Dissecting AB-525: What You Need To Know About The Recent Amendment To California’s Franchise Laws
By Kevin A. Adams on October 22, 2015
The second week of October 2015, the franchise legal community gathered in New Orleans to attend the American Bar Association’s 38th Annual Forum on Franchising. This three-day event offered nearly two dozen educational seminars and always provides a great opportunity for franchise practitioners to network with like-minded attorneys and paralegals from around the globe. One topic that generated some discussion in the seminars – and much more attention in the halls – is California’s recent changes to its franchise laws. As one in-house counsel emphatically asked, “what is California doing now, and how will this affect our business in California?"
This paper attempts to answer those questions and provide insight to franchisors on what effect, if any, AB-525 may have on their franchise operations in California going forward.
Background of AB-525
On October 11, 2015, Governor Jerry Brown signed into law Assembly Bill 525, thereby amending the existing California Franchise Relations Act (“CFRA") located at Ca. Bus. & Prof. Code §§ 20020, et seq. This action by the Governor comes a little more than a year after he vetoed Senate Bill 610 – the more controversial predecessor to AB-525.
AB-525’s final form represents a compromise between the International Franchise Association (“IFA"), the Coalition of Franchisee Associations, the Service Employees International Union, the Chamber of Commerce, and the Civil Justice Association, among others. At the time the bill was submitted to the Governor for signature, it had no formal opposition. In contrast, SB-610 had more than 47 identified opponents, including the IFA, the Chamber of Commerce, and numerous franchisors.
While snaking its way through the legislative process, AB-525 eventually received “aye" votes from an overwhelming majority of the Assembly (56 to 12), and unanimously passed through the Senate (37 to 0). By the time the AB-525 reached Governor Brown, it was a matter of “when" – not “if" – the bill would become law.
The final form of the bill made some significant – and other insignificant – changes to the existing CFRA. The more significant changes involve the termination, nonrenewal, and sale/transfer of an existing franchise business. Also, perhaps the most notable change involves the significant expansion upon the remedies available to a franchisee for a violation of the CFRA. Each of these changes to the existing law is addressed below.
Under the prior version of the CFRA, franchisors were allowed to terminate their franchise relationships early for “good cause," which included failure to comply with any lawful requirement of the franchise agreement following written notice and a reasonable opportunity to cure of no less than 30 days. Franchisors could also refuse to renew a franchise agreement simply by providing the franchisee with 180 days written notice of its intent to not renew.
The amended CFRA makes substantial changes to both the termination and nonrenewal aspects of the franchisor/franchisee relationship. These changes are summarized as follows:
- The definition of “good cause" – required for a lawful early termination of a franchise agreement – has been revised to now mean the failure of the franchisee to substantially comply with the lawful requirements imposed by the franchise agreement after being given notice and a reasonable opportunity to cure (§ 20020);
- In all but a few statutorily defined circumstances (see infra), the franchisee now has 60 days to cure the default, effectively doubling the 30-day cure period set forth in the prior version of the CFRA (§§ 20020, 20021); and
- Immediate termination of the franchise agreement is permitted when the franchisee fails to comply with federal, state, or local laws or regulations, “including, but not limited to, all health, safety, building, and labor laws or regulations," following 10 days’ notice of the noncompliance (§ 20021(e)).
Notwithstanding the above, a franchisor may still immediately terminate a franchise agreement without an opportunity to cure under the following limited circumstances: (i) the franchisee has filed bankruptcy, is judicially determined to be insolvent, assets have been assigned to a creditor, or admits that he/she are unable to pay debts as they come due; (ii) the franchisee abandons the business by failing to operate it for five consecutive days; (iii) the parties enter into a mutual agreement to terminate; (iv) the franchisee makes material misrepresentations relating to the acquisition of the business or engages in conduct which reflects materially and unfavorably on the franchise system; (v) the franchisee, after curing any default within the 60-day notice period, engages in the same noncompliance; (vi) the franchisee repeatedly fails to comply with one or more requirements of the franchise agreement; (vii) the franchise business is seized, taken over, or foreclosed by the government or a creditor; (viii) the franchisee is convicted of a felony; or (ix) the continued operation of the franchise will result in an imminent danger to public health or safety. (§ 20021(a)-(e), (f)-(i), (k).)
