Vol. 14 No. 2 | Spring 2011

INSIDE THIS EDITION

Message from the Chair

2011 Nominating Committee Selected

34th Annual Forum on Franchising: Flying the Flag of Franchising

FDA Publishes Proposed Regulations on Menu Labeling Requirements

State Taxation of Royalties on Out-of-State Franchisors Continues: KFC Corp. v. Iowa Department of Revenue

From Darkness to Light: A Survey of How Franchise Lawyers Weathered the Recession and Some Thoughts on the Road Ahead

NASAA Project Group Seeks Input on Multi-Unit Franchising

New Location for California Department of Corporations' San Francisco Office

Become a California Board Certified Franchise and Distribution Specialist!

New Books from the Forum on Franchising


THE FRANCHISE LAWYER

Editor-in-Chief
Max Schott, II (2013)
Gray Plant Mooty
Minneapolis, MN
Max.Schott@gpmlaw.com

Associate Editors
Glenn J. Plattner (2011)
Bryan Cave
Santa Monica, CA

Kristy L. Zastrow (2012)
Dady & Gardner
Minneapolis, MN

Beata Krakus (2013)
Greensfelder,
Hemker & Gale
Chicago, IL


Forum on Franchising
American Bar Association
321 N. Clark Street
Chicago, IL 60654

Ronald K. Gardner

From Darkness to Light: A Survey of How Franchise Lawyers Weathered the Recession and Some Thoughts on the Road Ahead
By Josiah J. Puder
President of OPENWorld Consulting, a provider of in-house legal services to franchisors

A few years ago, I was a young in-house franchise lawyer, determined to help my company grow in dynamic fashion. Unbeknownst to me at the time, a sinister character called "recession" was lurking in the shadows, competing for our collective attention and casting a dark cloud upon the franchise community.

Looking back, I remember days driving in the car with the CEO of my company on the way to Los Angeles from Orange County as he pointed out the various smoothie, fast casual, and mall-based chains that were either closing, bankrupt or facing collapse. Each day, like many newer companies struggling to expand in the face of harsh economic times, we talked about the recession and how we could save money by implementing this or cutting that. Much of our focus, as was the case with many companies, was cost-saving. During that period, I was curious how lawyers were dealing with the recession, so in the spring of 2009, I wrote an article for another ABA publication about the recession and its effects on how lawyers ply their trade. At the time, the focus of the article was on "mixed" and "creative" fee arrangements and how such arrangements were burgeoning in the midst of the downturn.

In recent weeks, and in the midst of all the talk that the recession is no more, I was interested in understanding how the past several years have impacted franchise lawyers, any significant changes that resulted from the recession, where we are today and whether we are headed in a positive direction. I interviewed franchise lawyers from across the United States and Canada, both litigators and transactional attorneys, and tried to get them to tell me how they survived these past few years. While it was difficult to get many lawyers to speak on record about "hard times," I did manage to get some very interesting views on the recession and its effects. Now that the words "bailout," "recession" and "downturn" are not ringing in our ears 24/7, perhaps we can turn back a few years to remember. . . .

The Darkness

Although many franchise lawyers I interviewed began feeling the effects of the recession in early 2008, some have pinpointed the summer of 2007 as the beginning of the darkness that would descend upon the franchise world, particularly on the transactional side. Lee Plave, of Plave Koch PLC, remembers a slew of financing transactions in which he was involved throughout the spring of 2007, that suddenly were put on "permanent hold" in July of 2007. "Everything screeched to a halt that summer, no one was doing deals," remembers Plave.

While deals slowly dried up during the balance of 2007, 2008 would be the watershed year everyone would remember. Bear Stearns, Lehman Brothers, AIG. These names will forever be associated with some of the most startling four months this country has ever experienced. While the greater economy suffered and the job market became a veritable desert, how did the economic downturn affect how franchise lawyers were practicing law?

While many franchise lawyers stated that they did not experience any effects as a result of the recession (or at least would not share this fact), the majority indicated that fewer deals, collection issues, virtually no hiring of franchise attorney associates and a resourcing shift by in-house counsel have been the cardinal effects on the profession in the past several years. At the same time, many lawyers experienced a positive shift in new directions as a result of the economic downturn.

Shelley Spandorf, of Davis Wright Tremaine LLP, notes that when new franchise launches slowed in 2009, she began to broaden her practice, which included counseling a variety of product distribution and marketing companies on their distribution programs. This, in turn, led her "to sophisticated work in helping these clients make sure they do not stray over the line in their relationships with distributors and inadvertently create a franchise," says Spandorf. Other lawyers I spoke to, particularly those hit hard by the recession or with newer franchise practices, indicated they made efforts to accumulate expertise in areas tangentially related to franchise.

