Selling Your Franchise: Documents Needed & Timeline Expected

When it’s time to make a deal, parties must negotiate a letter of intent, conduct detailed due diligence, and carefully review the purchase agreement. Below, we’ve discussed the selling process in detail, including the documents needed and the timeline expected.

Letter of Intent

A letter of intent outlines the general terms of an agreement between a buyer and seller. Its primary purpose is to aid the acquisition process and set the framework for the purchase agreement. A letter of intent typically states that parties will sign a purchase agreement within a set period of time, or they will lose exclusivity. This way, the buyer has time to conduct due diligence, and the seller can move on if the buyer moves too slowly.

Specifically, this is the information you can expect to find in a letter of intent:

• Names of parties involved in the transaction.
• Name of business to be acquired.
• Purchase price.
• Terms of payment.
• Whether or not the letter of intent is binding.
• The parties’ plan to engage in “good faith” negotiations and sign a purchase agreement.
• Any contingencies to the transaction.

Before finalizing this critical document, a potential buyer should have already reviewed outstanding franchise disputes, sales activity, and revenue trends to determine price and key terms.

After signing the letter of intent, the due diligence process can move forward.

Due Diligence

During the due diligence process, the seller should thoroughly investigate and analyze the buyer, especially concerning financials, to assess the value and the risks associated with the purchase. The seller’s analysis will ascertain if the buyer has any red flags. There are many aspects to consider during due diligence. We’ve outlined them below.

Important Questions to Consider

1. Is the buyer a good fit?

2. Is the buyer committed to closing the transaction?

3. Is the buyer financially capable of purchasing?

4. Will the buyer communicate well with the franchise team?

5. Is the buyer reasonable and fair in the negotiations?

Set Realistic Goals

It’s essential to set realistic goals. These goals may change depending on the specific relationship between buyer and seller. For example, if the buyer is a competitor of the seller, there may be limited access to information that could hurt the seller if the deal doesn’t go through.

Compile a Checklist

The due diligence process is complex and is best done with help from an experienced franchise lawyer. Legal counsel can provide a due diligence checklist (a list of required documents that buyers may request from seller). Typically, a basic checklist may contain some or all of the following:

1. Information about the seller that will confirm its organization is in good standing.
2. The seller’s financial information (financial statements and income tax returns) for at least the last three fiscal years.
3. All contracts, including the franchise agreement, real estate leases, nondisclosure, or non-competition agreements.
4. Employee information.
5. Details of any lawsuits or legal proceedings in the prior five years.
6. Any Information to help determine the length of time between purchase and a return of the invested capital.
7. All licenses, permits and consents required to operate the franchise.
8. A title and lien search against the seller and its owners.
9. Copy of the FDD provided to the seller and the franchisor’s current FDD.

Helpful tip: After a request for documents has been made, set up an initial call to set the tone for the selling process.

Research Intellectual Property

Intellectual Property forms the foundation of the franchise and includes service marks and trademarks, proprietary software, operations manuals, confidential information and IP assets. Each one of these assets needs to be assessed. And the assessment should determine the assets’ current environment as well as the future environment in which it might operate.

Review Franchise Agreements

The franchise agreement documents the relationship between parties and the franchise’s worth. First, the buyer should review any earlier versions of the franchise agreement and determine how they differ and when they expire. The buyer should also review the franchise agreement to determine if the seller has the flexibility to respond to changes in the marketplace. For example,

franchisors may be able to require that franchisees implement changes like adding a drive-through or changing restaurant seating availability.

Within the franchise agreement, pay close attention to the following:

• Assignability of Franchise and Other Key Agreements.
• Scope of Grant/Reservation of Rights.
• Addressing Territory Conflicts.
• Flexibility to Modify the System.
• Necessity/Ability to Re-Brand the System or Individual Units.
• Number of Negotiated Changes.
• Special Deals and Atypical Provisions.
• Existence of Promises or Oral Agreements Outside of the Written Contract.
• Enforcement Practices of Franchisor.
• Reviewing the Operations Manual.

