What To Do When a Franchisee Breaches the Agreement: Legal Options

When a franchisee breaches a franchise agreement, the franchisor may have several legal options, including giving the franchisee an opportunity to cure the breach, seeking damages, pursuing injunctive relief, or terminating the franchise relationship. The right option depends on the franchise agreement’s terms, the type of breach, and any applicable federal or state laws.

For legal help with a franchise dispute, connect with a business litigation attorney through the Super Lawyers directory.

Review the Franchise Agreement Before Taking Action

The first step a franchisor should take when they suspect a franchisee has violated the agreement is to review the Franchise Disclosure Document (FDD).

Look for provisions that address the alleged breach:

• What constitutes a default or breach
• Whether the breach must be material
• Notice requirements
• Cure periods
• Circumstances allowing immediate termination
• Contractual remedies
• Liquidated damages
• Indemnification
• Attorneys’ fees
• Arbitration or mediation requirements
• Choice-of-law and forum-selection provisions
• Post-termination obligations
• Noncompete or other restrictive covenants

Franchise agreements often address different types of violations. Not all violations have the same available remedy.

Give the Franchisee Notice and an Opportunity To Cure

You may be required to give the franchisee notice of the breach and an opportunity to cure it. Don’t violate the agreement yourself. Document your own actions by sending a written notice of default. This creates a record and timeline of the breach. You may need to provide proof of notice if you pursue legal action.

The franchisee may have a specified period to correct the breach. The notice-and-cure process can give the franchisee an opportunity to bring the business back into compliance without terminating the relationship. Common curable breaches include failing to pay required fees, address operational deficiencies, maintain required insurance, and fulfill reporting obligations.

Use Contractual Remedies Short of Termination

Termination can be a serious step, and it is not necessarily the only way to handle breach of contract claims. The agreement may allow the franchisor to require additional or remedial training, increase its oversight of the franchise, or impose certain restrictions until the franchisee corrects the problem.

Some agreements also include financial remedies or other measures specifically designed to address particular types of defaults. The available remedies depend on what the parties agreed to in the franchise agreement.

Some franchise agreements also give franchisors step-in rights. These provisions may allow the franchisor to temporarily take over certain operations or perform particular functions when the franchisee fails to meet its obligations. These provisions protect the franchise system or keep the business operating while the underlying problem is addressed.

Seek Monetary Damages

If a franchisee breaches the agreement and the breach causes the franchisor a legally compensable loss, the franchisor may be able to pursue monetary damages. Depending on the circumstances, the franchisor may also have a claim for other losses resulting from the breach. Some agreements provide for attorneys’ fees and litigation costs when a party has to take legal action to enforce the contract.

Some franchise agreements include liquidated damages provisions, which establish an amount or formula for calculating damages if a specified breach occurs. Rather than leaving the parties to argue over the amount of the loss later, the contract addresses damages in advance.

That does not automatically make the provision enforceable. Courts can distinguish between a valid liquidated damages provision and a contractual penalty, and the rules for making that determination vary by jurisdiction. The agreement’s language and the circumstances surrounding the provision can also matter.

Seek Injunctive Relief

Money may not always solve the problem when a franchisee is violating the agreement. In some situations, a franchisor may ask a court for an injunction, which is a court order requiring the franchisee to stop certain conduct or take a particular action.

For example, a franchisor may seek an injunction when a franchisee continues using the franchisor’s trademarks after termination, discloses confidential information, operates in violation of enforceable post-termination restrictions, or takes other actions that threaten the franchisor’s intellectual property or goodwill.

Because an injunction is an equitable remedy, the franchisor generally must meet the legal requirements for this type of relief. Depending on the circumstances, irreparable harm can be an important consideration. A franchisor may need to show that monetary damages alone would not adequately address the harm caused by the franchisee’s conduct. Requirements for obtaining an injunction vary by jurisdiction and circumstances.

Terminate the Agreement

Termination may be the remedy that comes to mind first when a franchisee seriously violates the agreement, but a franchisor cannot necessarily end the relationship simply because it believes the franchisee breached the contract. Whether termination is available depends on the agreement, the nature of the breach, and applicable franchise laws.

A franchise agreement may allow termination when the franchisee commits a material breach, fails to correct a breach within the required cure period, or commits a violation that the agreement identifies as grounds for immediate termination. The agreement should spell out what constitutes a default and when that default gives the franchisor the right to terminate.

Check State Franchise Relationship Laws Before Terminating

Before terminating a franchisee, a franchisor must also determine whether state franchise relationship laws apply. Those laws can impose requirements that affect when and how a franchisor may terminate, even when the agreement contains its own termination provisions.

Depending on the state, franchise laws may address good cause, notice, cure periods, timing, nonrenewal, and other franchisee protections. The requirements can vary considerably from one jurisdiction to another, so a termination procedure that works in one state may not work in another. State law may require additional notice or an opportunity to cure, or it may limit termination to circumstances that meet a statutory standard.

Enforce Post-Termination Obligations

A franchise agreement may include requirements that continue after termination, particularly those designed to protect the franchisor’s brand, confidential information, and intellectual property.

The former franchisee may be required to stop using the franchisor’s trademarks, remove signs and other branding, return proprietary materials, and stop accessing confidential systems or information. The agreement may also require the franchisee to pay outstanding amounts or address inventory, equipment, or other franchise property.

Consider Negotiation, Mediation, or Arbitration

A franchise breach does not always have to end in a lawsuit. Depending on the circumstances, a franchisor may resolve the dispute through negotiation, mediation, or arbitration. These options give both parties a chance to address the problem without immediately taking the fight to court.

If both parties want to preserve the franchise relationship, an agreement may let them move forward without terminating the contract.

Before pursuing any of these options, review the franchise agreement’s dispute-resolution clause. The agreement may require the parties to attempt mediation or submit certain disputes to arbitration before filing a lawsuit. It may also specify where and how to resolve the dispute. Skipping a required step could create additional legal complications.

What Happens If the Franchisee Disputes the Breach?

If the franchisor sends a default or termination notice, the franchisee may push back, dispute what happened, or argue that the franchisor did not follow the agreement. The franchisee might argue that no breach occurred or that the alleged violation was not serious enough to justify termination.

The franchisee may also claim that the franchisor failed to provide the required notice, that the problem was cured within the permitted period, or that the franchisor skipped a step required by the franchise agreement. If state franchise laws apply, the franchisee could also argue that the franchisor failed to satisfy those requirements.

A franchisee might argue that the franchisor previously allowed similar conduct and therefore waived its right to enforce a particular provision. It may also disagree with the franchisor’s interpretation of the agreement and contend that the contract does not mean what the franchisor says it means.

That is why documentation matters. Before taking action, a franchisor should have a clear record of the alleged breach, communications with the franchisee, notices that were sent, opportunities to cure, and any steps the franchisee took in response.

Talk to a Franchise Lawyer

A breach does not necessarily end a franchise relationship, and it does not necessarily give a franchisor unlimited freedom to terminate one. A franchise attorney can help you interpret the agreement, identify applicable franchise laws, and develop a response to the breach.

If you are dealing with a franchise dispute, use the Super Lawyers directory to find a business litigation attorney who can help you evaluate your legal options.