Explore a cautionary tale of a failed restaurant franchise sale due to contractual disputes with the franchisor. Learn the importance of resolving legal issues before selling your business in this M&A case study.
July 7, 2019
M&A Stories
Introduction:
In this case study, we delve into a missed opportunity—a failed sale of a restaurant franchise due to a dispute with the franchisor. This cautionary tale highlights the importance of resolving contractual issues before attempting to sell a business.
The Franchise Deal:
The focus of this case was a franchise encompassing seven Tim Hortons restaurants in Michigan, governed by franchise agreements dating back to 2016. These agreements required the franchisee to pay royalties, advertising fees, and lease payments to the franchisor.
Royalty fees were based on a percentage of weekly gross sales, compensating the franchisee for using the franchisor’s system and trademarks. Advertising fees, calculated as a percentage of monthly gross sales, covered promotional expenses for all Tim Hortons restaurants.
Additionally, the franchisee leased the restaurants from the franchisor, with rent based on a percentage of monthly gross sales, plus taxes, utilities, and common area expenses. However, the franchisee claimed to have a verbal agreement with franchisor employees for a flat percentage-based rent, excluding additional charges.
The Dispute:
From the outset, disagreements arose over payment calculations, leading to ongoing conflict. The breaking point came when the franchisee decided to sell. Although they found a potential buyer and entered into an asset purchase agreement, the franchisor demanded payment of disputed sums before approving the sale.
Legal Battle:
In October 2018, the franchisor filed a lawsuit against the franchisee in a Florida federal district court. The following day, they issued a notice of default, alleging breaches of the franchise agreements. In November 2018, the franchisor terminated the franchise agreements.
Despite the legal battle, the franchisee continued operating the restaurants and negotiations persisted. However, in January 2019, the franchisee ceased all payments to the franchisor. Subsequently, the franchisor stopped the supply of approved products.
The Fallout:
On April 25, 2019, the potential buyer terminated the asset purchase agreement. The franchisee continued operations, initially using stored supplies and later non-approved vendors. The franchisor sought court intervention to prevent the use of its trademarks and to stop the restaurants from representing as authorized Tim Hortons establishments.
The Court’s Decision:
The court ruled in favor of the franchisor, ordering the franchisee to cease operating as Tim Hortons restaurants during the litigation. It emphasized that the franchisee had likely forfeited the Tim Hortons franchise by failing to pay $225,000 in restaurant taxes, utilities, and common area maintenance charges, as stipulated in the written leases. The court confirmed that oral understandings couldn’t override written provisions.
In Conclusion:
This case serves as a stark reminder that resolving contractual disputes before attempting to sell a business is crucial. In hindsight, addressing issues with the franchisor could have secured approval for the sale and resulted in a profitable transaction.
Also, a boilerplate lease agreement provision called an integration clause prohibits the enforcement of oral modifications to the written agreement.
Case Reference:
Tim Hortons USA, Inc. v. Tims Milner LLC, Case No. 18-cv-24152-GAYLES/McALILEY., United States District Court, D. Delaware, (June 17, 2019)
By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
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