A Message Regarding Racial Inequality: Faegre Drinker is deeply affected by the disturbing and terrible events surrounding the senseless deaths of George Floyd, Breonna Taylor, Ahmaud Arbery and Rayshard Brooks. While these tragic events have captured the attention of the world, we know that countless incidents occur in too many places within our society that negatively impact people of color, and African-Americans especially. All lives matter will only ring true once black lives matter.
Equality under the law is the bedrock of the legal profession. Unfortunately, many people of color do not experience that professed equality. Faegre Drinker is committed to examining racial inequality, addressing our own unconscious biases, and living and supporting anti-racist actions and policies within our firm and across the communities we serve. We also are committed to effecting positive change, working alongside our clients and within our communities to assure the events of the last weeks are a catalyst for meaningful progress toward inclusion, fairness and justice for all.
Our communities include our franchise community. We commit to working together with franchisors, franchisees, and franchise suppliers in making sure our franchise community comes together to make meaningful change. We have work to do. TOGETHER … FRANCHISE STRONG. Now more than ever, LEADERSHIP MATTERS.
As we come together on racial inequality, the COVID-19 pandemic has changed everything we do in our personal and business lives. Franchisors and franchisees are faced with all the same challenges as other businesses, but also several unique twists due to the nature of franchising. During the last few months, franchising as we know it has changed. Business as we know it has changed. Life as we know it has changed. In some ways those changes will be short term. In other ways, those changes will be more long term.
Above all else, on behalf of everyone at Faegre Drinker, our thoughts are with all of you.
Our Faegre Drinker Coronavirus Task Force has established a resource center, to which we are posting regular alerts to keep employers/business owners informed of issues ranging from employers’ issues, legislative/regulatory updates (including government-ordered closures and federal emergency relief measures), business contract rights and obligations, eminent domain and other substantive topics.
This article identifies COVID-19-related challenges franchisors face and outlines best practices for franchisors to consider as the U.S. economy begins to reopen. We are working with franchisor clients to help them address these reopening challenges and to effectively communicate with franchisees regarding the challenges they face. We will update this article as the situation continues to evolve.
We are also hosting a series of webinars specifically for franchisors, with the next webinar scheduled for July 8, 2020. The agenda for each webinar includes national strategic thought leaders as well as updates from our Faegre Drinker attorneys on key issues that franchisors and franchisees are addressing on a daily basis. During the webinar, we also will endeavor to share how franchisors are generally addressing these issues. Our team is committed to keeping franchisor clients informed on the key issues they face.
If you plan to join the webinar, you may access it here. Earlier webinar sessions are also available on demand from the same link.
June 18, 2020 Update
Our April 8 update focused on franchisor COVID-19 Response Plans and other key legal issues facing franchisors during these unique times. With many states and localities now slowly lifting stay-at-home orders and reopening businesses, this update focuses on franchisors’ COVID-19 Reopening Plans and related legal issues. Our March 19 and April 8, 2020, installments of this alert can be found below.
Franchisor COVID-19 Reopening Plan
We have been working closely with franchisor clients to help them develop and execute COVID-19 Reopening Plans. Below is a general summary of key aspects of these COVID-19 Reopening Plans. We also discussed COVID-19 Reopening Plans during our June 3, 2020 webinar, which may be accessed here.
- Leadership. Strong franchisor leadership is as important during the reopening phase as it was in developing and executing a COVID-19 response plan. We encourage franchisors to continue with many of the same leadership strategies that were the focus of their COVID-19 response plans—including regular communication, transparency, and empathy to franchisees. Franchisors should also continue to lead collaboratively on strategic issues surrounding the reopening phase, encouraging franchisees to be part of the conversation and effectively utilizing your franchise advisory council or reopening task force. Strong leadership will help to ensure franchisee “buy in” to your reopening plan and, accordingly, minimize challenges during this already difficult time.
- Organized Communication Strategy. We once again emphasize: communication is key. This is especially true given the myriad changes and challenges that franchisees will face in reopening their businesses. As always, franchisors should be mindful to frame messaging with an eye toward the respective franchisor and franchisee roles and responsibilities. As noted below, we recommend that franchisors communicate with franchisees with recommendations and best practices on a variety of reopening issues—from implementation of new operating models and customer communications to cleaning protocols and responding to COVID-19 exposures or diagnoses. We have been working with franchisors to compile relevant, timely information and resources on these and other topics.
- Communications with Brand Customers. Managing communication with brand customers is also critical during the reopening phase. Franchisors should communicate with franchisees with the goal in mind of projecting a consistent image to the consumer about what the brand is doing. Customers will find comfort in consistent, clear messaging regarding changes to business operations and increased health and safety measures designed to reduce the spread of COVID-19. Keep in mind, however, that circumstances surrounding reopening likely will vary from state to state or even city to city. While franchising is in large part about uniformity, there may and will likely need to be some non-uniformity in order to ensure franchisees are reopening consistent with federal, state, and local guidance. This includes both the timing of reopening and reopening standards (mask requirements, distancing recommendations, etc.).
- Critical Components of COVID-19 Reopening Plans.
- Review and Follow Applicable Rules or Orders. It is critical that franchisees comply with all federal, state, and/or local orders, guidelines, or requirements that may apply, and franchisors should communicate their expectation that franchisees do so. Such orders, guidelines, and/or requirements may be subject to frequent changes based on new developments. Franchisors should therefore remind franchisees to keep abreast of current developments and recommend that franchisees speak to local legal counsel about how such orders, guidelines, or requirements may apply to their business. Franchisors should also consider providing relevant resources to franchisees, such as the National Retail Federation’s State Resources for Retailers on COVID-19, which provides updated information for retailers on a state-by-state basis, or relevant Guidance Documents on COVID-19 issues from the Centers for Disease Control and Prevention (“CDC”). Faegre Drinker’s Government Actions: COVID-19 page also tracks state and local government orders and guidance related to COVID-19.
- Strategize Operating Model. Franchisors should encourage franchisees to consider any changes that may need to be made to their day-to-day operations to comply with all federal, state, and/or local orders, guidelines, or requirements or to otherwise ensure the safety of employees and customers. Franchisees should be prepared for change. Depending on the circumstances, they may need to reopen on a reduced schedule or modified operating model and later transition to a different plan based on staffing, comfort level, or state or local directives. To the extent franchisors have developed approved or recommended operating models (e.g., reduced hours, changes in staffing, curbside service, limited seating, etc.), those models should be communicated to franchisees in advance of the reopening process.
