California franchisees will soon have additional statutory protections against a franchisor’s termination or non-renewal of the franchise without good cause, and new protections against the franchisor’s refusal to approve the transfer of the franchise without good cause. On October 11, 2015, Governor Jerry Brown signed into law Assembly Bill 525, substantially amending the California Franchise Relations Act (CFRA), which has been in effect in California since 1980. The revised CFRA applies to franchise agreements entered into or renewed on or after January 1, 2016, and to franchises of an indefinite duration that may be terminated without cause. (Section 20041 of the California Business and Professional Code (BPC).) This legislation is a modified version of a similar bill that Governor Jerry Brown vetoed last year.
California is one of 18 states that has a law restricting a franchisor’s right to terminate or refuse to renew a franchise without good cause. Often referred to as franchise “relationship” laws, some of these laws also govern other aspects of the ongoing relationship between franchisors and franchisees. These laws are distinct from franchise “sales” laws, which protect franchise buyers by requiring franchisors to provide detailed disclosures to prospective franchisees and often registration of a franchise offering with the state. 14 states have franchise sales laws. The Federal Trade Commission’s trade regulation rule on franchising is also a franchise sales law. 9 states, including California, have both franchise relationship laws and franchise sales laws. Franchise relationship laws in California and other states supersede the terms of the written franchise agreement.
Here is a summary of the CFRA amendments:
- The amended CFRA will prohibit a franchisor from terminating a franchise agreement unless the franchisor has good cause, which will now mean that the franchisee has committed a “substantial and material breach” of the franchise agreement. Until now, the statute stated simply that good cause “shall include, but not be limited to, the failure of the franchisee to comply with any lawful requirement of the franchise agreement” after being given notice and a reasonable opportunity to cure. (BPC Section 20020)
- Until now, the notice and opportunity to cure did not need to be more than 30 days. Under the amended CFRA, the franchisee must be given at least 60 days to cure, but not more than 75 days. (BPC Section 20020)
- Under the amended CFRA as under the prior law, the franchisor continues to have the right, in certain circumstances, to terminate the franchise upon notice with immediate effect and no opportunity to cure. Circumstances that allow for immediate termination include the franchisee’s insolvency, abandonment of the business, failure to comply with laws, conviction of a felony, or failure to pay amounts due to the franchisor or its affiliate within five days after receiving written notice that such fees are overdue. (BPC Section 20021)
- When the franchisor lawfully terminates or fails to renew a franchise, the franchisor will be required purchase all inventory, supplies, equipment, fixtures and furnishings used in the operation of the franchised business. This provision is new. The franchisor must purchase these items at their depreciated book value to the extent that the franchisor has the right to receive clear title to such items. This requirement does not apply when the franchisee declines the franchisor’s bona fide offer of renewal or if the franchisor allows the franchisee to retain control of the premises of the franchised business. Nor does it apply when the franchisor has decided to completely withdraw from the geographic market area in which the franchise is located. (BPC Section 20022)
- Significantly, the CFRA will now protect the franchisee’s right to assign the franchise. This is new. The amended CFRA will make it unlawful to prevent a franchisee from selling a franchise or an ownership interest in the business if the transferee is qualified under the franchisor’s reasonable standards for the approval of new or renewing franchisees and the parties comply with the transfer requirements of the franchise agreement. The franchisor retains any right of first refusal it may have under the franchise agreement. (BPC Section20028)
- The amended CFRA will specifically require the franchisee to give the franchisor prior written notice of any sale of the franchised business or any interest in the business. The notice must include a copy of all agreements relating to the sale and an application from the proposed transferee to become a successor franchisee. The franchisor will then have no more than 60 days to notify the franchisee of the approval or disapproval of the proposed transfer. The franchisor continues to have a contractual right of first refusal if the franchise agreement so provides. (BPC Section20029)
- The amended CFRA also gives the franchisee new statutory remedies against a franchisor’s violation of the CFRA. If the franchisor terminates or fails to renew a franchise in violation of the law, the franchisee has the right to receive from the franchisor the fair market value of the franchised business and assets “and any other damages caused by the violation of this chapter.” A court may also grant “preliminary and permanent injunctions for a violation or threatened violation of this chapter.” (BPC Section20035)
It is worth noting that the CFRA amendments do not expand the scope of the law. In other words, the definition of a franchise under the CFRA remains the same as the definition of a franchise under the California Franchise Investment Law, which applies to franchise sales. The franchise relationship laws of some states are broader in the scope than the franchise sales laws. The Wisconsin Fair Dealership Law and the New Jersey Franchise Practices Act are examples of franchise relationship laws that cover distributorship arrangements in addition to franchises. The amended California law will continue to apply only to relationships that are commonly understood to be franchises.
California has long been known as a state whose laws strongly protect franchisees. For example, in addition to the franchise laws, post-term noncompete restrictions may not be enforceable in California. Now franchisees will have additional tools to protect against wrongdoing by franchisors. This stricter definition of “good cause” in particular is likely to encourage franchisees to litigate and to give pause to franchisors before they terminate or refuse to renew.
It will be interesting to see whether the amended CFRA will discourage franchisors from expanding their franchise systems into California.
About the author
Tom Pitegoff is a business and franchise attorney with LeClairRyan in New York City. His law practice focuses on franchise law, business transactions, licensing and international business. For franchisors, Tom drafts franchise agreements and disclosure documents, obtains state franchise registrations and provides ongoing franchise compliance counseling services. He also counsels businesses on the scope of franchise laws and he represents entrepreneurs in the purchase and sale of franchises and area development rights. In his international work, he represents foreign franchisors in their U.S. business and U.S. franchisors expanding abroad. Tom can be contacted by email email@example.com or by phone at 212.634.5032.