Minister Moore: Please recognize within federal insolvency law the interests of franchisees, their staff, and families.

Since 1970, United States federal and state regulations have recognized the distinctive vulnerabilities within the franchisor:franchisee relationship.

The 1,140,000 employees, 76,000 franchisees, and $15.2-billion invested within franchised outlets in Canada deserve to be as protected just as well as our friends to the south.

Source

The Target and potential for Tim Hortons are good examples of the Harper government’s commitment (via immediate Ministerial discretionary powers) in proving the Canadian entrepreneurial class is not useful only as cannon fodder.

Some of the laws that may need updating.

• Hon. James Moore PC MP Port Moody—Westwood—Port Coquitlam
• The Right Honourable Stephen Harper MP PC Calgary Southwest

Coffee Republic UK: a dirty insolvency, lease burning party and flip to a brother-in-law?

Federal insolvency laws can be misused and almost no one seems to care.

I’ve seen it up-close in Canada and studied it happening in Australia. The U.K. is not immune.

The recent Coffee Republic administration as reported by the BBC fits this model very closely.

Insolvency is supposed to be a way for corporations to survive without the disruption of bankruptcy.

Insolvency/administration was never meant to enable a franchisor from cynically breaking 100% of its franchisees’ and landlords’ contracts while lining the pockets of the legal and integrated accounting firms.

I have seen this up close in 2001 (Country Style) and continue to see this maneuver today in cases such as Kleenmaid in Australia.

Why would a Franchisor go Intentionally Insolvent? To break the lease contracts with their landlords and to coerce a better deal from its secured creditors. (Almost all retail-based franchisors hold the head lease and sublease to the franchisee because it is cheaper and faster to evict than terminate a franchise agreement.)

A franchisor (aided by his very skilled lawyer) creates 3 or 4 corporations: one holds the lease, one the franchise agreements, maybe an opertation one and one for equipment. They then stage a financial crisis in the companies that you want to shed (like a snake) and then keep the assets to be “sold” by a friendly accounting/consulting/trustee.

BTW: this professional conflict of interest is precisely why professional accounting firms (after Enron) have drawn an “iron curtain” between their accounting, consulting and trustee work. That’s the pretense anyway…

The circle is completed with the secured creditors (mostly franchise industry specialist bankers who are wise to the scheme), vote to accept the offer of presented by the trustee from a “miraculous” hand-picked white knight new investor.

Speed is good in this case so as to Cool out the Mark.

• Oddly enough, often the new franchisor is related to the old franchsior.
• The pretense of an economic downturn helps confuse the naive.
  

So it goes in franchising: the Franchisor sheds his inconvenient debt while his Courtiers make breathtakingly massive fees for advising and carrying out the charade.

• The landlords (with luck) get 11 cents on the $ for their multi-year, specialized construction-based commercial leases.
• Word to the Wise Landlord:  You should have taken the shake-down offer you got before the trigger was pulled on this scam.

Professor Jenny Buchan on behalf of the Australia CPA goes into detail in her paper called When the Franchsior Fails. An excellent primer on what happens when the franchisor falls on their sword: by accident or intent.

What happens when the franchisor goes south?

There are a lot of foolish ideas about what happens when franchisor goes insolvent or bankrupt [by design or accidentally]. While I am not a bankruptcy expert nor am I a lawyer, I have seen the devastation that corporate maneuvering can cause.

It’s usually a shitty situation.

As an excellent explanation of one example, please see Blue MauMau’s Bankruptcy Experts Are Wary of Bennigan’s IP Transfers article.

Paul Steinberg’s comments are right on, too.

Issue:

1. Did Company X own certain assets?
2. Did Company X file bankruptcy?
3. Did Company X transfer assets to Company Y immediately prior to filing for bankruptcy protection?

As Profs. Williams and Zinman note, if so then there may be a problem.

What I can absolutely, positively, 100%-of-the-time guarantee you is:

• it is an expensive and time-consuming exercise to prove that a franchisor has cherry-picked [in Canada, we call it boot-strapping a corporation] assets.

