Firm Warns California’s Franchise Law Could Change Landscape of Franchising

WASHINGTON, D.C. - In Gray Plant Mooty's recent webcast, the moderator began the session stating that they would advise franchisors how they should deal with California's Assembly Bill 525, passed into law last year, and what the requirements and issues would be. More importantly, they would recommend what franchisors must do now to avoid costly mistakes.

Moderator Carl E. Zwisler of Gray Plant Mooty in Washington DC introduced the speakers of the powerpoint presentation: Aaron Chaitovsky, CPA, partner with Citrin Cooperman in New York; and Jan S. Gilbert, also a principal at Gray Plant Mooty in Washington, DC.

In answer to the question, why is AB 525 unprecedented, attorney Zwisler explained that when the franchisee defaults, the franchisor pays. "Franchisors must provide written standards for approving new and renewing franchisees when a transfer approval is requested," he stated.

In a press release issued on August 31, the principal sponsor of California AB 525 Assembly Majority Leader Chris Holden stated, "This bill makes it more difficult for major corporations to terminate franchisee agreements. Following a multi-year stalemate, these amendments add clarity that decreases the potential for litigation, and increases franchisor accountability."

Zwisler firmly emphasized, "Ladies and gentlemen, at the conclusion of these 60 minutes I believe you will disagree strongly with the conclusions of Mr. Holden. As AB 525 worked its way through the amendment process in California legislature, we followed it closely, concerned as to how it would affect franchise relationships. He said when the bill passed he and partner Jan Gilbert began discussing how it could change the landscape in franchising in California.

After reviewing past law and case law in the state, Zwisler asked how does the new law change terminations? First, if franchisors comply with termination requirements under AB 525, in any circumstance where the franchisee obtains control over the premises of the franchise business, the franchisor will be required to repurchase the franchisee's assets.

Secondly, whenever a franchisee proposes to transfer a franchise or an interest in the franchise business the franchisor will be required to provide that franchisee with its standards for approving "new" or "renewing" franchisees, and those are the standards that will apply to his transfer.

Finally, if a franchisee refuses to terminate or is in violation of the law, the franchisor is required to pay the franchisee the fair market value of the franchise, plus the fair market value of the franchise assets, and any damages the franchisee sustains. Zwisler said, "So, it's easy to conclude after reviewing this bill that franchisors will face considerable difficulty if they terminate or refuse to renew a franchise. Or if it refuses to consent to a transfer of a franchise in California. This law applies to all franchises granted or renewed after January 1, 2016."

After looking at all of these issues related to the new bill, Zwisler told his audience "You might ask yourself is franchising in California still worth the risk? And can these risks be mitigated?" Zwisler said they have identified at least fifty issues with the language of the law, and they draw the opposite conclusion from Assemblyman Holden. He said, "This law does anything but clarify termination and non-renewal procedures in California."

He further suggests, "Use the franchise agreement and use language that you draft, and draft language in your operations manual. Consider drafting an asset purchase agreement to define the ambiguous terms in the new law, and establish a process for addressing the purchase option. Draft transfer approval standards now so that you have a better chance of meeting the standards of the new law.

Reviewing California AB 525, Sect. 20020: Except as provided in Sect. 20021, good cause shall be limited to the failure of the franchisee to substantially comply with the lawful requirements imposed upon the franchisee by the franchise agreement after being given notice at least 60 days in advance of the termination and a reasonable opportunity, which in no event shall be less than 60 days from the date of the notice of noncompliance, to cure the failure. The period to exercise the right to cure shall not exceed 75 days unless there is a separate agreement between the franchisor and franchisee to extend the time.

Zwisler reminded that prior to AB 525, franchisors were required to give reasonable notice, at least 30 days in advance of termination, and a reasonable opportunity to cure, which now will range between 60 to 75 days. "For those of you who are considering drafting around this, what is substantial compliance or non-compliance? And how do you know whether a 60-day notice of termination is reasonable, or whether a 60-day or 75-day cure period is reasonable?

In conclusion, the presentation speakers warned that AB 525 changes the cost and risk of franchising in California for franchisors, especially those that want to control the real estate following the termination of a franchise. They stress, "Although the legislation abounds with ambiguity, franchisors have the ability to lessen the impact of the law by carefully revising their franchise agreements to define terms and establish procedures for avoiding or addressing purchase obligations." They say they also have the opportunity now to create written transfer standards that may withstand challenges of unreasonableness and discrimination.

Attorney Zwisler asserted that there is one thing they can tell their clients with some certainty. "Franchisors who fail to act and address these issues now are going to face unnecessary uncertainty in the likelihood of making unnecessary payments and accepting unqualified transferees later. If you are confronted with a 15-day notice to come up with transfer standards and you have to establish that they have been applied in a non-discriminatory manner, good luck. It's going to be a real challenge. And, similarly, if you have to make a decision about whether to terminate and take control of property, you really do have to have a way of evaluating what the cost of that is. The best way to do that is do it now," moderator Zwisler concluded.

The Gray Plant Mooty Webcast presentation, "How To Deal with California AB 525: Requirements, Issues and What Franchisors Must Do Now to Avoid Costly Mistakes," is available to review on the firm's website:

Gray Plant Mooty Webcast: California AB 525



Janet Sparks