- Preparing Franchisee Employees. A franchisee’s communications with its employees are just as important as a franchisor’s communications with its franchisees. Franchisors should encourage franchisees to communicate early and often with their employees regarding any changes to business operations and policies, including to provide any additional training that may be needed relating to Personal Protective Equipment (“PPE”), social distancing, and cleaning requirements, among other things.
- Preparing for COVID-19 Exposure. It is critical that franchisees have a plan in place to address any confirmed employee or customer COVID-19 cases or instances of exposure. Franchisors should consider providing recommendations and best practices to franchisees in this regard, including, for example, requiring employees who exhibit symptoms to remain home, preparing customer notifications regarding such exposures, determining whether and what requirements exist for notification to government agencies or public authorities, reviewing and following up-to-date CDC Public Health Recommendations for Community-Related Exposure and other state or local guidance regarding exposures to a confirmed case of COVID-19, and reviewing CDC recommendations regarding Cleaning and Disinfecting Your Facility in response to a sick staff member or customer.
- Employee Safety. Franchisees should review and comply with all federal, state, and/or local orders, guidelines, or requirements relating to, for example, PPE for staff, social distancing, and cleaning requirements, among other things. Because these requirements may vary by locale, franchisors should encourage franchisees to reach out to their local legal counsel on requirements relating to COVID-19 issues and to ensure compliance with laws such as the Fair Labor Standards Act and Americans with Disabilities Act. This is especially the case given the enactment of state and local orders that may require screening and testing of employees. Faegre Drinker’s employment team has provided detailed guidance to franchisors around these and other employment issues, including advice relating to vicarious liability and joint employer issues.
- Responding to Franchisee Non-Compliance. Franchisors should prepare to address franchisees who reopen early, late, or not at all, or who otherwise fail to comply with applicable federal, state, or local requirements. Franchisors should seek a consistent process to address these issues, including who will communicate with franchisees on noncompliance related to reopening, when and how that communication will occur, what standard language to use in addressing such noncompliance, and how you will incorporate applicable reopening orders, franchise agreement provisions, and state franchise laws into your process for noncompliance on reopening issues. On top of this, franchisors may consider preparing relief packages for franchisees who meet defined financial criteria to provide additional financial assistance to help a franchisee reopen its business.
- Documentation. We strongly recommend that franchisors document their reopening plans and related communications with franchisees and act diligently to ensure those plans are consistent with federal, state, and local guidance. Smart communication and writing are absolutely critical not only from a practical perspective, but also to create a favorable record for when and if a franchisor is forced to examine its reopening process in hindsight (such as during potential future litigation with franchisees or consumers). Our rule of thumb: Before issuing any written communication, give thought to how it will be viewed a year from now or in the heat of litigation. We also recommend that you share some of the core communication principles included in this and prior updates with your franchisor team. Please know that our franchise team is here for you if there are any communications you would like us to review with these issues in mind.
Remember: Your communications with franchisees should include disclaimer language to reinforce the franchisor/franchisee roles and responsibilities (we provided sample disclaimer language in our March 19 alert, which can be found below). We also recommend that you encourage franchisees to contact their own legal counsel for advice, especially on issues relating to local and state orders/guidance or employment issues. If you have questions or concerns about “crossing the line” with your communications, please reach out to our franchise team—we are happy to review and provide recommendations with an eye toward vicarious liability, joint employer, and other issues.
Employment Issues
- As always, franchisors need to confirm they are not directing franchisees on how to manage their employees. Franchisors can provide general guidance regarding employment-related issues, however, as long as it is clear the franchisor is not mandating a specific course of action.
- As states begin phased reopening, companies must consider state and local guidance to determine when and how to reopen. For information on closure and other emergency orders that are currently in effect, visit our COVID-19: Government Actions resource page.
- Keep in mind CDC and health department guidance regarding necessary PPE and individual safety. This may mean creating safety protocols not only for franchisor and franchisee employees, but for customers and workplace visitors.
- When employees are brought back to work, keep the Families First Coronavirus Response Act in mind. The Department of Labor continues to update regulations for the Act, and Faegre Drinker’s team continues to monitor these regulations.
- Consider business needs, compliance with ongoing stay-at-home restrictions, and health precautions when considering who to bring back to work at what times. Where appropriate, be prepared to engage in the interactive process under the Americans with Disabilities Act to address concerns of employees who do not want to return to work. Franchisees should consult with their own legal counsel to ensure state and local compliance.
- Review any new anti-discrimination laws relevant to the COVID-19 pandemic and craft new policies accordingly. Encourage your franchisees to speak to legal counsel regarding these new laws. Also, franchisors should carefully evaluate and investigate any allegations regarding workplace safety and encourage franchisees to do so, as well, to protect the franchise brand and reputation.
- In some states, state and local guidance require monitoring of employee symptoms. Faegre Drinker has addressed some common questions regarding whether and how to test employees. We also considered whether and when health care providers can provide test information directly to employers.
- Borrowers who obtained Payroll Protection Program loans under the CARES Act are eligible for loan forgiveness. See here for loan forgiveness guidance and below for more key takeaways from the latest SBA developments.
- Be sure to check out Faegre Drinker’s Return To Work Guide to help navigate some of the common questions companies face as they consider reopening, and don’t forget the Employer Action Guide once businesses are up and running.
CARES Act Stimulus Benefits for Small Businesses
Since the CARES Act was enacted, the guidance surrounding eligibility for Paycheck Protection Program (“PPP”) loans and the use of PPP loan proceeds has evolved quickly. Below are key takeaways from the latest SBA developments:
- Expenses Eligible for Loan Forgiveness. The PPP loan forgiveness application was published May 15, 2020. This application confirms that expenses eligible for forgiveness do not have to be both incurred and paid during the loan period. The instructions indicate that payroll costs paid during the loan period qualify for forgiveness and payroll costs incurred during the loan period and paid in the borrower’s next regular payroll disbursement also qualify for forgiveness. Non-payroll costs (mortgage interest, utility payments, and rent) are forgivable if paid during the loan period or incurred during the loan period and paid on or before the next billing date. As noted below, 60% of a PPP loan must be spent on payroll costs or the amount of forgiveness will be reduced and the SBA plans to update the forgiveness application to reflect the newly enacted PPP legislation.
