by J. MICHAEL DADY, ESQ. and RACHEL D. ZAIGER, ESQ.
Unquestionably, COVID-19 has impacted virtually all walks of life. Remote working has become widespread, masks have become a mandatory daily accessory, and grocery delivery services have become relatively pervasive. Businesses, especially hotels, also have been hit hard by COVID-19. Indeed, with the Centers for Disease Control and Prevention (CDC) and governors across the nation cautioning that travel increases the likelihood of catching and transmitting COVID-19, with fewer individuals traveling, and with weddings, receptions, special events, and conventions being postponed or cancelled for later dates, hotels saw a steep decline in foot traffic in 2020.
With a COVID-19 vaccine currently being rolled out in the U.S., it appears that hope may be on the horizon, as all anxiously await the return of business as usual. Yet, while the majority of 2020 was focused on COVID-19, it is important to take a step back and recognize that hotel franchisees also have been facing a different threat long before COVID-19 ever existed: cross-brand competition.
WHAT IS CROSS-BRAND COMPETITION?
In the hotel industry, it is relatively commonplace for a franchisor to grant franchises for hotels operating under different brands or an extension of a brand – with some franchisors granting franchises operating under as many as 10 different brands (and sometimes even more). This can be particularly problematic for a franchisee of this type of franchisor, as a franchisee’s competition in this instance is not only limited to other, independent hotel brands from separate and distinct franchisors (as well as motels in the franchisee’s area), but the franchisee’s competition is also expanded to include other chain-affiliated hotels. Stated differently, a franchisee of a franchisor may be forced to compete with its franchisor’s (more often, that franchisor’s parent company’s) other brands in the operation of the franchisee’s hotel – something that is sometimes referred to as unfair “cross-brand” competition.
FRANCHISE AGREEMENTS
As a preliminary matter, franchise agreements are predominately drafted for the benefit of the franchisor at the expense of the franchisee. While some franchise agreements may include a boilerplate “promise” from the franchisor that it will not place another franchisee of the same hotel brand in a franchisee’s protected territory, i.e., commonly a 2-to-5-mile radius around the franchised business, it is not altogether uncommon for a franchisor to reserve the right to grant franchises for hotels “at any location” (including right next door to a franchisee’s hotel). Moreover, even if a franchise agreement provides a franchisee with a protected radius of territorial exclusivity, franchisors routinely expressly carve out the ability to place another franchisee operating under a different hotel brand within the franchisee’s (purportedly) protected territory.1
TERRITORIAL EXCLUSIVITY
For this reason, it is highly important for franchisees to obtain territorial exclusivity to some extent, ideally to include territorial exclusivity, not just for the franchised brand of the franchisee’s hotel but to also include protection against the franchisor and/or any of the franchisor’s affiliates, including its parent company, from itself operating, or franchising anyone else to operate, any other brand of hotel in the franchisee’s protected territory that is likely to be competitive with the franchisee’s hotel brand. After all, franchisees should not be forced to compete with its own franchisor or its franchisor’s parent company or other affiliated companies’ other brands in addition to other franchisor’s brands. There are several ways that franchisees can protect themselves against unreasonable competition by their franchisor’s other brands. One way franchisees may do so is by negotiating with their franchisor to obtain a commitment to keep their franchisors’ and affiliates’ current and future owned brands of hotel franchises out of their protected territory. If franchisees do not have any protected territory, then the necessary first step of protection against unreasonable competition from their franchisors’ and affiliates’ other competing brands is by negotiating with their franchisor to obtain some reasonable radius of territorial exclusivity.
To the extent franchisees are unable to obtain a reasonable radius of territorial exclusivity, and the franchisor purports to reserve the right to place another competing same brand company-owned or franchised-owned unit anywhere it wants, franchisees may nevertheless assert various arguments to push back against such action by the franchisor. For example, franchisees could argue that such action is a breach of the franchisor’s contract-in-law obligation to exercise its discretionary rights in a commercially reasonable fashion. Second, for those franchisees in states with franchise relationship statutes, franchisees could argue that such action amounts to a de facto termination of the contract and a de facto violation of any state statutes that prohibit terminations without good cause.2 Finally, to the extent the franchisor’s statutory control person engages in any such acts, such acts could amount to an intentional interference with the franchisee’s current and prospective business relationships.
If anything can be learned by experiencing 2020, it is that factors do (and inevitably will) exist outside of one’s control. The best armor of protection for franchisees is to take control of what they can control. Obtaining territorial exclusivity and protection against unreasonable competition from their franchisor’s other competing brands is something that franchisees can, and should, control.
Michael Dady, Rachel D. Zaiger, and the other eight lawyers in their firm, Dady & Gardner, P.A., limit their nationwide practice to helping hotel franchisees, and other franchisees and dealers, preserve and enhance the value of their businesses as effectively and efficiently as possible. To learn more about J. Michael Dady, Rachel D. Zaiger, and Dady & Gardner, P.A., you can consult their website at www.dadygardner.com.
[1] To determine whether a particular franchisor, and its parent company and any otherwise affiliated companies’ brands, grant franchises for hotels operating under different brands or extensions of certain brands, review Item 1 and Item 12 of the franchisor’s Franchise Disclosure Document (“FDD”). The FDD serves as a prospectus-style document designed to bring to attention the significant risks associated with a prospective investment in the particular franchised business. It is also a place for prospective franchisees to review to understand the terms of the proposed franchise agreement, including the duties and obligations the franchisor, and its parent company and any otherwise affiliated companies’ brands are committing to undertake.
[2] The Minnesota Franchise Act, Minn. Stat. § 80C.01, et. seq., for example, is one such franchise relationship statute which prohibits a franchisor from terminating a franchise without the requisite statutory good cause.
