What happens if a franchisor fails?

The UK operations of coffee shop franchises Coffee Republic and O’Brien’s Sandwich Bars have recently gone into administration. With the economic climate there is a risk that other franchises will follow - what does this mean for the Franchisor and the Franchisees?

Administration is a rescue mechanism for UK companies in severe financial trouble. It allows them to continue to trade as a going concern, with supervision from an appointed administrator, in order to try and trade out of the difficulties. An administrator will look to reduce losses, by reducing overheads, and will look for a buyer for the business. During this time it will be business as usual for the franchisees – the franchise agreement will normally permit a franchisor to transfer the franchise to a third party, which will include the administrator and in turn any purchaser. There is not usually any right for the franchisees to have any say as to the proposed purchaser. However, an incoming owner would be foolish to ignore the views of the franchisees with which it will have to work in the future, with the consequence that, where there is a strong brand, the franchisees may actually have some influence over such decisions, even if indirectly.

The administration may also provide an opportunity for the franchisees themselves to come together to purchase the franchise, but they will need to act quickly and will need to ensure they avoid the liabilities of the existing franchise business – assistance from legal and financial advisors should be obtained.

If a buyer cannot be found, if the business is not suitable for administration, or cannot be turned around by an administrator then it may go into insolvent liquidation. This will mean that there is no longer a franchisor to enforce the terms of the franchise agreement, so effectively the franchisees will be left to their own devices. For many franchisees this will mean no longer having the support and strategy that they are used to, which will have supported and strengthened the franchise brand. The risk will be that franchisees will be able to go their own way and that could be damaging to the brand, which will affect all others continuing to use the brand. Equally, it may result in increased costs for franchisees, since the group arrangements where economies of scale can be achieved will cease, or be re-negotiated, or services provided by the franchisor will have to be taken in-house. New franchisees are likely to suffer the most, since they will have paid their franchise fee on the basis of the support and guidance that the franchisor would supply and will not receive that benefit.

The different consequences that arise when a franchisor is experiencing financial difficulties mean that both franchisors and franchisees should ensure they are aware of their rights and obligations in accordance with the different situations. With all such things it is better to take advice early rather than later to ensure the best route is taken; Birkett Long’s franchise specialists are able to draw on the expertise of the firm’s Insolvency Team, to assist both franchisors and franchisees in this respect.