- Employee Matters. PPP borrowers who reduce their full-time employee count during the loan period will see a reduction in their maximum forgivable amount. The loan forgiveness application confirms that an employee must work at least 40 hours per week to be classified as full-time. Borrowers should be mindful of this, particularly if they use a lower threshold to classify employees as full-time for internal purposes and benefits eligibility. Additionally, PPP borrowers will not see a decrease in their forgiveness amount for those employees who do not accept an offer to return to their previous positions.
- PPP Loan Review Procedure. A recent SBA Interim Final Rule (“IFR”) formalized the various ways that the SBA may review a PPP loan. The SBA previously stated that it would review all loans over $2 million with respect to the certification of financial need submitted by borrowers. The methods, timing and documentation required for those reviews is still unclear. What this latest IFR confirms is that the SBA retains the right to review any loan, regardless of size, for overall eligibility (including the nature of the business and employee count), the calculation of the loan amount, and use of the forgiven portion of the loan. Borrowers will have the ability to dispute SBA findings, but the process for such disputes has not been made available yet.
- Documentation Requirements. The latest PPP guidance and IFRs reinforce that borrowers should carefully document each step in the PPP loan process in case a loan becomes subject to SBA review. The PPP forgiveness application requires borrowers to retain these records for 6 years.
- Recent Legislation. On June 5, 2020, the PPP Flexibility Act was signed by the president. This legislation provides more flexibility to PPP borrowers. Borrowers now have the option to extend their loan term from 8 weeks to 24 weeks or December 31, 2020 (whichever comes first) and borrowers can defer payroll taxes on PPP proceeds used for payroll costs. PPP borrowers only need to spend 60% (instead of 75%) of the PPP loan amount on payroll costs to maximize forgiveness and recent statements from the SBA and Treasury confirmed that borrowers who spend less than 60% of their PPP loan on payroll costs will still receive proportional forgiveness. New PPP loans obtained after the law is passed would have a 5-year term (current PPP loans have a 2-year term). Under the new law, PPP loan applications will be processed until June 30, 2020 (assuming funding remains available).
Litigation Issues
During the past few months, federal and state Occupational Safety and Health Administrations (“OSHA”) have not been conducting site inspections in response to employee safety complaints. Instead, they have been sending letters of inquiry in response to a report of health hazards at a worksite. These letters contain a description of the alleged hazard and a request that the business investigate the alleged hazards and submit information to OSHA of its findings. While in most cases these requests will go to the franchisee, there have been instances where the franchisor is also asked to provide information. Therefore, it is critical that franchisors be able to describe that they are not the employer at the subject site and describe the proactive safety recommendations they have provided to franchisees. Such recommendations may relate to the use of cloth face coverings or other PPE; physical distancing; regular deep cleaning and sanitizing of work areas; franchisee training of employees on how to properly wear and maintain PPE or face coverings; franchisees’ requiring regular hand washing and providing hand sanitizing stations; franchisees’ requiring employees to stay away from the worksite when ill; and franchisees’ monitoring and implementing public health recommendations from the CDC, OSHA, and local health authorities.
Civil litigation is another way allegations of unsafe workplaces are raised. Recently, five employees and some of their family members have filed a class action against McDonald’s Corporation and two franchisees alleging public nuisance and negligence causes of action. Essentially, the plaintiffs claim that the defendants failed to take proper precautions or follow governmental guidance to protect employees and the public. Specific allegations include: failing to provide proper PPE, including gloves and masks; instructing employees that they need not physically distance themselves as long as they keep conversations to less than 10 minutes; failing to notify employees of positive COVID-19 tests; failing to train employees on proper safety protocols; and failing to require the use of gloves or masks. The plaintiffs are not seeking monetary damages but only injunctive relief such as adequate PPE and other protective measures. The Court denied McDonald’s motion to dismiss on primary jurisdiction grounds and is conducting an evidentiary hearing on whether the defendant restaurants have taken appropriate measures to safeguard employees and the public from the risk of exposure to COVID-19.
Other recent COVID-19-related litigation aimed at employers includes wrongful death and negligence actions. In these cases, unlike the injunctive relief sought in the McDonald’s case, the plaintiffs seek monetary damages related to loss of life or illness from COVID-19.
To defend against such claims, it will be important that franchisors educate the decision-maker on the franchise business model, the respective roles of the franchisor and franchisee, and the franchisee’s sole responsibility to monitor and comply with guidance issued by CDC, OSHA and state and local agencies and to take protective measures to guard against exposure to COVID-19 at a franchised location. It may also help a franchisor to have evidence of the recommendations it provided to franchisees related to COVID-19 exposure and the franchisor’s expectations that franchisees control their day-to-day business operations, especially as it relates to employment matters. Accordingly, franchisors should encourage their franchisees to document all such protective measures taken by franchisees and preserve all franchisee communications, trainings, and any workplace investigations into COVID-19 cases.
Bankruptcy/Financial Distress Issues
Outlook. Generally, the COVID-19 pandemic has not precipitated an immediate filing of bankruptcy cases or other insolvency proceedings. This is likely due in part to government loan programs like the Paycheck Protection Programs (PPP) and Economic Injury Disaster Loans, the cessation of remedies for defaults (including accommodations by landlords for past-due rent), and the uncertainty that has been a constant for businesses these past few months.
Nevertheless, some businesses that were struggling pre-pandemic have already filed for bankruptcy or ceased operations. And as more states move to allow businesses to reopen, we expect the true extent of the coronavirus’ economic impact to begin to be revealed. This likely will include many franchisees and some franchisors in industries hit hard by changes to their business model. You must be diligent in monitoring the status of franchisees, to allow you to identify problems before they become more difficult to solve. Communications with your franchisees as soon as potential issues arise are also recommended. In many instances, a negotiated workout arrangement may be possible, which can avoid the need for bankruptcy and provide a better long-term outcome. Typically, the longer the trouble continues for the franchisee, the more limited the options to fix it become.
