Negotiating Key Provisions in the Agreement

• Author: Dawn Newton, Rebekah Prince, and Les Wharton
• Pages: 41-76

I. INTRODUCTION

In many ways, the written agreements for a transaction involving

franchise systems are very similar to the agreements for any other trans‑

action involving the buying or selling of a company. As outlined below,

the agreements that memorialize the deal from the opening of negotia‑

tions to the nal execution of the formal agreement typically have the

same structure and general components found in any other deal. How‑

ever, the franchise context presents some unique considerations and

negotiation terms, which are discussed in this chapter.

As in other parts of this book, this chapter focuses more on the specic

concerns raised by the franchise context than on the general guidelines

for completing a deal. Many other resources provide more detailed guid‑

ance on drafting and negotiating nondisclosure agreements, letters of

intent, asset purchase agreements, stock purchase agreements, and

related documentation.1

1. See generally, A.B.A. c

ommittee

on

n

egotiAted

A

cquisitions

, m

odel

A

sset

p

ur

-

chAse Agreement With commentAry Part 3 (2001) [hereinafter model Agreement]; A.B.A.

m

ergers

& A

cquisitions

c

ommittee

, m

odel

s

tock

p

urchAse

A

greement

With

c

ommentAry

(2d ed. 2010); A.B.A. c

ommittee

on

n

egotiAted

A

cquisitions

, t

he

m & A p

rocess

: A

prActicAl guide For the Business lAWyer (Gary A. Munneke & Anthony E. Davis eds.

2005); A.B.A. section oF Antitrust lAW, A primer on the lAW oF mergers And Acquisi-

tions (2003).

41

Negotiating Key Provisions

in the Agreement

Dawn Newton, Rebekah Prince, and Les Wharton

2

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II. NONDISCLOSURE/CONFIDENTIALITY AGREEMENT

The rst agreement between the parties and any brokers or other relevant third‑

parties is typically a nondisclosure and condentiality agreement (NDA). Although

informal discussions often begin before an NDA is signed, the best practice is to

put the NDA in place before any condential information is exchanged. Where the

NDA is executed after the start of discussions, it should be drafted to apply to all

prior discussions, and any disclosing party should require information regarding

the uses that a receiving party has already made of its condential information.

For the purposes of crafting the NDA, the distinction between the buyer and

the seller is often blurred. In many deals, one franchise system acquires another

system, and during the course of negotiations substantial condential information

is exchanged about both systems in order for the parties to mutually evaluate

whether or not the proposed deal is a good t based on culture, brand values,

geographic brand popularity, and other intangible factors. Owners who are system

founders tend to have an emotional connection to the businesses they have built

and want assurances that it is being passed to competent management that will

ensure that the concept thrives. It is not uncommon for such a seller to request

detailed information about the acquiring brand and its marketing and franchi‑

see operational support. Where the deal is structured to include earn‑outs, the

seller will want to conduct reasonable inquiries into the buyer’s business plans

and practices in order to evaluate the likelihood that the buyer will be successful

and the future revenue stream is relatively secure. Accordingly, the NDA should

state that all information exchanged is condential and that the receiving party

will not use this information to its competitive advantage if the acquisition fails.

As a result, the NDA that is appropriate for a deal between two existing franchise

systems may be far more mutual than that required where a venture capitalist

adds a franchise system to its portfolio. Within this section, we abandon the use

of the terms buyer and seller in order to focus on issues that are of concern to

any franchisor faced with the prospect of discussing its internal business mat‑

ters. In deals where each party is likely to be both a disclosing and a receiving

party, the NDA’s protections should be mutual.

In addition to protecting the condentiality of information that may be dis‑

closed by all parties to the initial discussions, this agreement is crucial to ensure

that third‑party franchisees within the system are not alerted to the possibility

of a change in ownership, management, or brands before the parties are ready

to make that disclosure. Particularly in younger or less established franchise

systems, many of the franchisees may lack a high degree of business sophisti‑

cation and can be more likely to react negatively to the prospect of a merger or

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acquisition, because of a fear of the unknown and because they may feel threat‑

ened by a new owner who might, for example, be more aggressive about enforcing

breaches of the franchise agreement or who might have a less paternalistic feel‑

ing towards its franchisees.

A. Confidential Information

From the franchisor’s perspective, the denition of “condential information” in

the NDA should be broad and it is common for provisions to reference a wide

range of intellectual property owned by the franchisor. The intellectual property

will typically include trademarks (both registered and unregistered), copyrighted

material (including operations manuals and internal guidelines that are often

unregistered, occasionally patented technology) the system’s future develop‑

ment plans, organizational infrastructure, methods of franchisee support and

assistance, current and future marketing plans, nances, and any potential or

actual disclosure or regulatory violations, in addition to a catch‑all description

of the assets that create the franchise “system,” including the know‑how, ideas,

and techniques of the franchise.

“Condential information” should also cover information specically pertaining

to franchisees, including information about their revenues, communications with

the franchisor, marketing plans, operational history, volume of defaults and com‑

plaints, and other business information. Some of this information will have been

disclosed to the franchisor by the franchisee, such as the franchisee’s nancial

records and nancial qualications for acquiring the franchise, while other parts

were accumulated independently by the franchisor through its periodic reviews

or inspections. The franchisor may owe its franchisees a duty of condentiality

in its own disclosure of these materials, under the terms of the franchise agree‑

ment, or it may feel obligated to protect some material simply by the nature of

the trust inherent in the franchisor/franchisee relationship.

Although earnings information provided to the prospective purchaser of a

franchise system would not be considered to be a nancial performance rep‑

resentation, maintaining the condentiality of any information that does not

otherwise comply with the requirements of Item 19 is particularly important. The

seller should ensure that earnings information remains condential and does not

somehow end up in the hands of a prospective franchisee. If it does, it could be

viewed as an unlawful nancial performance representation.

During the course of due diligence, an acquiring party may also have access

to information about the system’s customers, including nancial information and

personally identiable information. Not only may the franchisor have concerns

about the impact on its goodwill if the acquiring party uses this information,

43Negotiating Key Provisions in the Agreement

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