What to look for when selling the franchisee’s business? Common interests and practical tips

If the franchisee wishes to sell his company, a number of things should be taken into account. Most of these topics are usually covered in the franchise agreement. In addition, the franchisor plays a major role in the transfer of the franchisee’s business.

Usually, a franchise agreement contains a provision that states that the franchisee’s business must first be offered to the franchisor. If he decides not to take over, the franchisee is free to offer the company to a subsequent candidate franchisee, provided the franchisor agrees with this candidate.
The latter gives rise to the involvement, responsibility and duty of care of the franchisor upon transfer to a subsequent franchisee. It goes without saying that the franchisor must give the existing franchisee ample opportunity to sell his company. The franchisor must facilitate this, for example in a benevolent attitude with regard to a possible acquiring prospective franchisee. However, this does not mean that the franchisor must accept, or even may accept, this candidate under all circumstances. After all, the franchisor has a far-reaching duty of care to offer the acquiring franchisee a sustainable entrepreneurial perspective. In concrete terms, this is reflected in sound and adequate departure forecasts for the acquiring franchisee. When an existing company is taken over, the purchase price of that company must therefore be discounted in the financial estimates for the coming years. A situation thus arises in which the franchisor must ensure that the business of the existing franchisee is not sold for such a high amount that this sustainable prospect for the acquiring franchisee may come under pressure, while on the other hand the interests of the existing franchisee are of course must be guaranteed.

Naturally, the interests of the existing franchisee must be served to the maximum and the franchisor also has an independent responsibility in this regard. After all, he may not simply prevent the franchisee from realizing a good price for his company. However, this is offset by the interest of the acquiring franchisee.

In order to settle the tension between these two details, the parties may choose to include an expert scheme in their franchise agreement. In short, this arrangement may mean that, if the interests of the franchisee or franchisor are insufficiently reflected in the transfer conditions (which should therefore also include the interests of the acquiring franchisee), the parties will turn to an expert, who will thus make an reasonable selling price. The expert in question must then take into account the interests of all parties involved, the financeability of the whole, et cetera. In this way, for example, it can be prevented that sky-high goodwill amounts arise in practice, despite the fact that there is a candidate franchisee who wishes to pay this. After all, in practice it happens that an acquiring franchisee is willing to pay more than a healthy operation allows for the acquiring franchisee. The negative consequences for the acquiring franchisee’s business operations can then have an effect for years because the result comes under too much pressure due to irresponsible high depreciation from a commercial point of view. In practice, these unfortunate situations exist in both retail and services, including in relation to paid goodwill associated with insurance portfolios.

A special role in this is reserved for the bank. It is not uncommon for a franchise agreement to be conditional on the transfer of an unqualified statement from a bank, based on a standard financing arrangement. Please note: in that case there is a question of a different method of financing than from own or other external resources. The long-term interests of the franchisees and franchisor should also be safeguarded by means of a financing arrangement. After all, the bank will not quickly provide financing if it is confronted with a purchase price that cannot reasonably be earned back, to be paid by the acquiring franchisee.

All this argues in favor of the franchisor and franchisee agreeing on the following:

– agree a clear transfer scheme with each other, which is part of the franchise agreement. Agree on an expert arrangement with each other, in case there is no agreement on the terms of sale. Please bear in mind that the terms of sale must cover all elements of the transfer, namely the franchise agreement, and the company itself in all its parts, therefore including any (sub)lease rights;
– as a franchisor, facilitate the franchisee as much as possible if he wants to sell his company. For example, assist in the search for a good candidate franchisee and, together with the existing and acquiring franchisee, create a realistic forecast, based on which the acquiring franchisee can step in;
– ensure proper financing of the acquisition, ideally by means of a sound standard financing arrangement with a bank, in consultation with the franchisor.

In this way, responsibilities and duty of care are shared and it is realized in the most feasible way that the interests of all parties are adequately represented in this matter.

Ludwig & Van Dam franchise attorneys, franchise legal advice