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The obligations of a franchisor in favor of its franchisees - Part II

Number 14 –  August 8, 2008

Question Corner

Question: In Part II of an article I recently published in Quebec Franchise (July-August 2008), I proceeded to an analysis of the implicit obligations of a franchisor in the context of the operation of a franchise network. Part I of this article can be found on my Internet site at www.claudepellan.com. Hereafter please find the unedited integral version of this article which I have also translated into English.

Part II - The Provigo Case 10 years later – The Obligations of a franchisor towards its franchisees

In Part I of this article, we examined the implicit obligations of a franchisor towards his franchisees and proceeded to an in depth interpretation of those obligations. In this Part II, we proceed to an analysis of these obligations in the context of the operation of a franchise network, that is, a practical application of these obligations in the business of a franchisor.

Generally, the obligations described in the Provigo case can be summarized as 1) the services that a franchisor must provide to its franchisees, 2) the importance for a franchisor to know the environment in which he operates and 3) the establishment of communication channels in the business of a franchisor.

By analyzing the practical implications of the obligations of a franchisor, it is interesting to note that we are describing the franchise business model.

1) Obligation to provide commercial and technical assistance and obligation to collaborate

This obligation makes reference to part of the franchising concept of a franchisor. A franchise concept must have in place procedures, an operations manual and/or policies that are tested and proven to work to allow franchisees to learn how the franchise concept of a franchisor works and how a franchise retail unit operates. At the beginning of the franchisor-franchisee relationship, we refer to the initial commercial and technical training dispensed by the franchisor to allow a franchisee to operate the retail franchise unit.

This training varies from one franchisor to another. With respect to technical assistance, it will depend on the necessity for technical knowledge, the complexity of the products sold, the procedures and methods used by the franchisor, the technology used, etc.

Commercial assistance has profitability and business connotations. Consequently, this assistance implies proven tools in matters of publicity and promotion, in the operation of a retail unit, in equipping a retail unit, in accounting, in the choice of products and/or services sold at retail (and/or the supplier), in the establishment of prices for products and/or services, basic business knowledge, knowledge of the target market, etc.

We emphasize that the training must be continuous for the duration of the contractual relationship. It also has to apply to new developments in the industry in which the franchisor operates.

In the context of a relationship of collaboration, there must exist communication channels between the franchisor and its franchisees. This collaboration implies an evaluation of the existing assistance, an understanding of the needs expressed by the franchisees and an evolution in the time of this assistance.

It should be noted that the term collaboration applies to all the obligations of a franchisor and it is the communication channels inside the business of a franchisor and between the franchisees and the franchisor which allow the franchisor to fulfill these obligations.

2)  Obligation to follow the evolution of the market and to adapt its methods and techniques to new realities

This obligation implies the knowledge by the franchisor of the environment in which he operates his franchise network. They are important forces that are not controlled by the franchisor. Despite this, they must be monitored and form part of the information contained in the business plan of a franchisor and be reflected in its objectives and corporate strategies.

Some examples are competition (intensity, consolidation, etc,), technology, distribution tendencies, new laws, the evolution of the market and the opportunities and threats in the industry.

These factors must be known by the franchisor and communicated to its franchisees through the communication channels and within a delay that allows the franchisees to adapt to these new realities.

3)  Obligation of loyalty

In general, this obligation implies a fair and equal treatment of all franchisees by the franchisor and a general obligation for the franchisor to respect his obligations towards his franchisees.

Returning to the Provigo case, this implies healthy and fair competition between the franchisor and franchisees (if the franchisor has corporate retail units). He must also allow this competition between the franchisees of his network.

Does the obligation of loyalty extend to include a prohibition of the franchisor to develop a corporate retail network?

In principal, the answer is no. However, we are of the opinion that there are legal and contractual limits to the development that a franchisor can carry out. For example, if the franchisor has a policy that provides granting rights of exclusivity and/or a right of first refusal to his franchisees, he must accept the limits that he imposes upon himself.

We are of the opinion that, even if a franchisor does not grant contractual limits to his franchisees, certain limitations are imposed by law. Point and fact, a franchisor must allow a franchisee to benefit from its franchise for the duration of the franchise agreement.

If a franchisor opens and operates a retail corporate unit close to an existing retail franchise unit and that the latter suffers an important decrease in sales, the franchisee may lose the benefit of its franchise. On the other hand, if the opening and operation of the new retail corporate unit close to a retail franchise unit has no effect on the sales of the existing franchise unit, the franchisee continues to benefit from its franchise.

4) Obligation to consult

This obligation makes specific reference to the communication channels that have to exist in a franchise network. The word collaboration implies an exchange of information in the context of the existence of channels and vehicles of communication. The employees of the franchisor that are part of the channels and vehicles of communication should be identified by the franchisor and known to the franchisees.