As businesses reach the limit of their available credit, burn through any cash on hand, experience reduced revenues through the summer, and with no further government programs like PPP for assistance, we expect there to be a significant increase in bankruptcy filings, especially in Q3 and Q4 of 2020. For example, in the District of Colorado alone, the bankruptcy court predicts a 300% increase in the number of chapter 11 filings this year, beginning in August and peaking in December. More broadly, the U.S. court system is anticipating a record number of consumer bankruptcy filings. And scholars have predicted that we may see upwards of 170,000 (or more) businesses file chapter 11 bankruptcy cases.
Rent Abatement and the Automatic Stay. Given current global economic conditions, some businesses—including many franchisees—have found it difficult to meet rent obligations. As a reprieve, they have asked landlords for rent deferrals or abatements. Landlords, in return, often require the tenant-businesses to execute lease amendments. Among other things, such amendments may require the tenant-businesses to stipulate to relief from the automatic stay in the event that the tenant-business later files for bankruptcy. The proposed stay relief purports to, among other things, allow the landlord to retake the property, re-let it to another tenant, and apply any security deposit—all without approval by the bankruptcy court.
Whether a bankruptcy court will enforce a prepetition waiver of standard bankruptcy protections, such as the automatic stay, is a fact-specific inquiry. As a general matter, though, bankruptcy courts tend to apply a four-factor test when determining whether to hold a debtor to a prepetition waiver of automatic-stay protections: (1) the sophistication of the party making the waiver; (2) the consideration for the waiver, including the creditor’s risk and the length of time the waiver covers; (3) whether other parties are affected, including unsecured creditors and junior lienholders; and (4) the feasibility of the debtor’s plan.
In addition, two decisions from the Bankruptcy Court for the Eastern District of Virginia have allowed tenant-businesses to defer rent—over landlords’ objections—under section 365 of the Bankruptcy Code (which concerns a debtor’s obligations under unexpired leases, among other things). We will be keeping a close eye on these and other bankruptcy-law developments as they unfold over the coming months.
PPP Loans Unavailable to Debtor in Bankruptcy but Treated as Unsecured Debts. While many that utilized the PPP for loans have already received those funds, it is possible that others have not and may think that they can borrow via the PPP if they file for bankruptcy. When the PPP loan program was originally unveiled, it was unclear if those loans would be available to debtors in bankruptcy. The SBA’s later-propounded rules provided that if the applicant is in bankruptcy at the time that it submits the application or files for bankruptcy at any time before the loan is disbursed, they are ineligible to receive the requested PPP loan. While some courts have overruled the SBA to allow the debtor to submit a PPP application, the actual success of the debtors in those cases of obtaining PPP loans is unknown and seems unlikely. The reality is that PPP loans (and potentially successor programs) do not appear to be tailored as a lifeline to assist franchisees that file for bankruptcy.
For those entities, including franchisees, that already received PPP loans but may still end up filing for bankruptcy as a result of the pandemic, there is some positive news regarding their PPP loans. The PPP loans will be treated as unsecured debts that are not required to be repaid in-full as part of a chapter 11 reorganization or otherwise granted payment priority over other unsecured creditors. Depending on the timing of any bankruptcy filing, the loans could also be forgiven if used pursuant to the PPP guidelines and the necessary paperwork is submitted.
Business Interruption Insurance Issues
As states begin to reopen and lift restrictions, franchisors should encourage their franchisees to carefully review their insurance policies for potential COVID-19 coverage. Whether an insurance policy covers COVID-19-related losses will depend on the type of policy, the language of the policy, and the facts of the claim.
- Commercial Property Insurance. Commercial property insurance policies may provide coverage for business income loss and extra expenses associated with reopening after such a loss. These policies typically require, however, that there be a direct physical loss of or damage to the insured property. Whether the potential presence of the virus constitutes “direct physical loss” is an issue that is currently being litigated in various courts. Even if the potential presence of the virus would constitute “direct physical loss,” these policies also often contain virus exclusions and other exclusions that would defeat coverage. Finally, as such policies are renewed, insurers may add specific COVID-19 exclusions to an insured’s policy. Businesses should carefully review their policies for the specific terms and exclusions, particularly if there is a risk additional closures may become necessary.
- Workers’ Compensation Insurance. In some instances, workers’ compensation policies may afford coverage for an employee who is infected in the course of his or her employment, if the employee can demonstrate that his or her illness was caused by his or her employment. Causation may be difficult to prove, so as businesses reopen, employers and employees should keep detailed records of potential exposures.
For more information regarding business interruption insurance issues, please see prior Faegre Drinker publications, including Insurance and the Coronavirus: Assessing Potential Claims and Coverage Issues and Business Interruption: The Convergence of Coverage and Science.
April 8, 2020 Update
Below is a summary of key aspects of — and best practices for — franchisors’ COVID-19 Response Plans, as well as an updated summary of key legal issues that franchisors are facing with COVID-19 and the corresponding business realities. Our March 19, 2020 installment of this alert can be found below.
Franchisor COVID-19 Response Plan
We have been working closely with franchisor clients to help them develop and execute COVID-19 Response Plans. Below is a general summary of key aspects of these COVID-19 Response Plans:
- Leadership. Franchisor leadership continues to be more critical than ever. It is important for franchisors to show they are committed to their franchisees and the franchise system through regular communication, transparency and, of course, empathy. Franchisees are looking to franchisors for answers during these uncertain times; although you may not have all the answers, acknowledging the struggles franchisees face and providing relevant, timely information and resources can go a long way. As always, strong leadership can make all the difference.
A special note on the importance of collaborative leadership. While many of the tactics on what needs to get done during this crisis are best deployed by directing franchisees to take specific actions, franchisors will be better served by leading collaboratively on strategic issues that must be addressed when we emerge from the economic shutdown. Now is the time to focus on this next phase, and franchisors should not do this on their own. Collaborative leadership does not mean a franchisor gives up its decision-making authority. Franchisees don’t want a vote. They want a voice. Each franchisor should include as part of its COVID-19 Response Plan how they will include franchisees as key brand stakeholders in the strategic planning moving forward. Effectively utilizing the Franchise Advisory Council, a special task force of key franchisee leaders or similar groups, are common among franchisors who are already working on how the business will operate in the coming months, including changes to how consumers will expect the delivery of a brand’s product and services as well as staffing-related issues. Effective collaborative leadership also does not assume that how a franchisor made decisions in the past will necessarily be as effective now or result in similar outcomes. Do not assume anything. Again, now is the time for effective leadership and engagement. We hosted Scott Greenberg and Alan Stein Jr. during our Session 4 and Session 5 webinars, and both delivered outstanding leadership principles and best practices that will make a difference.
