Joe Dye Culik
Top 4 Issues for Franchisees When Deciding to Take Legal Action Against Franchisors
Many people dream of owning their own business. The most successful business model by far is that of a franchise. Buying a franchise allows an entrepreneur to purchase an existing business concept, methods, and branding, and avoid many of the growing pains associated with a startup. A “franchisee” is the person who buys the franchise, and a “franchisor” is the company that owns and sells the business concept.
But what happens when the dream of owning a franchise becomes a nightmare because of malfeasance by the franchisor? This post explains some of the most important considerations before taking legal action.
Under the FTC Franchise Rule, when a franchisee buys a franchise from a franchisor, they must be provided with a franchise agreement. The franchise agreement is the contract between the two parties that lays out the rights and responsibilities of each of them.
A franchise agreement also governs the ways in which disputes have to be resolved between the franchisee and their franchisor. Although a majority of franchises are successful – and are more successful, on average, than non-franchised businesses – disputes sometimes happen.
Our office represents franchisees in disputes about all aspects of their relationship with their franchisor. Franchise agreements often contain specific provisions about what the franchisee must do before taking legal action. Below are four of the main issues a franchisee should consider before taking legal action against their franchisor.
1. What State’s Law Will Be Used to Decide the Dispute?
Though most states’ laws have similar undergirding principles, most of them originating in the Anglo-Saxon legal tradition, they vary widely in substance. What constitutes a breach of contract, negligence, or fraud under one state’s law may be entirely permissible under the law of another state. The parties to a contract a free to choose which state’s law applies.
Every franchisor writes into its franchise agreement which state law applies to the claims. You may be a franchisee in North Carolina, but the franchise agreement might be entered into under Florida law. That means that a judge or arbitrator will use Florida law to interpret the franchise agreement, regardless of where you bring a legal claim.
For this reason, before bringing a legal claim against your franchisor, you need to know what state law is used for your franchise agreement, and you need to know how that law applies to your particular facts. What is illegal in North Carolina might be legal elsewhere. There is usually a provision somewhere toward the end of a franchise agreement stating what the “applicable law” is.
2. How Long Do Franchisees Have to Bring Claims?
In North Carolina, the statute of limitations to bring a claim for breach of contract is three years. In theory, this would apply to most franchise agreements.
But just like the parties may choose which state’s law to use, the parties may also choose to shorten the time for a franchisee to bring claims. In fact, most franchise agreements our office reviews have a one-year or two-year statute of limitations, significantly limiting how long franchisees have to seek redress.
With a shortened statute of limitations, a franchisee has less time to take legal action. And regardless of how severely a franchisor’s actions violate the franchise agreement, a franchisee’s rights are forfeited if they do nothing before the statute of limitations expires.
3. What Legal Procedure Will Be Used to Resolve the Dispute?
Normally, a franchisee would be legally entitled to have disputes adjudicated in court by a judge and jury. But, again, virtually all franchise agreements limit this right. Instead, franchise agreements say that a franchisee is waiving the right to a jury – and even waiving the right to even go to court – instead of agreeing to have everything decided by an arbitrator.
Arbitration is a private proceeding conducted by a third party who hears the parties’ arguments and reviews the evidence, much like a judge would do. The proceeding, however, is not public like court is, and the arbitrator deciding the case is usually an attorney or a retired judge. The arbitrator may limit the franchisee’s right to obtain information from a franchisor and may use different evidentiary standards when deciding the case. The arbitrator generally tries to streamline the proceeding to expedite it.
Arbitration has the benefits of being tailored to each particular case, but it is thought to be more favorable to the franchisor than the franchisee. After all, the franchisor is the one who inserts the requirement to arbitrator into the franchise agreement. Your legal strategy will be determined, at least in part, but the terms of the arbitration.
4. Location of the Arbitration.
Finally, a franchise agreement may also require that arbitration has to take place out of state. Most franchisors require the arbitration take place near their headquarters. If a franchisee is not located near the franchisor’s headquarters (and odds are, they aren’t), this means that a franchisee might need to travel out of state for days – or even weeks – for the arbitration.
That does not mean a franchisee shouldn’t arbitrate the case. But franchisees should try to find out as much as possible about what will be required of them before taking legal action against their franchisors.
In an interesting development, since the COVID-19 pandemic, many arbitrators have become accustomed to handling proceedings virtually, by Zoom or other videoconferences. This is beneficial if a franchisee is arbitrating out of state, as they might be permitted to present their case from the comfort of their own office (or their attorney’s office), rather than have to engage in time-consuming and expensive travel. Whether one is permitted to do this is ultimately up to the franchise agreement and the arbitrator, though.
The terms of a franchise agreement limit what a franchisee can do and when they can do it. If you are a franchisee and are serious about enforcing your legal rights against your franchisor, it is vital that you know what your rights are before you act.
Dye Culik PC is a Charlotte, North Carolina business and franchise law firm representing franchisees throughout all stages of the franchise relationship, from reviewing a Franchise Disclosure Document (FDD) and franchise agreement, to resolving disputes, to litigation and arbitration. If you are a franchisee with a question or concern about your franchise, contact us to see how we can help.