If you signed your franchise agreement without reading it carefully, you might be surprised to learn that your franchisor has a broad right to audit your franchise. Franchisors almost universally reserve this right; and, while audits are ostensibly intended to ensure that franchisees are accurately calculating their royalty fee and marketing fund contribution obligations, franchisors often use them as tools for establishing grounds for default and terminating underperforming or “difficult” franchisees.
So, your franchisor has announced that it will be auditing your franchise. What do you need to know?
Protecting Your Rights During a Franchise Audit
1. What Does Your Franchise Agreement Say?
When faced with an audit, the first thing you should do is review your franchise agreement. What does it say about audits? Are there any restrictions on how frequently your franchisor can audit your franchise or how much advance notice your franchisor must provide? Can your franchisor hire a third-party auditor to inspect your books and records? What is the permissible scope of the audit?
2. Do You Have Anything to Worry About?
Assuming your franchisor is within its rights to conduct the audit, your next order of business should be to conduct an internal audit of your own. Is it possible that you could have underreported your gross revenue—could you be at risk for being declared in default of your franchise agreement? If you have any concerns, you should come up with a plan to address them proactively before your franchisor has a chance to send you a notice of default.
3. Do You Have Adequate Documentation to Prove Franchise Agreement Compliance?
When facing a franchise audit, documentation is key. The auditors will be looking for any evidence that you have underpaid your royalties or marketing fees, and a lack of documentation is almost always interpreted as a sign of having something to hide. If you have clear documentation of your franchise’s income, your personal capital contributions and all other relevant financial transactions, then you will be able to avoid many of the issues that tend to come up during the audit process.
4. Do You Need to Educate the Auditors on the Franchise Model?
Franchisors often hire third-party auditors to conduct franchisee audits; and, unfortunately, many of these auditors do not have the requisite knowledge and experience to accurately assess franchise agreement compliance (or a lack thereof). As a result, in many cases, avoiding an unfavorable audit determination is a matter of educating the auditors as to what constitutes “gross revenue” and why certain transactions which appear to indicate royalty or marketing fee underpayments are actually fully compliant.
Contact the Goldstein Law Firm | Over 30 Years of Experience Exclusively Representing Franchisees
Are you facing a franchise audit? If so, franchise lawyer Jeffrey M. Goldstein can deal with the auditors on your behalf and help make sure your franchise is protected. To discuss your situation in confidence, please call 202-293-3947 or request a free initial consultation online now.
