Matt Dickstein
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39488 Stevenson Place #100, Fremont, CA 94539
510-796-9144. mattdickstein@hotmail.com. mattdickstein.com

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Setting Up an Ongoing Franchise Compliance and Housekeeping System

By Matt Dickstein

Your work never ends as a franchisor.  It is a real achievement to get your franchise system in place, and then make your state registrations and sell a few franchises.  But that is just the beginning – now you have to maintain your franchise system.  A franchise system requires a large amount of ongoing legal compliance and housekeeping work.

In this article I introduce eight points of legal compliance and housekeeping work, namely: (1) updating your franchise documents, (2) renewing your state registrations, (3) filing your franchise advertisements with certain states, (4) filing your negotiated changes in California, (5) keeping complete and accurate records, (6) making sure your operations manual protects you, (7) enforcing your franchise rules, and (8) dealing with franchise defaults, terminations and non-renewals.

There is much more compliance work to do beyond these eight points, but this is a good place to start.  A competent franchise compliance system will account for at least these eight points.

Without further ado, the eight points of legal compliance:

Updates to Franchise Documents. 

You must update your franchise disclosure document (commonly called the UFOC) at least once a year.  You also must update the UFOC earlier if there are any material changes to the information it contains.  Franchisors frequently modify their franchise systems as they go along, especially in the early years.  Your UFOC (and Franchise Agreement) must stay up to date with these changes.  For information on your franchise disclosure document (UFOC), see my article The Franchise Disclosure Document.

State Registrations.

A number of states require franchise registration.  You must register with the state if you want to sell franchises in the state.  For an overview of registering your franchise in CA, see California Franchise Registration 

Renewals of State Registrations.

You must renew your state franchise registrations (and exemptions) every year.  Most registrations are valid until 90 to 120 days after the end of the franchisor’s fiscal year (110 days in California).  A renewal filing includes a renewal form, an updated UFOC with updated audited financial statements, and a filing fee.

Advertisement Filings.

Some states (including California) have laws that require franchisors to file a copy of all advertising materials before they are used in the state.  The advertising materials at issue are the adverts for the offer of the franchise opportunity, not the sale of ordinary products and services of the business (for example, for a Subway, the opportunity to buy a franchise not a sandwich).

Negotiations with Franchisees.

California has a special rule that applies when a franchisor negotiates specific changes to the franchise documents with a franchisee.  California requires that the franchisor make a notice filing that describes the negotiated changes, amend the UFOC to disclose the negotiated changes, and provide a copy of the notice filing to all franchisee prospects in California for the following 12 months.

Recordkeeping.

You must keep complete and accurate contract files for each franchisee.  State law requires this recordkeeping, and anyway a bad file leads to trouble.  If you keep bad files, just when you need to show or use a particular contract, you might find that the contract is incomplete, not signed, or even completely missing from the franchisee’s contract file.

Operations Manual.

Almost all franchisors have an operations manual for the franchisees.  The operations manual is a necessary part of the franchise system to keep the franchisees in line and protect the quality standards of the franchise. 

You should be careful with the manual, however.  Your manual should avoid being too involved in the details of how to run the franchisee’s day-to-day operations.  Once you require that the franchisees take any particular action, you can become liable to an accident victim or the franchisee for the required action.  For example, if you require that coffee be delivered to customers at boiling temperature, you and the franchisee can be liable to an injured customer.  In sum, an operations manual must walk the thin line between proper and necessary rules and regulations, and unnecessary meddling.

Ongoing Enforcement of Franchise Rules.

You will impose a multitude of rules for your franchisees to follow, including rules for operation, financial reporting, maintenance of insurance, etc.  You will need to enforce these rules.  You can use incentive systems, progressive discipline, and consistent and positive communication to your franchisees to help them comply with franchise rules. 

  • Incentives.  Some franchisors use incentive systems to promote franchisee compliance with franchise rules.  Incentives include the recognition of good performance and sometimes economic reward for good performance.
     
  • Progressive Discipline.  All franchisors should have a system for disciplining errant franchisees.  The franchisor must apply the progressive discipline system in a fair and consistent manner, and thoroughly document the franchisee’s passage into and out of the system.  A progressive discipline system notifies the franchisee of the problem, helps the franchisee fix the problem, and ultimately helps the franchisor remove the franchisee if need be.
     
  • Communication is the Key.  You should start a regular program of communications, especially if you can predict where your franchisees will fail in their compliance.  Most franchisees want to comply with the rules once you tell them.  A regular “best practices” newsletter is one way to communicate your rules.  Whatever method you use, keep the communication relevant to your franchisees.  Make all communication positive, and use examples of good performance by the franchisees.

Franchisee Defaults, Terminations and Non-Renewals.

My final compliance point in this article also marks the end of your relationship with a franchisee, that is, your termination or non-renewal of the franchise.  Many states (including California) have laws that restrict when a franchisor can terminate or refuse to renew a Franchise Agreement.  These laws require good cause for your termination or non-renewal of the franchise.   They also require that you notify the franchisee of default and give a period of time for cure of the default.

Your failure to comply with these state laws may make your termination or non-renewal ineffective, or worse may give the franchisee a claim against you.  Hence before taking any action against a franchisee relating to a default, termination or non-renewal, you need to check applicable state law.

As always, this article only scratches the surface of franchise compliance work.  There is much more housekeeping for you to do than I introduce here.  Be sure to get the legal, accounting, tax and other help you need to do the job right.  You can call me if you have any questions.

If you want to read more about franchising, try my main page Franchise Attorney.   From there you can link to other pages and articles of interest.


Call me to schedule a legal consultation: 510-796-9144


Matt Dickstein, Business Attorney - 39488 Stevenson Place, Fremont CA 94539
(510) 796-9144      mattdickstein@hotmail.com     www.mattdickstein.com Google

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