The Evolution of the Species: Successfully Managing Franchise System Change
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The Evolution of the Species: Successfully Managing Franchise System Change EDWARD WOOD DUNHAM AND KIMBERLY S. TOOMEY It is not the strongest of the species that survive, nor the most intel- survey cases addressing a variety of system change issues ligent, but the one most responsive to change.—Charles Darwin and offer recommendations to help franchisors gain fran- Darwin’s theory of natural selection posits that as chisee support, avoid claims, and protect themselves if environmental conditions change, species adapt by litigation ensues. the survival and proliferation of those that have the A Few Basic Principles most favorable characteristics for the given conditions. Despite the risks in implementing system change, franchisors Through the slow process of inherited characteristics and should take some comfort in the legal system, which general- natural selection, species evolve over generations.1 ly supports a franchisor’s right to modify its system in In modern business, of course, change happens much response to market forces. For all the changes in logos, more rapidly. The natural selection process, operating at menus, marketing strategies, and unit designs and sizes that warp speed, can blow previously successful enterprises off have occurred in countless franchise systems over the years, the road if they neglect to evolve, and franchise systems are there are few reported cases directly addressing challenges to no exception. To prosper long-term, franchisors must adapt systemwide changes, and most of these have upheld the fran- to changing demographics, consumer preferences, competi- chisor’s right to adapt and improve its system. tors, and technology by modifying their business concepts, A review of this precedent yields two generally disposi- operating procedures, products, and services. Moreover, tive principles. First, a franchisor cannot breach a franchise successful adaptation can never be the product of franchisor agreement by acting according to its express terms. When fiat; it requires the active cooperation of franchisees, which franchisees have claimed that system changes breached can often be difficult to obtain. their franchise agreements, franchisors have generally pre- Consumers frequently want something new and differ- vailed by relying on the express franchise agreement reser- ent, but franchisees entering long-term franchise agree- vation of rights, allowing a franchisor to change the system ments may assume that the concept and products will in its sole discretion and as may be required from time to remain substantially the same for the life of the contract. time. The franchise agreement language reserving the fran- This servicing of two constituencies, i.e., consumers and chisor’s right to modify the concept is often the deciding franchisees, often places franchisors in the difficult position of seeking to improve the system by implementing changes factor in resolving breach of contract claims through sum- that consumers desire but franchisees resist. mary judgment. A warning, however: Whatever the con- For franchisors, therefore, survival requires not only the tract may say, absolute discretion rarely exists in the real ability to adapt to changing environments, but also the skill world. Accordingly, if they want to defeat system change of justifying to franchisees change and its accompanying claims, franchisors exercising discretion under their fran- costs and disruption. When system changes either do not chise agreements should act with commercially reasonable, improve or, in the worst case, substantially harm a fran- not arbitrary or capricious, business judgment. chisee’s financial position, the franchisor may face not only Second, the law does not require a franchisor to guaran- resistance, but also a variety of claims, including charges tee the success of its strategy. Mistakes and misjudgments that it (1) fundamentally altered the original system, there- are part of business, and a failed strategy alone does not by breaching the franchise agreement or the implied prove franchisor liability. If a franchisor can demonstrate covenant of good faith and fair dealing, or (2) violated the that it had a reasonable basis for changing its system and franchisee’s statutory protections. reasonably believed that the changes would benefit the sys- Nevertheless, successful franchisors have no choice but tem, most courts are unwilling to second-guess that busi- to continually adapt their systems to evolving circum- ness judgment, whatever its consequences might have been stances. In a marketplace that can shift quickly from low-fat for a particular franchisee.2 to low-carbohydrate diets and from the importance of per- Franchisee protection statutes, however, may create an sonal attention to the ease of e-commerce, no business can exception to this rule. In New Jersey, for instance, the cling too tightly to tradition without sacrificing market franchise relationship statute provides powerful support for share and eventually jeopardizing its existence. Careful a franchisee’s claims that system change has violated its planning and thoughtful implementation increase the bene- rights.3 Under the statute, discussed in more detail below, fits and decrease the risks of adaptation. This article will franchisors cannot require franchisees to execute renewal contracts with substantially different terms, and franchisors are prohibited from requiring an “unreasonable standard of Edward Wood Dunham is a partner in the New Haven, Connecticut, office of Wiggin & Dana; Kimberly S. Toomey is an associate in the performance.”4 When dealing with any franchisee protected firm’s Philadelphia office. by a franchise relationship statute, franchisors should be Number 4 • Volume 24 • Spring 2005 • American Bar Association • Franchise Law Journal • 231 “The Evolution of the Species: Successfully Managing Franchise System Change” by Edward Wood Dunham and Kimberly S. Toomey, published in Franchise Law Journal, Volume 24, No.4, Spring 2005 © 2005 by the American Bar Association. Reproduced by permission. All rights reserved. This information or any por- tion thereof may not be copied or disseminated in any form or by any means or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.
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