This article originally appeared in the May | June 2012 issue of FranchiseCanada.
Renewal provides a key opportunity for franchisors to institute changes to their business systems and move franchisees over to the current form of their franchise agreement and standards (i.e. trade-dress, equipment, and signage). Such changes can be vital to a franchise system’s continued marketplace success. Consumer tastes change over time, markets evolve, facilities age, and demographics shift. It is essential that franchisors be able to adapt their business format to current situations and ensure compliance from their franchisees, both practically and legally. The renewal process should be seen as a balancing act between modernizing the franchise agreement on the one hand, while not modifying it in such fundamental ways so as to make it unpalatable to franchisees.
What must I do?
Renewal clauses often include specific terms and conditions which the franchisee must fulfill in connection with its exercise of its right of renewal. If the franchisee fails to fulfill all of the franchisor’s terms and conditions, the franchisee will not be granted a renewal of its franchise agreement. Typical renewal terms and conditions include:
- the franchisee must provide the franchisor with written notice of its intention to renew the franchise agreement during a specific time period (i.e. 6 to 12 months prior to the expiry of its current agreement);
- the franchisee must pay a renewal fee to the franchisor, which fee is generally a stated dollar amount or a percentage of the current franchise fee. Franchisees may also have to reimburse the franchisor for all of its legal and other expenses incurred with the renewal. A right of renewal implies that the franchisee will pay fewer fees to renew than a new franchisee would have to pay since the franchise relationship already exists. Most franchisors are mindful of this and do not to make renewal fees so expensive when compared to the costs of opening a new franchise;
- the franchisee must sign the franchisor’s current form of franchise agreement, which may differ in form from the original agreement and which may provide for higher amounts of royalty and advertising contributions. Courts have generally been willing to permit franchisors to make renewal conditional upon the adoption of a new franchise agreement. However, this does not give franchisors the discretion to insert any terms or conditions they want, forcing the franchisee to take-it-or-leave-it (this would effectively create a new contract and would not be a renewal at all). Rather, the franchisor must act in good faith when it insists on a new form of franchise agreement;
- the franchisee must implement changes or updates to its business to ensure that it satisfies the franchisor’s current image, system standards, and specifications. Any updates must be reasonable; if the franchisor requires the franchisee to make a significant capital investment into the business, the franchisee should be able to recoup this investment over the term of the renewal period;
- the franchisee must be in compliance with all of its material obligations under the franchise agreement at the time it renews the agreement; and
- the franchisee must sign a general release in favour of the franchisor. However, such releases are now of questionable enforceability. Courts will not enforce the provisions of a franchise agreement requiring a franchisee to provide a general release in favour of its franchisor as part of any renewal, particularly in the face of franchisee protection legislation. Where franchisees claim that a franchisor has breached the relevant franchise laws, courts will not enforce releases that would deny the right to sue on those claims unless the releases are both informed and voluntary.
Franchisees must remember that franchisors are under no duty to renew a franchise agreement which contains no right to renew or an option to renew on ascertainable terms; even the courts won’t create a right of renewal where none exists.
Inevitably the parties to most franchise agreements will be faced with the issue of renewal at one point during their business relationship. The contractual requirements set out in the franchise agreement, along with the requirements and expectations of the parties, all factor in both the triggering of the right to renew and how the renewal is carried out. Parties that are mindful of their commercial relationship and the practical realities of running a franchise are apt to avoid disputes arising from the renewal and instead, focus on their businesses.