Responding to a default notice
Even for historically “good” franchisees, there’s always a chance you may eventually receive a default notice from your franchisor. Because each default notice will involve different facts and circumstances, there’s no singular roadmap to follow, but here are four general rules that may be of assistance to you.
DON’T PANIC, BUT ACT QUICKLY
The worst thing a franchisee can do when receiving a default notice is to do nothing. Most default notices provide the franchisee with some opportunity to cure, and you don’t want to wait until the end of that period to act. Franchisees too often inform their attorneys they received a default notice 29 days ago and have 30 days to cure! Do not wait until the last minute. You will want, and may need, to utilize all the time you are given to resolve the issue in an efficient and effective manner. This will require you to act almost immediately after you receive the default notice.
EXAMINE THE DEFAULT NOTICE AND PREPARE YOUR SIDE OF THE STORY
After receiving a default notice, a franchise-specific lawyer can inform you of your legal rights and assist you in determining the best path forward, which includes doing at least three things.
First, determine whether the default notice is factually accurate. For example, if the default notice alleges that you failed to pay royalties, perform a remodel, or took some other allegedly inappropriate action, is this true? Franchisors make mistakes, and if the default notice is inaccurate, you can generally make the problem go away quickly.
Second, ensure your franchisor is correctly applying the facts to the law. If the default notice states you breached a specific section in your franchise agreement, read that section of your franchise agreement. Has your franchisor correctly applied the facts to the legal obligation it claims you breached, or is there a potential defense you can raise? Likewise, if you or your hotel are in a state with a franchise act, you may have additional rights or remedies. Indeed, franchise acts in several states require franchisors to provide franchisees with advance written notice of the termination as well as a specified number of days to correct the reasons stated for the termination before termination.
Third, develop your side of the story so you can explain why you did, or could, not perform as required or why strict performance should not be required. While asking politely for leniency without any explanation of how you found yourself in default may work in some instances, a compelling story oftentimes goes a long way toward obtaining a favorable resolution.
After you complete this initial three-part review, the next step is to respond. Either you or your counsel – depending upon the situation – can formulate a response, which likely should eventually be communicated in writing so there is a record.
The simplest way to respond to a default notice is to “cure” the default and provide written notice of that cure. If you cure, you do not necessarily need to provide any explanation for why you were in default, although doing so usually is a good idea if you have a good reason for being in default.
Unfortunately, not everyone can cure a default within the franchisor’s required timeframe. If so, you likely should reach out immediately and begin discussing potential options with your franchisor. Again, make sure you’ve prepared your side of the story. You should describe the steps you plan to take to cure and ask your franchisor for anything you might need – e.g., more time to cure, changed terms, a new agreement, etc.. If you can obtain a resolution with your franchisor at this point, it’s important to document the resolution in a written agreement.
Franchisees should also consider whether there are any legal defenses to the default notice or other legal claims to assert against the franchisor to create leverage if your franchisor won’t voluntarily work with you. For example, if the franchise agreement – or an applicable state franchise law – requires the franchisor to act reasonably and in good faith, and your franchisor is not, raise this in your response. While many franchisees are nervous about asserting a legal argument, in sending a default notice, your franchisor is using its attorneys to attempt to enforce its legal rights. You, as a franchisee, have every right to use your own counsel to push back and to enforce your legal rights. As the saying goes, sometimes a good offense is the best defense.
PREVENT DEFAULT NOTICES BEFORE THEY ARE ISSUED
Finally, franchisees should consider whether there are proactive steps they can take before a default notice is ever issued. For example, if you know you’re going to be late refurbishing your property or are going to miss a development deadline, you or your counsel may call your franchisor before a default notice is even issued. Franchisors typically appreciate advance notice of issues before they happen and are can be willing to work with proactive franchisees. Occasionally, franchisors may agree to provide extra assistance to struggling franchisees and help them resolve the cause of the problems (e.g., cash flow issues) rather than simply addressing the symptoms (e.g., missed payments).
Receiving a default notice is never a pleasant experience and is something you should take very seriously, as the consequences for failing to respond or improperly responding are serious. Each default notice and every franchisee’s situation is unique, but, in nearly every case, you should promptly provide a copy to your counsel and begin the process of reviewing the default notice to determine the best way to respond. For everyone’s sake, don’t wait until the last minute to respond.