of franchises, entered into different deals with the franchisor because it woulda been cost-prohibitive with that number of stores. The franchisor, Kentucky Fried Chicken, was willing to negotiate with the franchisee, such a large franchisee, it was in everybody’s best interest. And there were three or four modifications made to that addendum to the agreement that I just described which settled the dispute previously. And in that addendum, it allowed…this was an addendum to the addendum, it allowed certain stores to creep beyond the deadline for remodeling. And then there were other aspects of the remodeling that were modified by that franchisee in Kentucky Fried Chicken over time. And then there were emails that amended the amendment to the amendment. And there was even more side deals that were cut between the franchisor the franchisee to make it less burdensome on the franchisee. Well, even after all these modifications and emails back and forth, everybody became so frustrated that Kentucky Fried Chicken attempted to terminate 10 of the guys, the franchisees, franchise agreement, and I don’t know if they’re across default provisions, but that guy would lose everything, all of his hundreds of stores, and over this dispute as to remodeling, which came in the back door through operations manual modifications by the franchisor.

Now in this case, the franchisor, Kentucky Fried Chicken, came into court and said, “Look, we’ve terminated these 10 stores of yours for not complying with the remodeling. And you need to shutdown a franchisee.” Wouldn’t shut down. Franchisor went to court, tried to get a preliminary injunction saying, “Shut this guy down, shut this franchisee down, he’s violated our rules and we’ve terminated in.” Now, in terms of getting a preliminary injunction for a court to shutdown a franchisee, there are several standard prongs that a lawyer has to prove: that it’s likely that the franchisor will win, that there’s a, what could be called the high probability of success, and that the franchisor would have reparable harm if the court didn’t shut the franchisee down. Then there’s a balancing of public interest factors and could vary in nuanced ways across court state and federal. But those are the primary things that franchisor would have to show. And the first one dealing with probability of success, which was an interesting case because the court said to Kentucky Fried Chicken, “Look, you had so many modifications back and forth. You had an addendum to the addendum, to the email, to the addendum, to the settlement, that we can’t figure out exactly what this franchisee was actually required to do, to remodel or renovate. And therefore we can’t determine whether the franchisee has violated any standard because there are too many pieces of paper here. And what we need to do is go and have a trial on which piece of paper or which components of the pieces of paper would govern it.” So the franchisor, his request for a preliminary injunction was rejected on that grounds. However, there were also side arguments that dealt with the remodeling requirement and the change of system standards manual that we’ve been speaking about earlier.

The franchisee argued to the court that under this language, the reasonableness language that could be changed from time to time, the court needed to examine costs and benefits and examine the financials of how much this remodeling would cost. The franchisee’s argument is that if it would be cost-prohibitive or the cost wouldn’t justify the payoff, that it would not meet this criterion of reasonableness that they found in the franchise agreement. The court bought that argument, however, again, it didn’t turn on that. The court’s decision didn’t turn on the court examining the reasonableness of these cost of the modifications. The court said that the franchisee was right that under this language it might be a consideration that the court would look to in a trial that the franchisee would have a right to present evidence on the reasonableness. The franchisor argued that that provision in the franchise agreement, which from a franchisee’s point of view is great because it has the word of reasonableness, that’s sort of a sword for a franchisee. The franchisor argued that that provision didn’t apply to the new upgrades and modifications. The franchisor make legal argument that the addendum to the new franchise agreements that required remodeling by certain years, and again, this was the old one that settled the very early litigation between the franchisee and KFC, that had superseded that that this language in this particular franchise agreement, number one. And number two, the franchisor argued that the language that was in the agreement was only for a small modifications, or small upgrade and remodeling, that it didn’t apply to a major remodeling. So at the end of the day in the Kentucky Fried Chicken case, the court didn’t reject the possibility that the franchisee could argue that the modifications, the operations manual modifications were cost-prohibitive or imposing an undue burden on the franchisee. And the court also at the end of the day did not tell the franchisor that it was unable to prove through the emails and the addenda to the addendum that the franchisee had actually agreed to undertake this remodeling.

So if you’re faced with any modifications in your franchise relationship, they can be very small, in which case you may disagree with them philosophically but they’re not gonna till [SP] your bottom line, and they can also be very large, in which case you have no choice but to challenge ’em or more you’ll be out of business. And I would say that those obviously are gonna give you your best chance of winning if you were gonna challenge that position or defend yourself into termination [SP]. And again, it would also depend on the state you’re in and how creative your franchise attorney can be in terms of finding legislative history and hooks that might be in between the provision to those state statutes. So if you’re faced with new modifications or new standards that your franchisor’s trying to impose on you, and they are significant, these are the types of things that you should use a lawyer for as your failure to challenge them is gonna end up with a…either a termination and or you’re losing your entire business.

I wanted to thank you for watching these videos today. If you have any questions with regard to operations and standards manuals in your particular franchise system, feel free to call me. And again, my name’s Jeff Goldstein from The Goldstein Law Group. Thank you.

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