Under a franchise agreement, the franchisee is usually required to pay the franchisor certain ongoing fees, for example, marketing fees and ongoing franchise fees, which are often calculated as a percentage of gross sales. But what if you think that your franchisee is hiding revenues? Lets look at the options in today’s “Franchise Lawyer Special“.
What are your rights?
As a franchisor, you are entitled to be paid all fees as set out in the franchise agreement, as and when they fall due. Where such fees are determined based on a percentage of gross sales and you suspect that your franchisee is hiding revenue in order to reduce their payments to you, you should check your rights under the franchise agreement.
In a standard franchise agreement, the franchisor, or its authorised representatives, has the right without notice from time to time to inspect and/or conduct an audit of a franchised business. This includes the right to access the financial statements and/or accounting records of a particular franchised business to ensure that the franchisee is complying with the agreement and paying you the correct percentage amounts.
It is usually a requirement of the franchisee to fully cooperate with all inspections of financial records and statements, and to provide all information and explanations that are reasonably requested by you.
How can you enforce your rights?
If you do decide to conduct an audit, you should keep in mind that usually any audit or inspection of the financial records and statements is at your expense, unless the audit or inspection discloses that the franchisee has, in fact, materially understated the amounts that are payable to you. In those circumstances, the franchisee will be required to pay to the franchisor the full cost of the audit and/or inspection, and must remit to you any of the fees payable within a certain time frame.
If you are not certain of whether or not your franchisee has understated what is payable to you, before requesting an audit or inspection and provided you are given the right under the franchise agreement, you could send a mystery customer to the franchised business. The mystery customer can then report to you any matters which are relevant and concerns the operations of the franchise. There are usually provisions dealing with mystery customers in your franchise agreement. Any directly observed facts that are reported by the mystery customer are usually accepted as conclusive evidence by both parties.
If you are concerned that your franchisee is hiding revenues to reduce payments to you, you should dig up the franchise agreement that was signed between you and that particular franchisee. A well-drafted franchise agreement would have clearly indicated your rights as a franchisor to audit and inspect the financial records and statements of the franchisee, which would enable you to check whether or not you are being paid correctly. In the event that you do find that your franchisees have been hiding revenue, you are entitled to have the franchisee rectify this. If they elect not to do so, you may consider exercising your rights to terminate under the franchise agreement, or if you are unsure, consult with a franchise lawyer for assistance for working out your best options.