What laws apply when terminating a franchise?

In our previous blog, we discussed disclosure laws. Today, let’s take a closer look at “franchise relationship laws.”

What does “franchise relationship” mean?

Picking up from Blog Part One, it must be understood that franchise laws and regulations were enacted to address abuses occurring in the franchise industry. Franchise disclosure laws were established to ensure that before buying any franchise, franchisees received mandated information about the franchisor, franchise opportunity and investment so they would have sufficient data to make an informed decision.
Franchise relationship laws, however, are a slightly different animal. Like franchise disclosure laws, they too are intended to address historical abuses – this time during the franchise relationship. They address a whole litany of bad actions, including:

 Unjust terminations;

  • A franchisor’s refusals to renew a franchisee upon expiration of the franchise agreement;
  • A franchisor’s failure to permit the franchisee to sell the franchised business; and
  • Encroachment – where franchisors locate another unit in close proximity to a franchised unit. This “encroachment” on another’s geographic territory often caused “sales cannibalization” as the new closely-placed location diverted sales from the existing franchise.

When do “franchise relationship” laws apply?

Unlike the FTC’s rule relating to disclosure, there is no franchise relationship law that generally applies at the federal level.However, there are several statutes specific to a select group of franchisees, like automobile dealership franchises. In this sector, Congress enacted the Automobile Dealers’ Day in Court Act in 1956 which requires automobile manufacturers to “deal in good faith” with their dealerships. Gas stations became another sector with specific oversight when, in 1978, the federal Petroleum Marketing Practices Act (“PMPA”) was passed.The PMPA establishes set procedures gas station franchisors must follow before terminating or refusing to renew a petroleum franchise.

At the state level, however, franchisees have greater protections as several states have specific franchise relationship laws. In 1964 for example, Puerto Rico became the first US jurisdiction to pass a law protecting local dealers specifically against such proscribed practices as terminating the franchise without cause and unreasonably refusing to renew a franchise. In addition to Puerto Rico and the U.S. Virgin Islands, the following 18 states now have laws of governing franchise relationships: Arkansas, California, Connecticut, Delaware, Hawaii, Illinois, Indiana, Iowa, Michigan, Minnesota, Mississippi, Missouri, Nebraska, New Jersey, Rhode Island, Virginia, Washington and Wisconsin.

While no two state laws are alike, they all generally govern a franchisor’s right to terminate, failure to renew or failure to approve a franchisee’s transfer of ownership. Additionally, these laws may prohibit other franchisor practices including:

  • Restricting free association among franchisees;
  • Discriminating between franchisees;
  • Prohibiting changes in management without good cause;
  • Encroaching on a franchisee’s territory;
  • Receiving payment from third parties based on the business dealings of such parties with franchisees; or
  • Requiring litigation or arbitration outside the franchisee’s state.

What do “franchise relationship” laws mean for franchisors?

Before you terminate a franchisee, consult with legal counsel to determine whether:

  • The termination is regulated by state statute; and
  • The procedures you must follow before effectuating that termination.

What is the impact of “franchise relationship” laws on franchisees?

You may have options. If you think you may have been unfairly terminated or your franchisor has refused to renew your franchise, speak with knowledgeable franchise counsel to determine your rights.

Bottom Line:  Whether you are buying or selling a franchise, know the law (or a franchise attorney). Be clear which laws and regulations apply to your franchise and the recourse you may have if they have been overstepped. Feel free to contact me, Julie Lusthaus at [email protected]  and let’s talk.


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