- Organized Communication Strategy and Information/Resources About COVID-19. Communication is key. COVID-19 developments change frequently, and we recommend you put in place an organized communication strategy to stay in regular contact with your team members and franchisees during these ever-evolving and uncertain times. The communication resources should include media strategies as further noted below.
Be the “go-to” source of information for franchisees and provide them with a “Who to Call List” — a list of names and contact information for leadership/operations team members they should reach out to with questions or concerns relating to the COVID-19 pandemic and related business issues. Franchisor communications should cover a broad spectrum of issues on which franchisees are likely to have questions, from employment issues to financial relief to communicating with landlords, insurers and suppliers, etc. In addition, we have been working with franchisors to compile relevant, timely information and resources about COVID-19-related developments to distribute to franchisees. These include, for example, communications summarizing key provisions of federal legislation (Families First Coronavirus Response Act, Coronavirus Aid, Relief and Economic Security (CARES) Act, etc.), providing information about Small Business Association lending programs, and updating franchisees on issues related to public health and safety, cleanliness and any relevant changes in brand standards.
- Recommend That Franchisees Report Incidents of Employee/Customer Exposure or Diagnoses. In order to protect their brands, franchisors should ask franchisees to notify them of any incidents of COVID-19 exposure or diagnoses by the franchisees’ employees or customers and should provide franchisees with suggested best practices in responding to such situations. Depending on the circumstances, this may include notifications to customers. We can help you prepare communications to franchisees with recommendations regarding customer notifications and other steps consistent with current CDC guidance.
- Communications With Brand Customers. Depending on the nature of the brand’s products or services, franchisors may need to include customer-facing support in their response plans. This includes communicating with customers regarding, among other things, government-mandated business closures (or notifications/explanations that the franchised business is exempt from such disclosures), the implications of business closures (e.g., for ongoing membership fees), changes to business operations or how products and services are delivered to comply with public health and safety best practices, etc. Communicating with brand customers is especially crucial for franchisors with corporate-owned locations.
Franchisors should also look for customer-facing opportunities. Doing good work for your customers and their communities in crisis may help you find new ways to build customer relationships and create long-lasting goodwill toward your brand for years to come. For example: What new online and digital initiatives may help the brand stay connected with customers in a virtual way? What updates can the brand provide to customers regarding things the brand is doing to benefit local communities during these difficult times?
- Employment Issues. Franchisors cannot direct franchisees on how to manage their employees, but can still provide general guidance regarding employment-related issues so long as it is clear the franchisor is not mandating a specific course of action. We have worked with franchisors to provide relevant communications to franchisees regarding wage and hour laws, unemployment benefits, health insurance, paid time off, sick leave, etc. In addition to the information provided in the “Employment Issues” section of this update, Faegre Drinker also regularly updates its Employer’s Action Guide with recommended prevention and response efforts tailored to the latest developments.
- Impacts of Federal Guidance and State/Local Business Closure Orders. Although it can be difficult especially in franchise systems with operations in many states, we recommend franchisors communicate with their franchisees about the impact of federal, state, and local guidance/orders regarding business closures and other issues. (Note: The International Franchise Association (IFA) is maintaining a real-time updated spreadsheet that covers state actions regarding COVID-19) We have worked with franchisors to draft correspondence summarizing such orders and to provide franchisees with recommendations and best practices around government-mandated business closures or, alternatively, best practices if a franchisee chooses to remain open in locales that have issued state-closure orders (including a framework for employee letters explaining that the employee falls within a particular jurisdiction’s exceptions to business closures). Of course, the franchisee is obligated to comply with all applicable orders for the closure of businesses. And franchisors should monitor franchisees’ decisions in this regard to safeguard the brand’s image and, if necessary, act swiftly to default and potentially terminate franchisees who defy government-mandated closures of the franchised business.
- Financial Resources, Relief and Support. Franchisors should be prepared to address franchisee concerns regarding cash flow and viability of continued business operations during and after the COVID-19 pandemic. This should include updating franchisees on financial assistance available from government entities and how best to access that assistance — an issue we have assisted franchisors with extensively as new programs come online through the passage of recent federal legislation. In addition, franchisors should consider whether and what financial or other relief to offer franchisees during these difficult times — either on a system-wide or individualized basis (consistent with state laws prohibiting franchisors from discriminating between similarly situated franchisees). Such relief might include, for example, reducing advertising fund or local marketing contribution requirements, deferring or waiving some portion of royalty fees for a limited time, or temporarily suspending various other fees.
Franchisees may also benefit from guidance on cash flow management during a crisis. We hosted Steve LeFever of Profit Mastery during our Session 3 webinar, who spoke about critical financial steps every franchisee should take during this time of crisis. We suggest franchisors review Mr. LeFever’s recommendations and educate their network on these issues.
- Business Interruption Insurance. Franchisors should encourage their franchisees to review their business interruption/business income insurance coverage to assess coverage and report claims under affected policies. We hosted Doug Imholte of Marsh & McLennan during our Session 3 webinar, who provided a summary of best practices with regard to such policies. Again, we recommend franchisors review Mr. Imholte’s recommendations and educate their network on these issues.
- Real Estate. Franchisors should also encourage franchisees to review their leases to assess any possible rent or other relief that may be available. Even if there is no clear contractual basis to withhold or defer rent, franchisors can arm their franchisees with tools to facilitate productive discussions and negotiations with landlords. Franchisors should discourage franchisees from stopping rent payments without landlord agreement, as it could have significant ramifications for the brand. Additional information is provided in the “Real Estate Issues” section of this update.
- Media Strategy. Consistent messaging to your brand customers is crucial. We recommend that franchisors provide franchisees with suggested messaging around COVID-19-related media inquiries, such as requests for comment from local media outlets about a franchisee’s closure. We hosted Lorne Fisher, CEO of Fish Consulting, during our Session 2 webinar, who spoke about communication during COVID-19, including a review of national and local advertising messages and best practices for PR/social media messaging during this time, among other issues.
