Assumption, Rejection, and Assignment of Franchise Agreements in Bankruptcy

• Author: By John R. Gotaskie, Jr. and Glenn D. Moses
• Pages: 123-144

123

I. EXECUTORY CONTRACTS: ASSUMPTION,

REJECTION, AND ASSIGNMENT

Section 365 of the Bankruptcy Code1 gives a debtor the exibility to

assume, assume and assign, or reject executory contracts and unex-

pired leases, subject to bankruptcy court approval. In the context of

franchising, this exible authority provides the debtor2 with a valuable

tool in its efforts to reorganize its business because it means two key

things. First, franchise rights can be transferred for value. Second, a

debtor may reject—or terminate—burdensome contracts.

A. EXECUTORY CONTRACTS DEFINED

The term “executory contact” is not dened in or by the Bankruptcy

Code. The legislative history of section 365 states that executory con-

tracts “generally include contracts on which performance remains due

to some extent on both sides.”3 Because executory contracts have not

been precisely dened by the Bankruptcy Code, courts have gener-

ally chosen to adopt the denition rst articulated by Professor Vern

Countryman:

An executory contract is “a contract under which the obligation

of both the bankrupt and other party to the contract are so far

1. 11 U.S.C. §§ 365(a), et seq.

2. The focus of this chapter will principally be on franchisee bankruptcy, which is

considerably more common than franchisor bankruptcy. That said, some assignment

issues unique to franchisor bankruptcy will be discussed below.

3.

H.R. Rep. No.

95-595 at 340, 347 (1977) reprinted in, 1978 U.S.C.C.A.N. 5963, 6094.

Assumption, Rejection, And Assignment

of fRAnchise AgReements in BAnkRuptcy

By John R. Gotaskie, Jr. and Glenn D. Moses

5

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124 Chapter 5

unperformed that the failure of either to complete performance would con-

stitute a material breach excusing the performance of the other.”4

Thus, the touchstone of an executory contract is that the parties to a contract

must both owe duties to each other as of the petition date. A contract where

only one party has performed but the other party must still perform—for exam-

ple, one party has performed and the other solely owes payment—is not an

executory contact.

There are many examples of executory contracts in the context of franchis-

ing. Franchise agreements themselves are executory contracts. So are most ser-

vice contracts, equipment leases, and real property leases and subleases. But

there are other, perhaps less obvious, executory contracts as well. Things like

noncompetition and nonsolicitation agreements can be executory in nature, as

are many license agreements including patent licenses, because of ongoing obli-

gations like the notication of potential infringement and provision of technical

assistance or indemnication of the licensee.

B. TIMING

In a Chapter 7 case,5 the Bankruptcy Code provides that an executory contract

is deemed rejected if the bankruptcy trustee does not assume or assume and

assign it within sixty days after the date when the bankruptcy petition was led.

The sixty-day deadline can be extended by the court “for cause.”6 In this con-

text, “cause” is a sensible, reasonable reason for the extension of time. Gener-

ally, trustees almost always seek and obtain additional time to assume or reject

executory contracts.

In a Chapter 11 case, section 365(d)(2) of the Bankruptcy Code provides

that a debtor-in-possession may reject or assume executory contracts other

than unexpired leases of nonresidential property—that is, commercial real

property leases—at any time before conrmation of a plan of reorganiza-

tion. However, a party-in-interest may request that the bankruptcy court set

a shorter period of time within which a debtor must assume or reject the

contract. Who is a party-in-interest is a somewhat exible, contextual concept

under the Bankruptcy Code. That said, it certainly includes the counterparty

to an executory contract. Consequently, franchisors are parties-in-interest

when it comes to franchise agreements. This available procedure is thus use-

ful for franchisors who have a reasonable reason for expediting the decision

to accept or reject, including wanting to know whether the franchisee intends

to stay in the system.

4. Vern Countryman, Executory Contracts in Bankruptcy, Part I, 57

MiNN. L. Rev.

, 439, 460 (1973).

5. For further discussion of Chapter 7 bankruptcy matters, see Chapter 10 of this book.

6. 11 U.S.C. § 365(d)(1).

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