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On the litigation front, while most franchise litigators with whom I spoke noticed a marked decline in warfare between franchisees and franchisors, some noticed an interesting trend. Ron Gardner, of Dady & Gardner, P.A., noticed something a bit different than was the case in other recessions. "When the economy turned down, people were willing to fight for scraps. In 2005, a franchisee may not have fought for $100,000, but if the value of the case was $1,000,000, they were willing to litigate. In 2008, many said no to the million dollar fight, but were willing to fight to the death for $100,000," says Gardner. He also noticed that while large cases dipped, the volume increased exponentially. Another franchise litigator, Alex Brito, of Zarco Einhorn Salkowski & Brito, P.A., also witnessed a "scaling back in the heavy duty scorched earth litigation."

Another interesting phenomenon that seems to have been borne out of the dark times is the rise and strengthening of franchisee associations. Whether to effect change through advisory councils or a coming together in order to file suit against a franchisor, the difficult economy forced many franchisees to pursue action only where the individual cost was spread across a group. This trend, which seems to have escalated during the course of the downturn, does not show signs of ebbing, at least according to the various litigators with whom I spoke.

In terms of the recession's effect on how lawyers get paid, I asked all the franchise lawyers I contacted whether they altered the way they drafted their retainers as a consequence of the recession and its resultant pressures. Surprisingly, most said they did not make significant changes to the way they drafted retainers or dealt with outside counsel. Most franchise lawyers who were using a mixed fee model continued to do so, and those that seldom used alternative fee models did not start using them more often. In terms of collecting fees, most franchise lawyers I surveyed shied away from yearly fee increases and were inclined toward "flexibility" in adjusting balances, many times so their clients could continue in business.

A more significant consequence of the downturn has been an increasing array of beauty contests as franchise lawyers succumb to client pressures relating to cost containment and more discrete outsourcing. Many in-house counsel have used the downturn as an excuse to sever traditional loyalties and arrangements, all in the vein of pressure from their company to contain costs. While some lawyers I spoke with privately resent some of the beauty contest "rules" that have emerged, the majority understand the pressure on in-house counsel to "find the best value," and understand that there are new realities that are present not only in franchise, but the greater practice of law.

Times Are Good?

The consensus among the franchise legal community is that we are in a rebound. While obviously this is not a revelation to most, many lawyers I spoke with consider this rebound to be different than in previous cycles. David Kaufmann, of Kaufmann Gildin Robbins & Oppenheim LLP, does not see the same rebound patterns that occurred after recessions in the early 1980s and 1990s. "Since the spring of 2009, the [Dow Jones Industrial Average] has doubled, but unemployment remains unchanged," he notes. Kaufmann views this rebound as being less vigorous because of the dearth of U.S. jobs, particularly in manufacturing, and while growth overseas for U.S. companies seems robust and accounts for much of the stock market numbers, Kaufmann believes the greater U.S. economy will continue to teeter on a precipice unless and until there is job growth and job creation. He also noted that, while most U.S. companies that expand overseas do so with a concomitant loss of U.S. jobs, franchising has always been more of a patriotic animal. When franchisors expand overseas, he explains, they usually need to hire more people in the United States. This is in stark contrast to manufacturing and other sectors, which have been accused of stealing the dreams (and livelihood) of the American worker.

Brian Schnell, of Faegre Benson LLP, acknowledges that although we are through the worst of it, "capital access is still an issue." However, Schnell and others I contacted believe that the complete evisceration of credit for franchise growth has made franchisees, and those seeking financing, more creative and better attuned to not only the viability of their concepts, but how they manage their financial decisions. Contrast this with the 2005 news stories about high school kids being able to secure home loans with no money down. Richard Rosen, of The Richard L. Rosen Law Firm, PLLC, believes that some of the lending changes have been healthy overall and will make the system stronger in the long term.

While U.S. expansion has suffered in the past few years, Canada seems to have benefited from some of the pain experienced in the United States. As the U.S. market slumped, many franchisors began accelerating their Canadian growth plans. Frank Zaid, of Osler, Hoskin & Harcourt LLP in Canada, has noticed a significant uptick in U.S. franchisors planning to enter or entering the Canadian market as a result of challenging sales opportunities in the United States. For some, Canada seems less risky, in part because of the nature of its banking system, according to Zaid. Indeed, many of the lawyers I engaged explained that while they have been focusing on international growth for years, they only recently discovered Canada as an attractive destination for franchising.