- Advocacy. The IFA has been actively engaged in making sure the Trump administration and congressional leaders are fully aware of the economic and other impacts that the COVID-19 pandemic has had on franchisors, franchisees and all other stakeholders in franchising (including the hundreds of thousands of employees of franchised establishments). Darrell Johnson, CEO of FRANdata, shared with us information about COVID-19 and its impact on franchising during our Session 2 webinar.
IFA’s tremendous efforts resulted in specific provisions in the CARES Act that provided benefits to small business owners (as further described below). IFA needs our help in their ongoing efforts as more work must be done in the next phase of the federal stimulus efforts. Every franchisor and franchisee should act now. Go to franchise.org/coronavirus and join IFA’s Franchise Action Network (FAN).
Remember: Your communications with franchisees should include disclaimer language to reinforce the franchisor/franchisee roles and responsibilities (we provided sample disclaimer language in our March 19 alert, which can be found below). We also recommend that you encourage franchisees to contact their own legal counsel for advice, especially on issues relating to local and state orders/guidance or employment issues. If you have questions or concerns about “crossing the line” with your communications, please reach out to our franchise team — we are happy to review and provide recommendations with an eye toward vicarious liability, joint employer and other issues.
Challenging Franchisee Situations
The overwhelming majority of franchisors and franchisees are working cooperatively to respond to the difficulties created by COVID-19. But franchisors should be prepared to address franchisees who do not take seriously the threat of COVID-19 or unfairly take advantage of the current crisis. Some possible situations are described below.
- Failure to Comply With Government Closure Orders. Almost every franchise agreement requires a franchisee to comply with government laws and regulations. Therefore, a franchisee whose business is deemed “nonessential” under a government closure order should comply with the order by closing the business. Monitor social media and news reports for any indicators of noncompliance with the government order. Franchisee noncompliance threatens the brand in the near term as the local community learns of the franchisee’s continued operations. Significant long-term brand damage may result if the franchisee’s noncompliance contributes to the spread of COVID-19. In most situations, a franchisor should act quickly to default the franchisee with as aggressive as possible a cure period, if any, and potentially terminate the franchise agreement.
- Attempts to Excuse Unrelated Misconduct. Unfortunately, a small number of franchisees may see COVID-19 as an opportunity to excuse unrelated misconduct. For example, a franchisee may claim that COVID-19 justifies nonpayment from many months prior to the onset of the pandemic. Or a franchisee may breach provisions of its franchise agreement related to any number of system standards, including new system standards launched in response to COVID-19, on the mistaken belief that COVID-19 is a “free pass” to such misconduct. Stay attuned to these situations in order to avoid later arguments that the franchisor waived its rights or is estopped from enforcing them. If your time to respond to individual franchisee situations is stretched thin, when communicating with franchisees, it is often proper to expressly state in writing that the franchisees must comply with — and that the franchisor is reserving all its rights under — any applicable agreement and law.
- Overbroad Force Majeure Notices. Force majeure clauses typically do not provide a right to abandon all obligations under the franchise agreement. Some franchisees may legitimately not understand the effect of a force majeure clause, while others may intentionally overread the clause’s scope. If the force majeure clause is triggered, franchisors may benefit from a routine process for responding to franchisee force majeure notices in a way that describes the scope of obligations that are not excused and identifies the contractual language establishing when the force majeure event ends. This may help protect franchisors in any future dispute where a franchisee argues an overbroad scope of the force majeure clause.
Employment Issues
CARES Act Stimulus Benefits for Small Businesses
The CARES Act provides some needed relief options for small businesses. Below is an overview of the key forms of relief available to small businesses, along with the eligibility requirements and terms of such relief. The Small Business Administration (SBA) has until April 11, 2020 to issue full regulations to implement these programs and our guidance may change based on new guidance from the SBA or the Department of the Treasury and the final issued regulations.
- Paycheck Protection Program (PPP). PPP applications are processed directly by SBA-approved lenders. The PPP provides loan recipients with capital to cover the cost of retaining employees and other expenses. No guarantees or collateral are required to be eligible for a PPP loan. Businesses with fewer than 500 employees (including the number of employees at affiliated entities) are eligible, subject to some relevant exceptions, including:
- Any business concern operating as a franchise in a system assigned a franchise identifier code by the SBA
- Any business with a NAICS code of 72 and no more than 500 employees per physical location
The amount of the PPP loan is equal to 250% of the average monthly payroll costs (as defined in the CARES Act) for the year 2019 or from the last 12 months, up to a maximum of $10 million. Loan proceeds are eligible for forgiveness, subject to certain requirements, including:
- Proceeds may be spent only on payroll costs, mortgage interest, rent and utilities, with at least 75% of proceeds spent on payroll costs
- The amount of forgiveness will be reduced to the extent a borrower reduces employee compensation by more than 25% or reduces the average number of full-time employees during the eight-week period of the loan (see “Employment Issues” section of this update for additional detail).
- Any amounts not forgiven will be payable over two years at 1.0% interest.
SBA guidance to date has stated that the $349 billion allocated to PPP loans under the CARES Act is available on a first-come, first-served basis, so potential borrowers are encouraged to reach out to their lender now to apply.
- Economic Injury Disaster Loans (EIDL). EIDLs provide capital to address economic injuries caused by COVID-19. To be eligible, borrowers must show an economic injury as part of their application for the loan. Businesses with fewer than 500 employees (including the number of employees at affiliated entities) are eligible. EIDL loans can be up to $2 million.
Borrowers can obtain both an EIDL and a PPP loan, but may not obtain both loans for the same purpose (e.g. to cover payroll for the same time period). An EIDL can be refinanced into a PPP loan and would then be eligible for forgiveness if the other PPP requirements are met.
EIDLs are processed online by the SBA and, as a result, processing times are expected to be much longer than processing times for PPP loans (which are processed by lenders directly). Borrowers can request an emergency advance of up to $10,000 when applying. If approved, the advance will be disbursed within three days of applying for the EIDL. The advance does not need to be repaid under any circumstance, even if the EIDL application is denied.
- Small Business Debt Relief. Borrowers who have existing SBA loans will have all their loan payments, including principal, interest and fees, covered for six months. This applies to Section 7(a) loans, 504 loans and microloans. This relief will also be available to new borrowers who take out SBA loans within six months of the CARES Act (excluding PPP loans and EIDLs).