The communication channels may be formal (an annual meeting with an agenda), informal (open door policy of the management team of the franchisor), ad hoc (to deal with an urgent situation), punctual or permanent. There can exist different communication channels inside the business of a franchisor to deal with the numerous needs of a franchise network. The importance of this obligation resides in the existence of a reciprocal circulation of information between franchisees and franchisor.

The vehicles can include committees, assemblies, meetings (in groups or individually), an ombudsman, sending policies and/or procedures to franchisees, a dispute resolution mechanism, etc.

The employees of the franchisor involved in these vehicles can be members of the management team or of the board of directors, non specialized or specialized employees, suppliers, independent third parties, etc.

The channels, vehicles and employees involved must be known by the franchisees for the franchisor to benefit from the franchisor-franchisee relationship and to fulfill his obligation to consult.

5) Continuous obligation to maintain at all times pertinent franchisor-franchisee
relationships to avoid the lapse of said relationship

For a franchisor, this obligation implies respecting all of his obligations, legal and contractual, in favor of his franchisees. In other words, the contractual relationship must justify at all times the payment of dues, royalties, franchise and other fees to a franchisor. 

We are of the opinion that the essential components of the franchisor-franchisee relationship are the services offered by the franchisor to his franchisees, the information that the franchisor must collect and communicate to his franchise network, the franchise concept and the marketing plan of the franchisor. 

Does this obligation still apply if a franchisor does not require the payment of any dues, royalties, franchise and other fees by his franchisees? 

There are franchisors that operate their franchise network this way. However, we do not know any franchisors that operate a franchise network without some type of revenues.  In such cases, the sources of revenue of the franchisor are discounts, rebates, reimbursements, advertising allocations and other forms of allocations or discounts from suppliers and other service providers. Consequently, these franchisors cannot elude the obligations described in this article. 

6) Obligation to provide franchisees with the necessary tools to face the competition

In Part I of this article, we qualified the competition as being the franchisor, franchisees of the same network and competitors in general.  We addressed the importance of the business plan, the objectives of a franchisor and its corporate strategies and the communication of this information to the franchise network. We also addressed the fact that a franchisor must know the environment in which he operates and the essential components that compose a franchisee-franchisor relationship.

To fulfill this obligation, this information must also provide for the human and financial resources and the national and/or local marketing plan necessary to counter the competition, if need be. 

With respect to franchisee-franchisor competition (if it exists) and competition between franchisees, we submit that a franchisor should have in place policies and/or procedures that govern this competition. These policies and/or procedures must be equitable, fair, and exempt of favoritism while avoiding affecting the rights of franchisees. 

No matter where the competition stems from, by imposing on a franchisor the obligation to provide franchisees with the necessary tools to counter the competition, this can become a two-edged sword. In fact, even if the franchisor has the obligation to provide the necessary tools to counter the competition, the Provigo case does not help in determining who should pay for those tools, the franchisor, all of the franchisees or only the concerned franchisees. We think that each situation must be evaluated to provide an answer to this question.

However, by definition, a "tool" is a made object which one uses to execute manual or mechanical work. Therefore, we are of the opinion that, in principle, the only obligation of a franchisor in those circumstances is to invest in the conception of the tools necessary for the franchisee(s) to counter the competition. It follows that the franchisees or the concerned franchisees, as the case may be, have the obligation to pay the costs and expenses related to the use of those tools (ex: the franchisor prepares a marketing plan and the franchisees pay for the communication vehicles, such as newspapers, radio, television or other). 

7) Obligation to put in place an adequate commercial response that will enable   
franchisees to minimize their losses and to reposition themselves in an evolving

This obligation is more general than the preceding ones and encompasses numerous situations that are more important because of the potential repercussions on an entire franchise network.

In fact, according to us, a "commercial response" does not only refer to the conception of a response, but also to a financial investment on the part of the franchisor, the meaning of the word "response" being wider than the word "assistance" used in section I of this article. 

Furthermore, this obligation, while making reference to the minimization of losses and to the repositioning of franchisees, implies bringing about important changes to the franchise network. It is up to the franchisor to follow attentively the forces affecting his environment and, if there are important changes, to be aware of them and to put in place a plan and a strategy to address them. 

I trust your franchise concept respects your obligations according to the Provigo case. 

IMPORTANT NOTE: As previously mentioned, I do not give legal opinions in answers to questions in QUESTION CORNER. I provide my thoughts, comments and/or practical advice on issues that arise in the normal course of the activities of a franchisor. Therefore, I strongly advise that you consult an attorney from your province for a legal opinion on answers to questions asked in QUESTION CORNER.
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