Franchises and Remodel Requirements

Franchisors typically reserve the right to make modifications to their system on an ongoing basis, with which franchisees must comply at their expense.  However, when it comes to remodeling or upgrading a brick-and-mortar location, the cost to upgrade can be significant.  Brick-and-mortar franchises will usually have a section in the Franchise Agreement addressing renovations to the physical location, such as remodeling, refurbishments, updates, upgrading or replacing equipment, et cetera.  These types of provisions should specify at what frequency upgrades are required, a timeframe regarding notification and deadlines, and possibly how much the franchisee will have to spend. 

Unfortunately, many franchisors have only a very vague statement regarding improvements.  A recent example we saw stated, “You are obligated to comply with all modifications to system standards, including a capital modification, within the time period we specify.”  This type of provision is so wide open that you never know when a modification might happen, how much it will cost, nor how much notice might be given.

Notification and Timeline for Franchise Remodels

As a franchisee, one would hope to be given ample notice of any costly, mandatory improvements or purchases for the business.  At the very least, the Franchise Agreement should lay out that there will be a written notice and a minimum number of days notification from the franchisor.  For instance, “…upon not less than 30 days’ written notice to the franchisee.”  Ideally, the expected timeline for complying with the franchisor should be relative to the size of the project and the expense.  In other words, the more money one needs to invest for implementation of the modifications, the more notification and length of time to comply would be expected.  A good example of a provision in a Franchise Agreement might state, “We agree to give you up to 90 days to comply with capital modifications we require. However, if a capital modification requires an expenditure of more than $20,000, we agree to give you up to 180 days from the date such request is made to comply with such capital modification.”  In some franchised model systems, it may be explicitly stated that franchisees must upgrade their location or showroom every so many years.  This might be common in a furniture showroom, or any type of franchise where it is important to keep up with changing market styles and trends.  A Franchise Agreement with this type of provision makes it easier  for the franchisee to plan, save, and prepare for the required capital improvements.

The Cost of Renovations and Remodeling a Franchise Location

There is a wide range of upgrades and improvements that a franchisor could initiate, leading to extreme differences in the cost.  Renovations may only involve painting and updating signage, or it could possibly be an entire remodel of both the interior and exterior of the location.  Some franchisors might have a minimum amount they want franchisees to spend, and that may be enough to satisfy the franchisor.  However, if a franchisor is updating the look of their entire brand, the dollar amount may be excessive.  A term we often see in Franchise Agreements is compliance to the “then-current standards.”  For example, “Franchisee must add to, improve, modify, and remodel Franchisee’s center, facility, center equipment, center fixtures, and/or center furniture to comply with and satisfy Franchisor’s then current standards.”  The frequency of getting up to the “then-current” improvements varies depending on the industry, but it is almost always a condition of the franchisor’s approval before the sale of a franchised business.  In these cases, there may be no amount stated, and that is where it gets risky.  The ideal would be to have a cap on the maximum amount that a franchise owner will have to spend at any time that a remodel or upgrade is mandated.

Return on Investment in Remodeling a Franchise Location

Will it be worth it?  Most franchisees would agree that reasonable modifications and improvements are beneficial to keep up with competitors, consumer tastes, and technology.  The main concern a franchisee would have is whether or not they will recoup the costs of their investment.  This will depend greatly upon how many years are left in the term of the franchise agreement.  The ideal franchisor will not obligate their franchisees to make capital modifications when such investment cannot be amortized during the remaining term or a new term of the Franchise Agreement.

Addendums to the Franchise Agreement

Sometimes addendums can be negotiated and added to the Franchise Agreement.  These addendums can be written to include a cap on the amount that a franchisee must spend, or state that one only needs to comply with upgrades if there are a certain number of years remaining in the term of the Franchise Agreement.  These sorts of negotiated provisions are more likely with an start-up or emerging franchisor. 

Failure to Update, Remodel, or Upgrade a Franchise Location

The best practice to follow would be to consult with legal counsel before ignoring any system modifications that a franchisor announces.  If a franchisee does not comply, the franchisor may step in, send a notice of default, or terminate the Franchise Agreement.  There may be language that says something along the lines of the following:

If Franchisee fails or refuses to initiate within 30 days after Franchisor’s request, and/or fails to continue in good faith and with due diligence, any required improvement, modification, refurbishment, renovation, and/or remodel of Franchisee’s Center, then Franchisor has the right, but is not obligated, to enter upon Franchisee’s Center Facility and Franchisee’s Center Location and effect such improvement, modification, refurbishment, renovation, and/or remodel on Franchisee’s behalf, and Franchisee must pay the entire cost to Franchisor on demand.

In effect, the franchisee must pay for the remodel anyway.  Franchisor may send a notice of default indicating a time and opportunity to cure, or fix, the alleged default.  The franchisor may terminate the franchise agreement altogether and charge the remaining expected royalties due for the remainder of the term of the franchise agreement.

It is important to have legal counsel at all stages of your franchised business.  Have your franchise agreement reviewed by an attorney before you sign it so you understand exactly what the expectation will be.  Some things can be prevented, others negotiated, and others resolved before it comes to a situation of being at risk of default or termination.   In situations where a franchisee is facing a default, we can determine if the remodel or upgrade is allowed for under the franchise agreement and any applicable remodel policy. Engage legal counsel as soon as there is a disagreement, or you might be in default or termination.  In any case, Luther Lanard can assist.  We are here for franchise document reviews, drafting and negotiating franchise agreement addendums, pre-litigation dispute resolution, and arbitration/litigation cases, if necessary.

Tips:

#1 Know your Franchise Agreement.  Have your franchise agreement reviewed by an attorney who specializes in franchise law before you sign it so you understand what exactly the expectation will be.  Go through it and look to see what kind of provisions are in the franchise agreement you have signed.  Search for the sections that talk about remodel or upgrade requirements. 

#2 Negotiate terms of your franchise agreement.  Some franchisors are open to negotiation.  You can hire an attorney to handle negotiations and to draft the addendum.

#3 Plan ahead for upgrades that are foreseeable.

#4 Contact an attorney like Luther Lanard as soon as you think you may be in danger of receiving or have received a notice of default.  Our legal professionals can often help resolve the issue or negotiate an amicable solution depending on your situation.