Many franchise clients are asking for advice on the impact of the coronavirus crisis on their business and the rights and remedies available to them at law in this difficult situation. For example, a franchisee might stop paying royalties on the basis that the epidemic has resulted in a significant and unexpected reduction in their turnover.

Force Majeure clauses in Franchise agreements

Franchise businesses are considering how to survive with lower stock levels and reduced headcount. Online sales may of course be on the increase as people avoid going out to shop, but if your business is significantly reliant on physical, in-person sales, you may wish to examine if you are able to cancel orders and lay off staff. Restaurants are worst hit and may need to talk to landlords about rent reduction. If you have a turnover lease, this will help but you may still have to pay a minimum guaranteed rent. For more information on the impact of the coronavirus on your lease, please click here.¹

Franchisors will be worried about royalty payments and the potential impact of the crisis on their global franchisees. Should franchisees in Italy or China be granted a royalty holiday? Can franchisees who have had to shut down their businesses, terminate the franchise agreement?

This will depend on the contractual situation.

Most franchise agreements are fixed-term contracts that cannot be terminated by the franchisee for convenience. Accordingly, the parties must look at the force majeure clause to understand their rights and obligations in the current crisis.

A typical force majeure clause in a franchise agreement would recognise an epidemic but not a pandemic as force majeure. It may also recognise acts by government authorities such as placing an entire city or country under quarantine as force majeure. Further, many force majeure clauses contain additional general wording about other events ‘beyond the reasonable control of the parties’ being recognised as force majeure, and the current pandemic may arguably be said to come under that. Courts will interpret force majeure clauses narrowly so that only the events expressly listed and those similar to the events listed are covered. However, there is a good argument that a pandemic is similar to/worse than an epidemic and therefore covered. If the agreement recognises the current coronavirus crisis as an event of force majeure, you will need to examine the rights and remedies applicable. Normally, only performance that has become impossible is suspended and paying money may not be in that category. The franchisee, as the party making payment, may have difficulty arguing that performance has become impossible. They may be able to argue that their other obligations such as operation of the franchise business can no longer be performed.

But it is not just the franchisee that may need to rely on the force majeure clause. Due to the current pandemic, the franchisor as the supplier may be unable to source and supply certain goods or perform its training obligations because of staff shortages, quarantine and travel restrictions, and in such circumstances, the franchisor may be able to rely on this clause to excuse failure to supply or train. Obviously, where remote training is an option, performance has not become impossible and should continue. Some contracts may also allow suspension if performance has become “commercially inadvisable” or impracticable although this tends to be rare in franchise agreements. The advice will depend on the exact wording in each case, bearing in mind that courts will interpret the provision narrowly.

In the event that the force majeure clause is applicable, you need to consider what rights and remedies it gives you. The most common remedy would be termination. This usually applies after the event of force majeure has been occurring for a certain period of time, normally between 6 and 12 months. The current crisis has only been in place for two or three months, so you may have to wait. You may be able to suspend performance in the interim, but only if it has been become impossible as a result of the crisis. The exact wording of the contract will be crucial and must be examined carefully by your lawyers.

Another remedy that is sometimes available with immediate effect is suspension of the contract. This may often be more appropriate than termination as the current crisis is expected to last until the summer, and after the summer, it may well be possible for normal business proceedings to be resumed.

Occasionally, franchise agreements do not contain a force majeure provision (for example certain hotel franchise agreements). In such cases, the parties need to rely on the more narrow common law or civil law doctrines of impossibility. These may help if it can be argued that it is impossible to perform the contract. Under some legal systems, an act may be deemed impossible if it cannot be done at all. Sometimes it can be argued that there is commercial impossibility meaning the act can only be done at unreasonable or excessive costs (recovering a lost ring from the bottom of the ocean). The doctrine of impossibility requires something unexpected (the pandemic) to have occurred that has made performance impossible and the agreement must not already contain a clause expressly allocating the risk to one of the parties. Many franchise agreements will allocate the day-to-day risk of maintaining operations to the franchisee. Further, most courts in the world apply the doctrine narrowly only to cases where the unforeseen event has destroyed either the subject matter of the contract (the ship has sunk) or the means of performance (factory burnt down). So a pandemic that makes performance difficult but not impossible may not be recognised as a case of impossibility. The exact analysis will depend on the governing law in each case.

Where the force majeure provisions do not assist and the doctrine of impossibility does not apply, it may be possible to consider ordinary termination rights. Some contracts can be terminated on reasonable notice. This will apply if the contract expressly says so or where the contract does not have an end date. As most franchise agreements are fixed-term agreements, this is unlikely to be the case. If the situation is desperate, you may also wish to examine termination for breach. The breach may be independent of the current coronavirus situation but there is nothing to prevent the innocent party from terminating for breach where a breach has arisen. Possible breaches can include failure to keep units open for trading, unauthorised closure of units, failure to maintain minimum staffing levels and failure to provide the required training but it is likely that many of these would be “excused” by events of force majeure. Failure to pay monies due on the other hand, may not be excused by force majeure and could give the right to terminate. Given the complexity of the law, before taking any steps, it is essential to take legal advice from an experienced franchise lawyer.

If you are currently negotiating a new agreement, you should review carefully any proposed force majeure clause to consider if risks to your business from the current pandemic are appropriately covered. A carefully negotiated force majeure clause is an important business tool.

For more information on the impact of force majeure clauses on your legal rights and remedies under contractual agreements please contact a member of the Dentons global franchise group.

1. Through a UK lens. Please contact us on covid19Response@dentons.com if you have questions.↩