Shattering the myths

Next step for the operators: lobbying for amendments to Ontario’s franchise legislation. So, Australia, Brazil and Canada. Just the first three letters of the alphabet, but enough to suggest that franchisor-franchisee disputes are not a uniquely American phenomenon.

Franchise Times
April 1, 2002

Shattering the myths
But it is no longer true that the rest of the world is an oasis free of lawyers and lawsuits.
Philip F Zeidman

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DATELINE, ORLANDO – As franchisors move to penetrate the world’s markets, they leave behind the shattered ruins of long-held myths about international franchising. Among them:

  • Only the biggest companies can successfully franchise cross-border;
  • Only the foodservice franchisors have developed effective techniques for expanding internationally;
  • Once you leave your home base, it’s inevitable that you will lose control over your name and mark, and there’s a direct correlation between the distance and lessened control.

One of the myths that dies hardest has to do with legal disputes. Probably because of the reputation (well deserved) as the world’s most litigious society, it’s an easy assumption that the United States is also the home of the most active, most acrimonious and most significant disputes between franchisors and franchisees. No other country is yet positioned to challenge the United States for the dubious distinction. But it is no longer true that the rest of the world is an oasis free of lawyers and lawsuits. Formal presentations and informal discussions during the just completed Annual Convention of the International Franchise Association provide some interesting examples of how other countries are beginning to display characteristics similar to those we see at home. Consider some recent developments in only three countries:

In Australia, the Competition and Consumer Commission (ACCC) claims that the Chaste Corporation, a weight-loss company, has illegally prevented its franchisees from selling its products at a discount and engaged in misleading and deceptive conduct by claiming the policy to be lawful. The ACCC also alleges that the company threatened to terminate the agreements of those franchisees who intended to meet with one another to discuss the franchisor. That conduct, says the Commission in a court filing, is a violation of both law and codes of conduct, justifying both fines and mandated refunds.

In other Australian legal developments, the notorious bankrupt (but still active) Alan Bond sought to re-launch his business career after being released from prison by involvement in a chain of 70 franchised “check cashing and payday-advance” stores, Cheque Exchange Australia. An alleged failure by Bond and his partners to pay the amounts owed and the purchase of U.K. franchise rights left the company on the brink of collapse. Now, the company’s liquidators will have to determine whether to pursue Bond further, and Bond’s group has lodged its own competing counterclaim.

And by taking a private franchising dispute into Parliament, an Australian legislator labels one of Australia’s oldest agricultural franchises as “evil.” Hannaford Seedmaster Services and its 55 franchisees perform seed grading and seed treatment services. But the legislator, Russell Savage, charges not only that machines the company operates are “inherently unsafe,” but that it utilizes court proceedings to drive “many honest and committed franchisees to the wall.” Savage knows of five cases, he asserts, “where the franchisees committed suicide because of the Hannaford way of doing business.” The company’s officials have suggested that the legislator step from behind his Parliamentary privilege to make his claims in a legally unprotected venue.

Allegations of franchisor “encroachment” are not unique to the United States. In Brazil, a number of McDonald’s franchisees have claimed in court that the company’s aggressive expansion has “cannibalized” the sales of their restaurants. That conduct, they assert, “violates the essence” of their franchise agreements; and, together with alleged “rent manipulation,” have led to straitened financial circumstances for many franchisees. The rent policy appears to be the standard approach taken worldwide, and the company has provided rent relief in light of difficult economic conditions in Brazil. That hasn’t stopped a respected United States-based restaurant analyst from the apocalyptic pronouncement, “What we are seeing now is the dark side of international development.”

Canada has witnessed a raft of franchise legal disputes in recent days.

A familiar Canadian franchised chain, Country Style Donuts, identified 25 franchisees in default of their franchisee payments and terminated them. The closings were distributed across the country, but franchisees in Northern Ontario had already made claims that the franchisor was “trying to run them out of business.”

The legal issues attendant upon failure are not limited to the franchisee. When shoe repair franchisor Moneysworth and Best declared bankruptcy, its assets were acquired by a purchaser. A group of franchisees were successful in arguing that they had the right to take over their leases after the bankruptcy of the franchisor lessee. But the franchisees were unsuccessful in their efforts to nullify the franchise agreements; the bankruptcy, the court said, was not a “fundamental breach” of the agreements because the franchisees were able to carry on their businesses legally without disruption.

A Toronto franchisee of Swiss restaurant and hotel franchisor Movenpick claims that Movenpick failed to support the operations, prevented closing of lucrative deals and quashed other negotiations. One especially interesting allegation in the $173 million lawsuit claims that Movenpick acted to prevent the franchise from moving into the United States. Asserting that the franchisor is trying to reclaim the franchise rights, the franchisee says: “We would like punitive damages for all the years of suffering.” In a further development, the franchisee’s unions and most of its employees have voted to work extra hours for stock in lieu of pay, to buy out the franchisor’s stock in the franchisee.

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Also alleged to be seeking to recapture “franchised” operations is the Grand & Toy office supply chain. In a $29 million dollar lawsuit by 23 operators the company is charged with having licensed stores at a time when sales were slumping; now, say the operators, sales have increased and Grand & Toy wants them back. Further, the plaintiff’s say, the arrangements were “franchises” with the accompanying legal consequences; and they were sold to employees who may have invested because they feared they’d lose their jobs. Grand & Toy replies: They’re not franchisees. They invested very little. We gave them ample notice. We’re buying back their investments. We’re offering them jobs.

Next step for the operators: lobbying for amendments to Ontario’s franchise legislation.

So, Australia, Brazil and Canada. Just the first three letters of the alphabet, but enough to suggest that franchisor-franchisee disputes are not a uniquely American phenomenon. They’re also enough to call a prudent international franchisor’s attention to the array of legal pitfalls to be avoided when expanding abroad. In future columns we’ll seek to explore how that can be done more effectively.

Philip F. Zeidman is a senior partner in the Washington, D.C. office of Piper Marbury Rudnick & Wolfe, where he leads the Franchise and Distribution Law Group practice. He is general counsel to the International Franchise Association.


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