They might know, you might know, the Court might know but there is a HUGE difference between knowing or suspecting and getting someone to do something about it.

Without an independent franchisee association [helped by a tough lawyer] acting aggressively at the first sign of trouble, franchisees are usually never even considered a party to the proceedings.

• When your house is on fire, it is often the wrong time to race out to buy property insurance.

Solomon on Modern Franchising

Richard Solomon on Blue MauMau: Competent Risk Assessment Through Killer Pre Investment Due Diligence.

Absolutely right on the money.

Richard’s statement of problem:

The hoards of potential investors with access to over $ 500,000, coming out of downsizing companies and merger resulting reductions of work forces, have brought sharp practitioners to the small business opportunities field. These phony franchise opportunities masquerade as real business prospects, using the same descriptors as the legitimate franchise opportunities.

Does he see Any Protection?:

That Rule [FTC Rule, or similar disclosure type scams] does not, however, provide any reliable investment protection. The reason for this is that when you have parted with your total initial investment of upwards of $ 350,000 or more, and are on the hook for a ten year lease and to repay a large SBA business loan, and have personally guaranteed the performance of the franchise agreement (as they all now require), and have agreed to pay upwards of $ 100,000 to the franchisor as liquidated damages if you fail (which they all now also require), you have no resources left to pay for expensive litigation when you realize you were defrauded and are just plain broke. You are looking at bankruptcy as your only avenue of escape.

Richard versus Les: I agree with 100% the diagnosis. We part company regarding post-signing franchisor opportunism.

The problem, for me, is after you sign, the franchisor reserves the unilateral rights to:

1. turn into the most predatory S.O.B. operator imaginable [sign with Dr. Jeckyll who turns out to be Mr. Hyde].
2. Force you to sell to him your very high volume and profitable store at 15% of its value.
3. Or sells the whole system to a sleaze ball.
4. Or goes bankrupt/insolvent [new squeeze, divorce, switch teams, boredom…who know/cares?: result is the same for investor].
5. Or decides your store looks good on Son #1 or the moron brother-in-law.
6. Or [screw u du jour: a hundred other ways of excercising their discretion in an opportunistic way].

Yes, Killer Due Diligence works if the franchisee:franchisor relationship were to stay the same over the first term of the contract. But it does not.

• Pretending that the “good guys” will stay “good guys”, is too much of a leap of faith for me. I believe individuals are much more complicated that good or bad, black or white, evil/honest, etc.

I think the temptation to coerce more cash from a practically defenseless franchisee is too great for the vast majority of businesspeople.

I don’t think that franchisors are any more greedy than anyone else. I just think their situation [monopoly on supplies, renovations & equipment, $ from top not profits, etc.] gives them more opportunity to act selfishly than most business situations.

• BTW: I have zero doubt that if the roles were reversed, the vast majority of franchisees would be just as nasty. [Sorry…franchisees have just the same human strengths and weaknesses as anyone else. Easy to be morally superior when you have never been seriously tempted.]

For now, For the subordinate party, I say: Franchising is Unsafe at any Brand.

Litigation Merry go Round

Another class action lawsuit was filed this week as reported by Richard Gazarik at the Pittsburgh Tribune-Review: Quiznos franchise owners sue sandwich company.

I took the article into the Information Sharing Project as Record# 1,575. Here is what the Word file looks like before I split it out into the Access database. The present keywords that I extract from the article are here:

• Bankruptcy
• Churning (serial reselling)
• Coupon programs (forced) destroy franchisee margins
• Discount programs destroy retail margins but boost wholesale profits
• Encroachment (too many outlets put in territory),
• Fear of poverty
• Fear mongering
• Forced ordering
• Franchisor overcharges for required products
• Gouging on supplies
• Lawsuits just a cost of doing business
• Lawsuits, class action
• Must buy entirely useless goods and services
• Must buy only through franchisor (tied buying)
• Must pay future royalties, even when the franchise fails (liquidated damages)
• Racketeering
• System designed to fail for franchisees
• Threats of lawsuits
• Will work even when Variable Costs > than Selling price

