Side letters in franchising

Article by David Irving

Mundays

Fiona Moss, senior associate at Knights, a national legal and professional services firm, describes the use of side letters in franchising and how to get it right.

It is generally accepted that franchisors do not amend their standard franchise agreements when contracting with new franchisees or when renewing a franchise with an existing franchisee. There are good reasons why this approach is undertaken.

Franchisors spend considerable time, effort and money investing in their franchise brand and systems and it is this product that franchisees are buying into when they agree to acquire a franchise from a franchisor. They are also acquiring a proven model which, if run in accordance with the franchisor’s instructions, is intended to provide success in the franchisee’s business.

Look for uniformity

Uniformity in the franchise agreement assists the franchisor in ensuring the same package is provided to each franchisee. Ultimately, where the franchisor has a significant number of franchisees this uniformity decreases its management costs and allows it to provide a better service to all franchisees.

Added to this, the franchise agreement is integral to protecting the franchisor’s brand and it is imperative that it controls all franchisees’ use of that brand in the same way. If franchisees were to be given a variety of different rights in relation to the brand, its value would likely decrease.

The franchise agreement itself is usually a substantial document totalling in excess of fifty pages. It is extremely costly for both the franchisor and the franchisee to seek legal advice and draft and agree amendments to the document. If a franchisor negotiated each franchise agreement this increase in its costs would be reflected in an increased franchise fee and ultimately the start-up costs for the franchisees.

Seek clarity

A side letter is an extremely useful tool for succinctly clarifying and supplementing the terms of a franchise agreement and in specific circumstances, where agreed with a franchisor, a side letter may also vary specific terms.

Both the franchisor and the franchisee rely on the side letter as it reflects the agreed deal between the parties upon which their business relationship is based and should a situation arise in the future whereupon the side letter is to be relied on, it is essential that it is deemed enforceable in the same manner as the franchise agreement.  Any intended release of rights must be expressly stated to apply to the relevant agreement.

Case study

In the case Maurice MacNeill Iona Ltd (t/a Century 21 UK) v C21 London Estates Ltd [2018] the Court of Appeal looked at the enforceability a side letter to a franchise agreement.

In this case the franchisee agreed in a side letter to pay all outstanding fees in the franchise agreement before a second franchise territory would be granted.  The franchisor granted as second territory despite fees being outstanding at the time. When the relationship broke down after the grant of the second franchise, it was argued that non-payment of such fees was a grounds to terminate the second franchise agreement. The Court of Appeal found that the side letter did not form part of the second agreement. It maintained the best way to incorporate terms as contractual obligations was to include them expressly in the franchise agreement. If the parties wanted to ensure that a breach of one franchise agreement should entitle the franchisor to terminate another franchise agreement, it should have set this out explicitly in the agreement, or at least made it expressly clear in the side letter. This case is a reminder of the importance of obtaining proper legal advice as to structure of such letters. Spoken assurances as to how the side letter will operate are not enough.

Tips when putting together a side letter

Ultimately it will always be up to the Courts to decide the enforceability of the terms of a side letter. However, below are some tips to consider when putting together a side letter:-

1. Never rely on verbal assurances to amend a provision of the franchise agreement.  These are commonly excluded from well drafted agreement. Make sure the side letter is written in clear terms.
2. It will usually be cheaper to ask your lawyer to put together your side letter as he or she will have knowledge of your franchise agreement and business. However, if you have decided to draft your own side letter ask your legal adviser to review it, particularly where changes have been made by the other party.
3. The same parties to the franchise agreement must sign the side letter.  A variation will not be effective against an individual for instance if they have only signed using the franchise company notwithstanding they are a party to the franchise agreement.
4. There must be an intention between the parties to create legal relations.  If terms such as ‘subject to contract’ or ‘draft’ remain on the letter, this calls this intention into question.
5. Ensure the side letter is signed and appended to the franchise agreement.

The side letter should also include clauses known as “boiler plate” clauses for example specifying the law governing the side letter, to confirm that it is to be considered a legal agreement and referencing the ‘entire agreement’ clause in the franchise agreement.

It is important that the side letter is signed by all the parties to the franchise agreement. If the side letter is signed by a representative of either party they should have appropriate documents confirming that they have been given the power to sign on behalf of that party. Care should also be taken in relation to the timing of signature to ensure the franchise agreement does not supersede the side letter. Inclusion of an ‘entire agreement’ will cover this issue. The side letter should finish with a form of words that makes clear that the parties are agreed, and so that the parties will end up with copies of the letter signed by the parties.

There must be certainty within the side letter

The wording used within the side letter must be certain and not simply an agreement by the parties to agree something in the future. Such agreement may not be legally binding as a matter of policy.

Courts will not “make” a contract but will only interpret it and it is therefore extremely important that the terms of the side letter are as precise as possible.

There must be consideration for the side letter

All contracts must contain some form of consideration. This is easily dealt with in the franchise agreement as a franchise fee and monthly payments are usually payable however it may not be so clear in the side letter. It should be noted that this consideration may be both in the form of money or obligations.

Where there is any doubt over consideration the side letter should be completed as a deed, a more formal legal document requiring signatures to be witnessed.

Summary

Many side letters are put together quickly at the last minute which usually leads to mistakes. Should the parties need to rely on the side letter at a later date, care must be taken over both the structure and content of it.

Side letters are extremely important to both franchisors dealing with for instance fees holidays to entice the best franchisees, and to franchisees who rely on these items when obtaining funding and within their business plans. Should side letters be considered unenforceable it would be to the detriment of both parties, leading to requests for standard agreements to be varied for instance and risking a lack of uniformity across the network.

Knights plc has a dedicated team of specialist franchise advisors with a vast array of franchise experience gained in both private practice and in house operating across a variety of sectors including hospitality, retail, leisure, care, education, professional practices, personal care and tuition. 

E: Fiona.Moss@knightsplc.com