Real Estate Issues
The primary issue facing franchisors and franchisees in the real estate space concerns tenants’ inability to pay rent. While this is certainly the case for businesses that have been required to close or curtail operations pursuant to local governmental directives, even businesses that are still permitted to operate are struggling with significantly reduced revenue and thus are having to make difficult decisions, including how to address their lease obligations.
Unfortunately, it is highly unlikely that leases (whether via force majeure or landlord default theories) will contain provisions permitting tenants to cease paying rent or complying with other monetary obligations. That said, franchisors should encourage franchisees to review their leases carefully and consult with legal counsel to better understand their rights and obligations in the present situation.
Issues arising over the previous week, as April 1 rent came due, include:
- Many tenants of retail properties have contacted their landlords to open a discussion regarding rent relief. As of last week, anecdotal sources were predicting that on April 1, landlords would receive only 25% of the total rent expected during a normal month. We have not yet seen reports as to actual results, and any further information on this will likely be anecdotal only.
- There have been three general categories of responses from landlords:
- Some landlords have taken a very hard line, stating that rent is due and no concessions will be permitted.
- Some landlords have provided a very general response letting tenants know they are assessing the situation and will be in touch, but providing no assurance that rent relief will be granted.
- Some landlords have very quickly offered up periods of rent relief, most for the duration of a tenant’s closure, some for a set time period, e.g. six months. In such circumstances, some landlords are providing relief from 100% of amounts due (base rent and operating expenses), and some are just offering base rent relief, and tenants are still expected to pay operating expense amounts. In addition, some of the landlord agreements provide for complete abatement, with no repayment obligation, some provide for amortized repayment and some extend the term of the lease for the period of relief. In short, the types of relief offered are myriad and tenants should explore a variety of options with landlords, where possible.
- On the landlord side, it is not unreasonable to assume that many landlords’ credit agreements or loan agreements provide a prohibition on accepting less rent or agreeing to reduce rent without lender approval. A breach of those agreements would have dire consequences for landlords, which may be one reason certain landlords are taking a hard line against requests for relief (not wanting to run afoul of their loan agreement) or being noncommittal (needing time to work with their lenders to determine the path forward). We are hopeful that in the coming weeks more landlords will be willing to negotiate and enter into written rent relief agreements.
For additional guidance on contacting landlords to discuss rent relief, information on what a tenant can expect when negotiating rent relief, and assistance with forms of letters and other communications, please reach out to a member of our real estate team.
March 19, 2020 Update
Leadership Matters
- Franchisor leadership is more critical than ever for all franchise system stakeholders. You all know how important it is to exhibit empathy, transparency, a clear vision, an “in it together” attitude and constant communication/updates. What you do not need to have is all the answers. In fact, there is no way you can, as a decision you make today may be changed by a new reality tomorrow. Continue to acknowledge the very real financial and personal hardship franchisees may face. Now is the time to be clear that you are ready to lead in these unprecedented times. Leadership will make a difference.
- If you haven’t already, share with your franchisees a COVID-19 response plan, including resources and information for franchisees to use as they address COVID-19 issues with their employees, brand customers, lenders, suppliers and any other stakeholders. The COVID-19 response plan needs to appropriately distinguish between corporate and franchised locations, and it needs to include: an escalation of response, direction that franchisees must notify franchisors of incidents, and an organized communication strategy to address different situations. The response plan also should address franchisee questions regarding employment issues while striking the right balance as the franchisees’ employees are not the franchisor’s employees. Don’t forget that you still must consider vicarious liability and joint employer concerns under the circumstances.
The Role of the Franchisor
- Franchisors have latitude under the Lanham Act to act swiftly and decisively to protect their brands, goodwill and trademarks. The Lanham Act requires franchisors to guarantee the quality of the services and products sold under their trademarks, which may require extraordinary measures during the coming weeks.
- Franchisors also have a contractual basis in their franchise agreements to change brand standards in response to COVID-19. Identify and analyze clauses in your franchise agreements that permit the franchisor to change its brand standards. Then consider appropriate systemwide changes to brand standards to take into account the specific circumstances of your franchisees’ businesses and industry. Many industries like restaurants, and health, beauty and wellness concepts are impacted differently than other industries.
- Franchisors should also have a contractual basis to address individual franchisees who do not take seriously COVID-19 and thereby threaten damage to the brand. Identify and analyze any franchise agreement clauses describing a franchisee’s obligation related to public health and safety, cleanliness, changes in brand standards, and compliance with all laws, regulations and ordinances. These provisions give franchisors leverage with any individual franchisees who may ignore the changes required of their franchised businesses and/or the demands from government officials.
- When franchisors act to protect customer relationships during mandated closures and exercise their right to communicate with their customers, that does not show day-to-day control of franchisee operations. In that regard, the franchisor CEO’s communication to the brand’s customers can assure customers that the company and its franchisees understand the seriousness of the pandemic and will communicate steps that the brand will be taking in response to the pandemic. This role is crucial, as the franchisor should make sure that consistent communications are delivered to brand customers.
- Manage media inquiries because consistent messaging to your brand customers is crucial. Either suggest that franchisees forward media inquiries to you for a response or provide franchisees with suggested messaging to respond themselves. For example, if a local media outlet seeks a comment about a franchisee’s closure, that franchisee should have received tools and information to help it properly direct the inquiry or respond in a manner consistent with the franchisor’s messaging.
- Utilize your Franchise Advisory Council or franchisee task force to support franchisee input and buy-in to the different decisions you make as the franchisor.
- Be a “go-to” source of information for franchisees, including identifying and sharing resources for franchisees like those referenced below. You also want to recognize the importance of being part of franchisee conversations, rather than sitting on the sidelines and letting franchisee fear and anxiety result in paralysis or actions that are inconsistent with the brand and what needs to be done now. It is important to have regular franchisee communications to address franchisee fears, anxieties and concerns.
