Dispute Management Systems in Franchising

NUMBER 2-1 – October 19, 2007

QUESTION CORNER

Question from a franchisor: In the Management Services section of your internet site, you provide an index of the steps that lead to the implementation of a dispute management system in a franchise network. Would you provide me with further details on how a dispute management system works and tell me if franchisors have the duty to implement one?

The objective of a Dispute Management System (“DMS”) is to implement rules of governance (for public companies) or a process (for private companies) in the company of a franchisor to manage disputes that leads, in a constructive and systematic manner, to the resolution of disputes between a franchisor and its business partners by the use of dispute resolution mechanisms (ex. arbitration, mediation, etc.) instead of the courts.

The DMS model for franchising spells out 5 steps to implement the system: exploration, conception, introduction, evaluation and administration.

The implementation of a DMS starts by the exploration step, that is, a preliminary and macro study of the feasibility of implementing a DMS in the company of a franchisor. Why undertake the other steps to implement a DMS if the chances of obtaining the benefits from implementing the complete system in a franchise network are negligible?

The second step, the conception, encompasses the creation of the DMS, including the dispute resolution mechanism, to attain the objectives established by the franchisor at the exploration step (establish the training and resources that are necessary, establish selection criteria of those involved in the system, make a list of contracts and other documents to be amended, establish a timetable, etc.)

The introduction of the DMS by the franchisor to the franchise network and/or to business partners is the next step. It includes the communication of the DMS to employees and business partners, adopting rules of governance, implementing a marketing campaign, inserting dispute resolution mechanism in all contracts and other documents that may have legal repercussions for a franchisor, etc.

The evaluation step includes an annual and periodic review of the DMS and dispute resolution mechanism. It can be summarized as a step that compares the actual costs and expenses of implementing a DMS with the financial and other benefits that result from the implementation of the DMS.
 
The last step, the administration of the DMS, involves the management of the DMS and dispute resolution mechanism over time. This includes observing the use of the DMS (including the dispute resolution mechanism) to determine if, for example, the training was sufficient, the employees and business partners use the dispute resolution mechanism, if disputes remain confidential, if the users of the DMS are satisfied with the process, the participants, the results, etc.

At each step of the implementation of a DMS, a person is named or a committee is formed to observe and manage each step of the implementation to ensure the DMS provides the financial and/or other benefits that the franchisor has set as an objective.

There are numerous reasons that lead a franchisor to implement a DMS: maintain the confidentiality of disputes, decrease the costs of outside counsel, avoid the negative effects of a public trial, change or improve the perception of the franchisor and management amongst the public, the financial markets, shareholders and/or their financial institution(s), encourage a greater participation of employees to resolve their own disputes, diminish the financial and other risks of the activities of the company, increase the value of the shares of a public company, control the costs and time spent on disputes, etc.

With respect to your second question, you are referring to corporate governance. For public companies, they have a legal obligation to communicate to the public certain accurate information on the financial situation of the company.

At the same time, in my book, I ask the question, “… is the implementation of a dispute management system in a private or public company an obligation on the part of managers and upper management under their duty of sound management practices?”

There doesn’t exist any legislation that specifically provides that a company, private or public, has the duty to implement a DMS. However, managers and upper management do have a duty of sound management.

Therefore, I submit that the duty of sound management of managers and upper management of private and public companies, without necessarily including the implementation of a DMS, includes at minimum the exercise of exploring the feasibility of implementing the DMS in their business.  With the potential financial and other benefits and the decrease in risks related to the operation of a company that can be derived from the implementation of a DMS, it is my opinion that managers and upper management of these companies cannot elude this exercise.

 Claude J. Pellan, Attorney and Consultant
 Franchise and Business Law
 www.claudepellan.com