California has some of the most comprehensive and protective franchise laws in the United States, designed to safeguard potential franchisees. These laws regulate both the initial sale of a franchise and the ongoing relationship between the franchisor and franchisee.
The two main pieces of legislation governing franchising in California are the Franchise Investment Law and the California Franchise Relations Act.
1. The California Franchise Investment Law (FIL)
This law is primarily concerned with the sale and offer of franchises within the state. It is a disclosure and registration law, meaning franchisors must provide a prospective franchisee with detailed information about the franchise and register with the state before they can sell a franchise.
Key Requirements for Franchisors:
* Registration: Franchisors must register their Franchise Disclosure Document (FDD) with the California Department of Financial Protection and Innovation (DFPI) before offering or selling a franchise in the state. This is a crucial step that demonstrates the franchisor’s compliance with state regulations.
* Franchise Disclosure Document (FDD): The FDD is a detailed document that provides a prospective franchisee with 23 specific items of information about the franchisor, the franchise system, and the financial obligations and risks involved. This document must be provided to the potential franchisee at least 14 days before they sign any agreement or pay any money.
* Financial Disclosures: As part of the FDD, franchisors must provide audited financial statements, including income statements, cash flows, and balance sheets for the last three fiscal years.
* Filing Fees and Renewal: The initial registration fee is substantial, and franchisors must renew their registration annually, typically within 110 days after the end of their fiscal year.
* Exemptions: California law does offer certain exemptions from the registration requirement for franchisors that meet specific criteria, such as a high net worth or a large number of existing franchisees.
2. The California Franchise Relations Act (CFRA)
The CFRA governs the ongoing relationship between a franchisor and a franchisee. It provides important protections to franchisees related to the termination, non-renewal, and transfer of their franchise.
Key Protections for Franchisees:
* Termination: A franchisor cannot terminate a franchise agreement without “good cause.” Good cause is defined, in part, as the franchisee’s failure to comply with a lawful requirement of the franchise agreement. In most cases, the franchisor must give the franchisee notice and a reasonable opportunity to cure the failure (often at least 60 days).
* Non-Renewal: Franchisors are also restricted in their ability to not renew a franchise agreement. They must provide the franchisee with a minimum of 180 days’ written notice of their intention not to renew.
* Transfer Rights: The CFRA also provides protections regarding the transfer or sale of a franchise. A franchisor cannot prevent a franchisee from selling their business to a person who meets the franchisor’s then-existing, non-discriminatory standards for new franchisees.
* Jurisdiction and Arbitration: The CFRA has provisions that can void out-of-state venue or forum selection clauses in franchise agreements, allowing a franchisee to bring legal action within California.
It’s important to note that these laws are complex and often require legal expertise to navigate. A prospective franchisee should always seek the advice of a qualified franchise attorney to review the FDD and franchise agreement before making a significant investment.