Investigate Purchase and Supply Chain Issues

Purchasing and supply chain issues can play a significant role in determining the value of a franchise. The buyer will need to do due diligence relating to purchase-related issues. For example, ask questions like, “What services or goods must the franchisee acquire?” and “How has the seller designed acquisition and control over the purchase of the goods or services?”

Talk to Stakeholders

Communicate with the buyers directly instead of simply taking the word of the seller’s internal records. Talk directly with stakeholders. They may offer helpful insight not included in the documentation.

Consider Cross-Border Issues

When dealing with a franchise in another jurisdiction, consulting with legal or tax advisors is a good idea. This will help structure the transaction and interpret the results of due diligence and help when drafting the purchase agreement.

Compliance with Franchise Sales and Relationship Laws/Practices

Failure to comply with franchise and business opportunity laws regarding the offer and sale of franchises can cost regulatory actions, legal claims, or challenges to future enforcement of franchise agreements. Buyers should review the franchise’s compliance with franchise sales laws and franchise relationship laws. Particularly, take a look at the Franchise Disclosure Document. This is prepared by the seller and outlines the Disclosure of Franchise Agreement Provisions, Litigation, and Financial Performance Representations. The buyer will also need to determine if the seller has taken a disciplined approach to its franchise sales practices and ongoing franchisee administration.

The Purchase Agreement

The letter of intent is the basis for negotiating the purchase agreement, which contains the final terms regarding the buyer’s purchase of the franchise. The purchase agreement should include all provisions from the letter of intent. It’s usually negotiated at the same time as preliminary due diligence, and preliminary due diligence results may determine the agreement’s terms, including risk-reducing provisions if due diligence reveals any red flags.

The purchase agreement will contain recitals detailing the parties and the nature of the transaction. The purchase agreement should be carefully designed for the specific transaction’s specific terms. It should also identify the assets to be purchased by the buyer. This includes hard assets and intangibles. For example, assets can be the seller’s furniture, equipment, business records, personnel records, inventory lists, customer lists, third-party contracts, real estate leases or equipment leases, and any rights under the franchise agreement. The purchase agreement will also likely include a catch-all phrase like “any and all assets necessary to operate the business….”.

The purchase agreement might include common clauses, such as those listed below.

• the purchase price.
• any adjustments to be made at closing and post-closing.
• price allocation and taxes.
• seller’s non-competition clauses.
• representations and warranties of both seller and buyer as of the date of the Contract and the date of closing.
• Seller’s covenants or obligations prior to closing.
• Information re employees of the business, i.e., what will happen to them after the sale?
• Conditions that must occur before the buyer proceeds with acquisition.
• Conditions that must occur before the seller proceeds with acquisition.
• Anticipated closing date and location.
• Identification of documents and other instruments exchanged at closing.
• Parties’ indemnification obligations.
• The survival period under which all representations and obligations will remain in effect.
• Further assurances, such as a provision stating that parties will execute and deliver instruments/action reasonably requested to complete the transaction outlined in the purchase agreement after the closing.
• Confidentiality provision.
• A section of miscellaneous boilerplate provisions, like the risk of loss, broker fees, schedules.

When the purchase agreement is finally signed, the expectation is that the actual transfer of the business will happen at a later date.

Timeline for Selling your Franchise

The timeline to complete the letter of intent, due diligence and finalize the purchase agreement varies significantly from case to case. Ideally, due diligence begins before the letter of intent is signed. Any key issues have already been identified. For example, issues surrounding outstanding disputes, sales activity, and revenue trends. A deeper dive into legal and financial research takes place after the letter of intent is signed. However, multiple factors, including the size of the franchise and the seller’s record-keeping practices, all affect the timeline to do a thorough analysis.

Work with an Experienced Franchise Attorney

Selling your franchise involves many business considerations and legal issues. Hiring an experienced franchise attorney can help you understand the complexity of franchise law and ease you through the selling process. A consultation may also give you a better idea at the timeline relevant to your specific sale. Contact us to schedule a consultation.