- Your communications to franchisees should include some type of disclaimer language to reinforce the franchisor/franchisee roles and responsibilities. Consider the following:
NOTE: Any best practices, guidance or related information we share with you and corresponding decisions we make are intended to help protect customer goodwill toward the _______ brand, as protecting the brand from potential reputational harm related to COVID-19 is paramount to your franchised businesses, as well as customers and all stakeholders in the __________ franchise system. While we do not control the details of work at any franchised business, we strongly urge you to carefully review and evaluate all information we share with you. Importantly, information we share with you is based on available information from various health agencies and other resources to-date; it is neither a comprehensive assessment of a franchisee’s employer-related obligations nor a substitute for legal advice on specific issues. Franchisees are solely responsible for compliance with all laws and regulations applicable to their franchised businesses. As to specific issues involving franchisee employees related to COVID-19, franchisees should consult with their lawyer for a full assessment of the facts and legal advice tailored to your situation. COVID-19 developments remain fluid and franchisees must make an effort to stay abreast of these developments. Unless we make brand-related decisions regarding certain system requirements, franchisees should make the decisions they deem best for their businesses and employees based on the unique facts and circumstances they may face, while understanding that an open line of communication and full alignment with _________ must be maintained from a brand protection standpoint.
- Identify and analyze force majeure clauses in your contracts (supplier agreements, technology agreements, financing agreements) and your franchisee’s contracts (franchise agreements, subleases). Force majeure provisions in contracts can vary widely in terms of notice requirements, what constitutes a force majeure event and remaining performance obligations under the contract. The provision may or may not address the COVID-19 pandemic and/or government-mandated business closures. Not only are listed types of force majeure events important (disease, epidemic, act of God, government action), but also key is the language describing the nature and level of the required impact or interference — i.e., some clauses state that the event must prevent total or partial performance (impossibility), while others only require that the event significantly interfere with, hinder or otherwise make the invoking party’s performance substantially more onerous than originally anticipated by the parties. Even if the force majeure clause is triggered, it may have different ramifications. Some clauses only partially suspend performance obligations and/or specify how long performance is suspended. Statutes, such as the Uniform Commercial Code, may apply in some circumstances. Other legal doctrines like impossibility, impracticability or frustration of purpose also may impact contract performance issues.
- Stay abreast of federal and state legislation as further noted below.
- Be prepared to address franchisee fears regarding cash flow and remaining open for business or reopening for business if they are closed. They will be seeking royalty relief or other similar assistance. Each franchisor will need to run financial modeling to determine the impact of temporary royalty waivers or reductions. In some instances, fee deferral rather than waiver or reduction may be more appropriate, as royalty fees are the lifeblood of the franchisor’s ability to provide support. Temporary suspension of advertising fund contributions, technology fees or other similar fees may also be an option. Depending on the extent of the relief, a franchisor will want to consider a release from the franchisees. If you offer relief/assistance tailored to an individual franchisee, rather than systemwide, evaluate if there are other similarly situated franchisees who should receive the same offer of assistance/relief — some states prohibit a franchisor from discriminating between similarly situated franchisees. Franchisors also should consider asking suppliers and landlords to provide some level of financial relief.
- Update your franchisees on financial assistance that may become available from government entities. For example, the Small Business Administration (SBA) in designated states is making available low-interest federal disaster loans for working capital to small businesses suffering substantial economic injury as a result of COVID-19. In addition, the Department of the Treasury is proposing a new $300 billion “business interruption” loan guaranty program, which would still have to be approved by Congress. Public reports describe the program as the U.S. government guaranteeing qualifying small business interruption loans, specifically loans from U.S. financial institutions that provide 100% of six weeks of payroll, capped at $1,540/week per an employee to eligible borrowers (employers with 500 employees or less).
Employment Issues
- Franchisors need to confirm they are not directing franchisees on how to manage their employees. However, franchisors can provide general guidance regarding employment-related issues, as long as it is clear the franchisor is not mandating a specific course of action. Franchisors can share general guidance from the Centers for Disease Control and Prevention (CDC) and the World Health Organization (WHO). In addition, any such guidance should encourage franchisees to contact the franchisee’s legal counsel for advice, especially as employment laws vary from state to state. Highlighting state paid/sick leave laws as part of the guidance may be a good idea.
- A one-size-fits-all approach may not be practical for your franchisees given that different areas of the country are being impacted differently and have different local and state government responses and different local and state laws. Thus, allowing franchisees to customize their approach with their employees is both practical and fits within the franchisor’s role in the system and the legal context (joint employer liability risk). It also reinforces that a franchisor and its franchisees must work together. Franchisees need to proactively step up and address these issues with their employees.
- Fortunately, the new Department of Labor (DOL) joint employer rule reduces a franchisor’s risks regarding joint employer/integrated enterprise issues. A summary of the new rule can be accessed here.
- Franchisors managing their own employees can take various steps to help ensure the health and safety of employees and customers. An updated employer action guide can be accessed here.
- Federal legislation referred to as the Families First for Coronavirus Response Act passed the Senate and was signed into law by President Trump.
- The bill requires 80 hours of paid leave for employees of employers with less than 500 employees for several COVID-19-related reasons. Employers would be obligated to provide notice to employees (once the DOL prepares the notice). After that initial two-week period, up to 10 weeks of expanded leave, paid at two-thirds the employee’s rate (up to an aggregate amount) and available to anyone after 30 days of employment for time to care for others due to COVID-19-related reasons and other circumstances.
- The reason the bill applies only to employers who employ fewer than 500 employees may be because the government is largely picking up the tab via tax credits, which they want to provide only to small/medium companies. The legislation would expire on December 31, 2020 and unused time would not carry over from one year to the next. For more information, you can access Faegre Drinker’s alert on the subject here.
- The bill provides additional funds to states that experience higher unemployment claims (Emergency Unemployment Insurance Stabilization and Access Act of 2020). It also loosens unemployment eligibility requirements such as waiting periods. In addition, unemployment benefits may be available to laid off and furloughed workers, as well as to those workers who exhaust their allotted paid leave.
Customer-Facing Issues
Depending on the nature of the brand’s products or services, franchisors should be ready to provide support with customer-facing issues.
- State or local health department/public safety closure orders and brand-protecting best practices for communicating these orders to customers
- For fitness or other health/wellness facilities or other systems on a membership model, the implications of closures for membership fees
- Supporting healthy and safe interactions with customers for businesses that continue to operate
- Thinking about different ways that the brand can stay connected with customers during these times where customers may not be physically visiting the locations (for example, how to enhance online presence or new and innovative ways to stay connected with customers, as customers will have extra time at home to engage with the brand)
Additional Resources
Here are some additional places to find helpful information:
