In-House Counsel: Expense or Profit Center ?

Several franchisors, distributors and other groups have one or several in-house attorneys, notaries, legal technicians and legal secretaries.

In general, these persons are perceived as a necessary expense by a business, contrary to a marketing or operations department which, by their nature, generate income for the business (e.g.: franchise recruitment, advertising campaign, etc.).
In this article, we offer you three (3) steps to follow to make your legal department a Profit Centre with the objective of changing the legal department into an "added value" to your business.

A.  CONTEXT

Why do franchisors, distributors and other groups hire internal legal personnel? Their objective may be to decrease the need (and costs) for the services of an external law firm, it may be to address a growing need for additional legal services (at a lower cost then an external law firm) or because the business is in a very regulated industry. The restaurant industry does not escape this objective due to regulations on salubrity, cleanness, alcohol as well as other general laws which affect all franchisors, distributors and other groups.

As above noted there are three (3) steps to follow to make a Profit Center out of a legal department, each allowing a business to generate revenues, to decrease the expenses of external law firms, to render a legal department more efficient and/or to better control expenses and/or services rendered by this department and/or the external law firm.

Traditionally, the legal department in a business has been perceived as an expense. However, over the last few years, in part because certain companies realized that a legal department can be profitable and pursuant to numerous acquisitions and mergers of businesses, more and more franchisors, distributors and other groups hired (additional) legal personnel. With time, these businesses and/or the legal personnel of these businesses wanted or were given the responsibility of providing an “added value” to their department and/or the business. Consequently, they gave themselves the tools to generate income, decrease the expenses of the business, and, consequently they financially justified their presence in the business.

In this article, we speak of steps since our vision of the process of the transition of a legal department to a Profit Centre is one that evolves with time. In general, it is more difficult to introduce several new changes at the same time rather than to introduce them gradually. For the same reason, a franchisor, distributor or other group can also decide to implant only one or two of the steps described hereinafter.

However, for some franchisors, distributors and other groups, their corporate culture, their management style, their status or power in the pipeline (manufacturer-distributor-retailer) allows them to put in place the three (3) steps all at once.

B.  STEPS TO A PROFIT CENTRE

We have organized in three (3) steps the process to make a Profit Center out of the legal department of a franchisor, distributor or other group:

1) Costs and expenses;
2) Fees; and
3) Other departments.

When we address the concept of a “Profit Centre”, we do not restrict this expression to generating income for a business. We also refer to the tools and to legal personnel which can decrease the expenses of this department and the fact that a legal department can have an effect on the profits of a business. We shall come back to these when elaborating the three (3) steps to attain a Profit Centre.

1)  Costs and expenses

What are the costs and legal expenses of a franchisor which are generated by the franchise business model? To mention some of the most important, the drafting, negotiating and/or registration, as the case may be, of franchise contracts (franchise agreement, movable hypothec, sublease agreement, etc.), of a movable and/or immoveable hypothec, of a servitude or a right of way, of a lease (if the franchisor is on the head lease), etc. If this work is out-sourced, we also take into consideration the professional fees of an external law firm to do the work described above.

All this work implies cost and expense for the franchisor, without counting the time spent by the internal legal personnel to prepare and/or to draft contracts, forms, opinions, notices, etc. mentioned in the previous paragraph.

In general, these costs and expenses are incurred for the protection of the franchise concept of the franchisor including, without limitation, the protection of trade marks and trade secrets, the protection of confidential information, the protection of the franchisor and franchisees against competition (e.g.: non-competition clause) and, in general, for the proper functioning of the franchise network.

When one knows that the franchisor and the franchisees will benefit from all this work, we submit that the fact for the franchisor to require a complete or partial reimbursement of these costs and expenses is justified and reasonable.

2)  Fees

Services rendered by the legal personnel of a franchisor, distributor or other group do not limit themselves to the costs and expenses mentioned in Step 1.

In fact, the legal services which a franchisor provides its franchisees also include the time allocated by the legal personnel and/or the external law firm to perform several other tasks.

Even if the legal work generated by franchisees varies from one franchisor to another, the time allocated by a legal department and/or external law firm can be the result of the following:

- the drafting and/or negotiation of the franchise contracts, the notice of a commercial lease, the request for registration of a moveable hypothec, the servitude, the immoveable hypothec, the reservation of ownership, the rights of the lessor, etc.;
- the financing (or refinancing) of the franchisee by the franchisor or by the financial institution of the franchisee or by both;
- the sale of a franchise by the franchisee to a third party (it is interesting to note that some franchisors require franchisees to sell them the franchise and the franchisor subsequently resells the franchise to the third party, and this, to avoid the risks associated with subsequent litigation between the franchisee and the third party);
- the corporate reorganization of a franchisee to allow him to take advantage of tax benefits;
- the estate planning of a franchisee to prepare the transfer of its business;
- the management of litigation files when a franchisee is in default under the franchise contracts or when a dispute arises between the franchisor and a franchisee;
- a legal opinion and/or advice to a franchisee in relation to its business;
- participation by a franchisor in dispute resolution mechanisms (e.g.: reconciliation, mediation, arbitration, etc.);
- the negotiation of property contracts (offer to lease, term sheet, lease, sublease agreement, peaceful enjoyment agreement, etc), whether the tenant is the franchisor or the franchisee;
- the management of the litigious and non-litigious files sent to external law firms;
- the preparation of new franchise contracts in the event of a relocation, a major renovation, the moving of a retail unit or the expansion of a retail unit; 
- for franchisors with retail units in more than one Province and/or with several banners (e.g.: The MTY Group, The Forzani Group Ltd., etc.), the drafting of franchise contracts for each Province (in two (2) languages), including the Disclosure Document for the Provinces of Ontario, Alberta and Prince-Edward Island;
- etc.