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For in-house counsel, the recession has increased their workload as a result of less money to spend on outside legal services, layoffs, and a restriction or freeze on internal hiring. Longer days, less free resources from outside counsel, and a greater need to develop in-house expertise on an "on-demand" basis has made the in-house job more challenging in recent years. One lawyer, who refused to be quoted for this article, noted that, while he used to send a significant amount of work to outside counsel, during the recession, and because of a dramatically reduced in-house budget, he was forced to learn and become expert at many things that were the traditional province of elite outside counsel. Shelley Spandorf notes that since 2009, in-house counsel has become far more selective in soliciting outside counsel input, and has tended to engage outside counsel for more sophisticated and strategic matters. Kathy Kotel, of Carlson Restaurants Worldwide, notes longer hours in-house and tighter budgets as a result of the downturn.

The Road Ahead

Most lawyers I surveyed are actually excited about the future and point to one very noticeable trend in franchising - the emergence of an elevated level of entrepreneurial creativity. "The growth of entrepreneurship has gone through the roof," says Ned Levitt, of Aird & Berlis LLP. Levitt sees incredible pent up demand. Lee Plave acknowledges that "those that have come through the recession have figured out how to be more effective in terms of cost and relevance. "In stark contrast to 2009, when restaurants were kryptonite to investors, the investment community is interested in restaurants." All the restaurant shows haven't hurt," says Spandorf, who thinks the concept of being a restaurant operator has a certain élan nowadays.

Another trend stemming from the recession is that an increasing number of franchisors have moved away from spending significant energy on "one offs" and "mom and pops," and are focusing more on sophisticated franchisees and area developers to fuel growth. Franchisors are increasingly looking for proven business success and a desire to grow; in other words, they want less risk in terms of franchisees.

Additionally, while most agree credit has loosened up a bit, it is not back to pre-2007 levels and likely never will. Not all see this as a bad thing. "Many successful companies that have been around for years that were not in the franchise business are getting into it," says Plave, " and they are being smart about it - they see the low interest rates, rents, and opportunities in this economy," he adds. I have experienced this personally. Just the other day I drove down a road with a "Tide" dry cleaners on one side and a "Mr. Clean" carwash on the other, both from Procter & Gamble, a company not traditionally known for its extensive forays into franchising.

Why You Should be Excited if You are a Franchise Lawyer

The days of the franchise lawyer focused solely on FDDs and typical dispute resolution issues are waning. The consensus seems to be that those lawyers who are able to embrace dynamic change will evolve into a more "complete" advocate capable of addressing a variety of complex issues that will face franchising as technology and global competition challenge our collective comfort zones.

Alex Brito, who devotes a portion of his practice to helping franchisee associations grow, sees "a huge opportunity for franchisors and franchisees to work together to improve the system." Many of the leading franchise lawyers around the country see lawyers becoming more than just lawyers, but effective growth counselors as well. They will collaborate with clients to help increase brand loyalty and implement change. They will advise clients on social media issues, privacy, e-commerce, menu labeling, and the proper collection, use and protection of data. Franchise attorneys will counsel franchisors looking to expand in areas besides China and India. Ron Gardner says he has noticed more and more franchisee lawyers representing franchisees internationally, a trend that has normally been the purview of the franchisor lawyer. He also notes there will be more cases litigated in U.S. courts due to the fact that many disputes are required to be litigated in this country even though the locus of the dispute is outside the United States.

Tattoo removal franchises, health and wellness franchises, and "better burger" concepts will challenge franchise lawyers on all sides and in all practice areas. As consumers become more "microniche" in terms of what they want and are willing to pay for, franchisors will respond with a bevy of surprising business concepts. Additionally, we have not yet seen the entry into the United States of a significant number of franchisors based abroad. In the next 10 years, we should see a push by these companies to break into the coveted U.S. market, just as the international labor force is increasingly supplying executives and middle managers to U.S. companies based domestically.

Personally, I look forward to growth in green franchise companies, organic and dairy-free dessert concepts, and internet-only franchises. Whatever the future holds, it appears, at this moment in time, save for a sudden perfect storm of economic torrent, the state of franchise lawyering is looking pretty good (if you know where to look).

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The Franchise Lawyer is published by the American Bar Association Forum on Franchising, 321 North Clark Street, Chicago, IL 60654-7598. Requests for permission to reprint should be sent to the attention of Manager, Copyrights and Licensing, via email at copyright@abanet.org or via fax to 312-988-6030.

The opinions expressed in the articles presented in The Franchise Lawyer are those of the authors and shall not be construed to represent the policies of the American Bar Association and the Forum on Franchising. Copyright 2011 The American Bar Association. ISBN: 1938-3231

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