AB 2305 Would Make All Franchisors Apoplectic


Franchisors Avoid New Legislation That Would Further Hinder Franchising Operations In California

By Kevin A. Adams on November 08, 2012

California Assembly member Jared Huffman (D-San Rafael) and co-author Assembly member Tom Ammiano (D-San Francisco) recently introduced California Assembly Bill AB 2305 – “Level Playing Field for Small Businesses Act” – to the California Legislature. Franchisors operating in California are breathing a sigh of relief as the bill was, at least momentarily, derailed in committee last week.

While the authors suggest that the bill seeks to “respect the importance and rights of franchisors who have a responsibility to the overall brand and their other franchisees,” implementation of the bill could irreparably harm franchising operations in California. The California Franchise Relations Act and California Franchise Investment Law already impose heavy restrictions on franchisors operating in California. AB 2305 would make all franchisors apoplectic – by restricting the growth of franchise systems in California while proving infinite litigation possibilities for plaintiffs’ attorneys.

The bill, if passed, would impose a nebulous and litigation sensitive duty of good faith in the performance and enforcement of the franchise agreement, and also require franchisors to owe a duty of competence to franchisees. The terms “good faith” and “duty of competence” are so broadly defined (or undefined) that judicial involvement would be needed to resolve potentially minor disputes between a franchisor and franchisee. Moreover, the current contractual duty of good faith owed by each party under the operation of the franchise agreement would expand to non-contractual dealings between the parties. The competency requirement is unprecedented and not a part of any other state or federal law. Requiring this vague duty of competence and expanding the “good faith” standard beyond the obligations of the contract would likely expose franchisors to countless lawsuits.

Also advantageous to the Plaintiffs’ Bar, AB 2305 subjects franchisors to lawsuits for developing new franchise locations that may encroach upon the performance of an already existing outlet – no matter how distant. Encroachment is found if the existing location experiences a 6% or more decline in annual gross sales irrespective of the current market conditions.

Further compounding this proposed legislation aimed at franchisors, AB 2305 includes a onesided attorneys’ fee award in favor of the franchisees and also authorizes the recovery of treble (triple) damages – incentivizing plaintiffs’ lawsuits.

AB 2305 would also void any forum selection clause in a franchise agreement that provides for venue outside California regardless of the location of the franchisor’s headquarters or the nature of the dispute. Currently, judges and arbitrators exercise their discretion, on a case by case basis, as to the reasonableness of the forum selection clause. Restricting venue to California could significantly increase litigation costs to franchisors and have a negative impact upon the choice of law and other contractual provisions in the franchise agreements.

The bill would require a franchisor to perpetually renew a franchise unless the franchisee has substantially and materially breached the franchise agreement. The renewal must also be offered under the same terms as the existing agreement, or if the franchisee elects, under the franchise terms then being offered to new franchisees. The perpetual renewal would restrain franchisors from improving their systems and weeding out the poorly performing franchisees upon the expiration of their contracts. The bill would also force franchisors to recognize (and deal with) franchisee trade associations, in effect, treating these associations like labor unions.

Franchisors ability to terminate defaulting franchisees would also become more restrictive. California law currently allows franchisors to terminate franchise agreements with good cause, after written notice and a reasonable opportunity to cure “which in no event need be more than 30 days.” If enacted, AB 2305 would guarantee franchisees at least 60 days to cure before termination. Termination would then only be permitted following a “substantial and material breach.” This change would allow sub-standard franchise outlets to continue to offer inferior products and/or services to consumers that are not on par with the high standards necessary to protect the franchisor’s brand. This result would likely degrade the brand and adversely affect the business of franchisees that are in compliance with system standards. Franchisors could also be faced with more litigation involving the “substantial and material” nature of the breach.

AB 2305 would also require a franchisor to treat all of its franchisees in an identical manner, even if there are justifications for differential treatment. The results of this new requirement would prohibit a franchisor from rewarding a stellar franchisee or helping a disadvantaged franchisee.

There are several other restrictions and liabilities the lengthy bill seeks to impose upon franchisors operating in California. California law already scrutinizes franchise agreements closely and protects residents from unreasonable contract provisions, making many of the components of this bill unnecessary. If passed, the additional burdens of AB 2305 could thwart any expansion in California among the larger franchisors and push small franchisors out of California altogether.

Fortunately for franchisors, on April 24, 2012, the bill died in committee. With minor amendments, however, it is likely to be further pursued by the authors. Because this bill will have a detrimental effect on franchising in California, it must be monitored closely.

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