As mentioned at the beginning of this article, the time spent by the legal personnel of a franchisor, distributor or other group or by their external law firm to perform work directly generated by franchisees may represent important expenses.

At this stage, a franchisor could calculate a rate per hour for every person in the legal department (e.g. on the basis of salary, benefits package, etc. of each person) and, on the basis of the time allocated by its personnel, invoice franchisees for the time spent in their files. This exercise is similar to that of law firms. The franchisor can also use this information for other purposes such as the evaluation of legal personnel.

Another option for franchisors, distributors and other groups is to invoice franchisees lump sums on the basis of the type of mandates performed by its legal personnel or its external law firm (e.g.: franchise transfer = $5,000, negotiation of a lease = $3,000, financing = $2,000, etc).

From a legal perspective, it is important for a franchisor to insert a clause in the franchise agreement which specifically provides that legal services (and disbursements, if applicable) rendered by the franchisor will be invoiced by the franchisor and that the franchisee agrees to pay them.

With respect to the legal services rendered by an external law firms, which can in itself be the subject of another article, it is important to remember that the evaluation of the services rendered by the external law firm is necessary to determine if it would be more cost effective to perform all or part of their work in-house, and this, for all services rendered by the law firm. It is also important to make sure the managing of the external legal files is done by a person that has the experience, training and knowledge to do it. This could allow the franchisor to decrease and/or to control its expenses associated with professional services.

For example, a franchisor which spends important amounts on professional fees every year could ask its external law firm for a discount on the basis of the professional fees invoiced on an annual basis. It is very common for law firms, small and large, to accommodate their “good” clients on this basis.

Another example is a franchisor which has its franchise contracts prepared by its external law firm for every new franchisee. In this example, the franchisor could agree with its law firm on a lump sum for every file, given that the work done is almost identical from one file to another.  He could also determine that it is more cost effective to have in-house counsel prepare the franchise contracts.
  
The standardization of franchise contracts, by type of contract, by Province, by language, etc. is another way to make a legal department more effective and efficient and/or to decrease and/or of control an external law firm’s professional fees.

There are many other examples which could allow a franchisor and/or its legal department to control and/or to decrease its expenses in professional services and/or to render its legal department more efficient.

To sum up this step which allows the legal department of a franchisor, distributor or other group to draw nearer to a Profit Centre, it introduces increasing the income of the legal department and the reduction of expenses in professional fees of an external law firm. It also allows for more important control of the expenses of a legal department and an external law firm, while allowing the evaluation of the legal services rendered by external law firms and the legal department.

3)  The other departments of a business

It is not only the franchisees to which legal services are rendered by the legal department or an external law firm of a business. In the business of a franchisor, other departments also have a need for legal services. 

For the first two (2) steps of the creation of a Profit Centre in a legal department, income is derived from franchisees. In this third and last step, we offer you another source of revenue for this department, the other departments of a business which use the services of the legal department and/or the external law firm.

In fact, an important reason for the existence of a legal department in a business is to meet the needs in legal services of the other departments of the business. It should be noted that certain businesses have numerous departments which deal directly with an external law firm.  

In this context, the legal department of a business could also "invoice" the other departments on the basis of use by the latter of the legal department. The same principle could apply to the use by other departments of the services of the external law firm.

The invoicing of other departments for the use of legal services could be made on the same basis as that for franchisees, that is, an hourly rate hour calculated on the basis of the expenses of the legal department. For mandates to an external law firm, the invoice of the law firm for the mandate would be paid by the department that granted the mandate.

By instituting this 3rd step, besides generating additional income for the legal department, it usually results in a more efficient use by other departments of these services (the legal department and the external law firm), a more important control of expenses and the possibility of performing a better evaluation of the personnel of this department.

C.  CONCLUSION

We submit that there already exists a long standing trend for legal departments of franchisors, distributors and other groups to give “added value” to their legal departments which had been traditionally perceived as an expense. We have proposed three (3) steps to allow you to follow this trend.

Our steps, options and examples are not exhaustive and must be considered by assessing the financial and human resources to create, implant, manage and evaluate the Profit Centre. You must also assess the steps you wants to implant, when to implant them, when to announce the steps and how to implant them, the whole while trying to predict the reactions of franchisees/members/suppliers and the different departments of your business.

Lastly, we submit that this process of putting into place a Profit Centre in the legal department of a business can also apply to other departments of a business which are, even today, perceived as an expense by businesses!