It is also noteworthy that a franchise agreement can still be lawfully terminated under the CFRA by the franchisor on shorter notice in the event the franchisee fails to pay any franchise fee or other amounts due to the franchisor or its affiliate within five days after receiving written notice that the fees are overdue. (§ 20021(j).)
In the event the franchisor lawfully terminates or refuses to renew a franchise agreement, it still must compensate the franchisee for all inventory, supplies, equipment, fixtures, and furnishings purchased or paid for by the franchisee from the franchisor (or its approved suppliers and sources under the terms of the parties’ agreements), that are, at the time of the notice of termination or nonrenewal used in the franchise business. (§ 20022(a).)
Transfer of Existing Franchise
Previously silent on the topic, the amendments to the CFRA now heavily regulate the transfer and resale of an existing franchised business. AB-525 has made it unlawful for a franchisor to prevent a franchisee from “selling or transferring a franchise, all or substantially all of the assets of the franchise business, or a controlling or non-controlling interest in the franchise business, to another person provided that the person is qualified under the franchisor’s then-existing standards for the approval of new or renewing franchisees." (§ 20028(a).)
Although it appears to be a mere formality in light of the language above, the franchisee is still not permitted to transfer its franchise without first acquiring the written consent of the franchisor, which shall not be withheld unless (i) the transferee does not meet the franchisor’s then existing standards for approval of new or renewing franchisees, (ii) the franchisee and/or transferee do not comply with the transfer conditions specified in the franchise agreement, or (ii) the franchisor exercises its contractual right of first refusal to purchase the franchise subject to the terms of the parties’ agreement and payment by the franchisor at least equal to that made in the bona fide offer by the transferee. (§ 20028(b)-(c).)
These changes to the law are also intended to expedite the time required for the sale or transfer of a franchise. The franchisor must notify the franchisee, in writing, of its approval or disapproval of the contemplated transfer within 60 days of receiving certain information on the proposed transfer. Should the franchisor fail to provide written approval or disapproval within the 60 day period, the sale will be deemed to have been approved by the franchisor. (§ 20029(b).)
New Remedies Available Under the CFRA
Historically, the CFRA has been treated as a franchise statute without teeth. Before the recent amendments, a franchisor that terminated or failed to renew a franchise relationship in violation of the CFRA was only required to “offer to repurchase from the franchisee the franchisee’s resalable current inventory meeting the franchisor’s present standards that is required by the franchise agreement or commercial practice and held for use or sale in the franchised business at the lower of the fair wholesale market value or the price paid by the franchisee." It should be no surprise that this limited remedy under the CFRA left much to be desired.
With the enactment of AB-525, damages available to the franchisee under the CFRA have increased dramatically. Now, any franchisor that terminates or fails to renew a franchisee in violation of the CFRA may be required to pay the franchisee “the fair market value of the franchised business and franchise assets and any other damages caused" by the franchisor’s violation. (§ 20035(a).) Also, the amended statute now allows for preliminary and permanent injunctive relief in order to help a franchisee temporarily thwart a termination when violations of the CFRA have been alleged. (§ 20035(b).)
What Can We Expect From AB-525?
According to its authors, AB-525 was designed to revise the “rights and responsibilities of franchisors and franchisees under the CFRA, primarily with respect to the termination of franchise agreements and the sale or transfer of franchise businesses." While the CFRA did leave something to be desired – most notably, with respect to the limited remedy available under the statute – many franchise lawyers are concerned that some of the language in the new law creates ambiguity in the enforcement of franchise contracts that will promote a non-trivial amount of litigation between franchisees and franchisors.
This legal uncertainty is epitomized in AB-525’s change to the definition of “good cause" required to terminate the franchise agreement of a noncompliant franchisee. A franchisee’s obligation to fully comply with the lawful terms and obligations of the franchise agreement has now been replaced with the amorphous “substantial" compliance. Does this mean a franchisee can ignore certain contractual provisions in the franchise agreement so long as he/she is following the bulk of the contract? Undoubtedly, courts will be faced with several years of navigating this new legal standard before “substantial compliance" has any real clarity. In the meantime, California franchisees may rely on the amendments to the CFRA to avoid unfavorable provisions in their franchise agreements.
Likewise, litigation involving the sale, assignment or transfer of an existing franchise is likely to increase in light of the changes to the CFRA. The reasonableness of a franchisor's decision to reject a sale or transfer is now a question of fact requiring the fact finder to consider all of the existing circumstances surrounding the franchisor’s system and reasonableness of the franchisor’s transfer and/or sale standards. In an effort to avoid expensive litigation on this topic, many franchisors may feel pressured to approve sales and transfers of existing franchised businesses even when the transferee appears to fall short of the franchisor’s then existing standards. No one – not the franchisor or the existing franchisees – wants an unqualified franchisee in the system.
AB-525 does not apply retroactively to existing franchise contracts. Instead, its application is limited to franchise agreements entered into or renewed after January 1, 2016, or to franchises of an indefinite duration that may be terminated without cause. This should provide franchisors an opportunity to work closely with their legal counsel to gain a better understanding of the “good cause" that is needed to terminate a franchise agreement, and to revisit, and possibly revise, the standards governing to the transfer and/or sale of an existing franchise.
While the final version of AB-525 signed by Governor Brown is mild compared to the original version of the bill and its predecessor bill SB-610, it is still a cause of concern for franchisors and their counsel. Many California franchisees are already emboldened – and often overconfident in their legal positions – in light of California’s liberal franchise laws, unfair business practice laws, and prohibition on restrictive covenants, among other things. It appears that the enactment of AB-525 will only bring more of the same, resulting in expensive and time consuming litigation for those franchisors doing business in California.
This case report was prepared by Kevin A. Adams (email@example.com), of the Irvine law firm of Mulcahy LLP. Mulcahy LLP is a boutique litigation firm that provides legal services to franchisors, manufacturers and other companies in the areas of antitrust, trademark, copyright, trade secret, unfair competition, franchise, and distribution laws.
Disclaimer: While every effort has been made to ensure the accuracy of this article, it is not intended to provide legal advice as individual situations will differ and should be discussed with an experienced franchise lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.
 The full final text of the AB-525 can be viewed here: http://leginfo.legislature.ca.gov/faces/billTextClient.xhtml?bill_id=201520160AB525.
 The franchisors who voiced formal opposition to SB-610 include AAMCO, ACFN Franchised, Inc., Allied PRA, Always Best Care Senior Services, AmeriSpec & Furniture Medic, Aussie Pet Mobile, Inc., Bach to Rock, Bottle & Bottega, BP America (AM PM), BrightStar Care, California Closets, California Grocers Association, California Manufacturers & Technology Association, Civil Justice Association of California, FASTSIGNS International, Fatburger, FirstService Brands, FOCUS Brands (Auntie Anne’s, Carvel, Cinnabon, Moe’s Southwest Grill, Schlotsky’s), FranNet, Go Mini’s Moving & Portable Storage, Home Instead Senior Care, Instant Imprints, Interim Health Care, Jani-King, Keepsake Companions Inc., KidsPark, Max Muscle Sports Nutrition, Menchie’s, Merry Maids, Mr. Rooter of Sonoma County, MSA Worldwide, No Frill Franchising, Inc. – Instant Imprints, Right at Home, Round Table Pizza, Scooter’s Jungle, ServiceMaster Clean, Sir Speedy, Inc., Sizzler USA, Inc., Sky Zone Franchise Group, LLC, Star Franchise Association, The Dwyer Group (AirServ, Glass Doctor, The Grounds Guys, Mr. Appliance, Mr. Electric, Mr. Rooter, Portland Glass, Rainbow International), The UPS Store, Inc., Two Men And A Truck, and West’s Insurance Agency.
 While the repurchase of inventory was the sole remedy available under the statute, contract damages including those arising from a violation of the implied covenant of good faith and fair dealing were typically pursued in conjunction with any CFRA violation.
 AB-525 was authored by Assembly Majority Leader Chris Holden (D-Pasadena), and jointly authored by Assembly Speaker Toni Atkins (D-San Diego), Assembly Member Bill Dodd (D-Napa) and Assembly Member Scott Wilk (R-Santa Clarita).