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
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.
ado, the eight points of legal compliance:
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.
A number of states
require franchise registration. You must register with
the state if you want to sell franchises in the state.
an overview of registering your franchise in CA, see
California Franchise Registration.
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.
(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).
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.
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.
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.
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.
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.
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
- 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.
Defaults, Terminations and Non-Renewals.
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
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
Attorney. From there you can link to other
pages and articles of interest.
me to schedule a legal consultation: