Where a party to a contract exercises discretion which has a unilateral impact and a potential for conflict, a duty is implied into the contract to protect against this conflict and potential abuse. Such discretion must be exercised fairly, and not arbitrarily, capriciously, or irrationally.

In assessing how discretion has been exercised, the courts will consider both the decision-making process itself (considerations which have been excluded or included in the decision-making process) and the outcome of decision (the result and whether the decision was so perverse that no reasonable person acting reasonably could have made it). This is known as the Braganza duty and is only applicable to contractual discretions which allow an assessment of choice from a range of options whilst considering the interests of both parties. It is not applicable to absolute contractual rights (such as those which are subject to an existing control mechanism in the contract – for example, the right of termination). There is, however, no one size fits all approach in assessing whether a right is absolute or discretionary, and the courts are likely to consider each case on its own facts.

Key clauses: What discretions within your franchise agreement may be caught if exercised incorrectly and what are the risks to be aware of as a franchisor?

Territories and exclusivity

Ensure a territory or exclusivity over an area is only being removed from a franchisee if it is fair to do so. Ask yourself, is the franchisee delivering full efforts to exploit its territory? If you are not satisfied this is the case, is this the sole reason you are looking to restrict a territory or impede on an exclusivity? Consider what your approach has been with other under-performing franchisees to ensure consistency across your network.

Renewal and terms of renewal

This includes both the renewal criteria and the right to introduce a new and updated version of your franchise agreement to an existing franchisee. Think carefully about your decision whether to renew a franchisee’s term, and if deciding not to renew, stick to the renewal criteria set out in your agreement and ensure consistency across the network. In introducing a new and updated franchise agreement, be aware of the risks of a franchisee asserting there has been a derogation from grant if the agreement is materially different from its original agreement and be prepared to justify why the updated agreement is required as the most recent version currently in circulation to those currently joining or looking to join your network.

Adding to or changing the System (knowhow, manual, brand, products or services) 

Ensure the System is not being added to or updated in a way which could be seen to exclude a particular franchisee type. Whilst it is not unreasonable to add to or change the system, doing so frequently over a short space of time and at the expense of the franchisee, in a way which could be to the financial detriment of the franchisee, is at risk of being labelled as unfair. An example of this is requiring a franchisee to undergo frequent expensive shop refits. This may be similarly problematic in requiring a franchisee to frequently change premises.

Audit process

As with changes to the System, this is dependent on how frequently audits are taking place and whether they are being used for an oppressive purpose. Whilst the decision to audit is binary, the process and requirements which follow are likely to be considered discretionary.

Approval of buyer on Resale of a Franchisee business

Ensure use of relevant and inoffensive approval criteria only. A franchisee has a right to receive a return on its investment, and this right may be infringed by a franchisor unreasonably disapproving of a buyer. Use of a clear and consistent approval criteria which sets out fair criteria in the interests of the outcoming franchise, the network and the incoming franchisee is key here. As part of this criteria, you may recommend that a franchisee has its business valued to ensure any offers may be compared against the market value of the business. You may consider a Buyer’s offer to be much higher than market value, and be concerned that the Buyer is likely to be at a financial disadvantage when taking on the franchise, and so it may be imperative to assess their finances. A Buyer may have deep pockets to alleviate your concerns, but they may equally not have sufficient funds providing such a security net. 

This is a non-exhaustive list and where exercising discretion under your franchise agreement, you should think carefully with these points in mind. Identifying whether making a decision as franchisor under your franchise agreement is an absolute contractual right or one which requires you to exercise discretion is not always an easy task. Whilst it is impractical to seek legal advice every time you make a decision in connection with your franchise agreement, there is merit in seeking legal advice where you are uncertain of your position to ensure you have considered the risks involved and best protect your business.

Key practical things to do:

  1. Document your decisions
  2. Adopt clear criteria for decisions requiring your discretion to enable consistency 
  3. Test the water – with a strategy group of franchisees 
  4. Get advice

Author: Fiona Boswell is a BFA Qualified Franchise Professional, partner and head of franchising and commercial services at Knights plc.

Source: Elite Franchise Magazine

Let’s Connect! Please get in touch with me, I would be happy to assist you and work together to gradually bring your vision to life.

Krishma Vaghela

Founder of Franchise Futures. Franchise and Business Development Consultant, Mentor and 5x Awards Finalist.