The Future? These are the keywords that will likely fit this situation as it grinds onto the inevitable useless conclusion [if the trajectory does not change]:

1. Bootstrapping the assets of a corporation
2. Class-action dead end
3. Credence good fraudulent expert
4. Don’t owe your lawyer money
5. Fee surprises at settlement time
6. Federal insolvency laws used to shirk legal claims
7. Franchise agreements create a License to Lie, Cheat & Steal
8. Financial failure of first franchisee a material fact to the second
9. Franchisor bankruptcy
10. Franchisor corporation created to fail
11. Franchisor insolvency, intentional
12. Futility of taking legal action
13. Health consequences
14. Loan pushing
15. Piling on: franchisor can afford a few awards but not hundreds
16. Settlement just covers fees
17. Sue lender for not doing their lender’s due diligence
18. Sue the sales agent
19. System under scrutiny withdraws membership from franchisor association
20. Trading in false hope
21. Within the four corners of the contract

I honestly feel for the operators but fighting this [or any other] franchisor in the Courts is just for fools and their paid cheerleaders.

Numbers 8, 14, 17 & 18: They hold some real promise as a group action.

• I wonder why the franchise bar never argues along these lines?

Oz Alert: Shrewd businessmen immigrating

If you happen to bump into Bob Bangerter (left) or his fellow Blue Chip founder Mark Bryers (below) say hello for me.

I take Bob at his word: He is not, as some media outlets portray him, a rich old fiddler.

As far as the former lawyer Bob Bryers is concerned, a conviction for drunk driving (see Blue Chip’ Bryers blows the bag) and a divorce (see Blue Chip investors’ hopes fade) don’t seem to be slowing him down a bit.

It appears that Bryers is back in the real estate/franchising saddle but this time working full-time in Sydney, AU after becoming less popular in New Zealand (2,000 unhappy investors, $80-million losses).

Sydney property investment company Barkley Walsh says it is a subsidiary of ASX-listed Northern Crest Investments. Northern Crest was previously called Blue Chip Financial Solutions and is the parent company of many of the Blue Chip-related companies in liquidation in this country. Trading in its shares has been suspended since February.

To understand how franchising can be used to market over-priced assets AND dodge tiresome old real estate regulations, I recommend a very instructive article on http://www.stuff.co.nz called The Blue Chip Scandal: the valuations process.

Perfectly legal, I assure you.

Meanwhile back at the scene of the non-crime, the NZ Commerce Minister (a lawyer) continues to demean her office by publicly begging bottom-feeding finance companies to not collect on their perfectly legal Blue Chip mortgages.

This time on national radio.

BTW:

1. Businesspeople will do what they can get away with to make a buck. That’s their job. If they don’t, they deserve to be fired.
2. Everything is legal unless there is a specific statute to say it is illegal.
3. The politicians’ job is to make sure legislation and enforcement are there so thousands are not impoverished by “aggressive capitalists”.

Don’t blame a leopard for having spots (see #1), fall for any excuse du jour why laws were castrated (see #2) or be confused as to the duty of this cabinet to its electorate (see #3).

This isn’t complicated, folks: A franchisor corporation is created. They recruit unsuspecting franchisees who are the only ones legally responsible for selling into a real estate bubble. The franchise system takes in the money and rapidly moves it to a related company. The franchise system (mask) is then killed off to sever legal liability to the principals and the cash.

SOP (standard operating procedure) in franchising, all around the world.

Predatory franchise lending in New Zealand?

The New Zealand-based Exposing Unacceptable Financial Activities, EUFA, group sent out an email press release on April 25th specifically citing the U.S. experience in the sub-prime mortgage debacle and the allegations regarding predatory lending practices.

EUFA spokesman Gray Eatwell said from Southland:

“Documents provided to Blue Chip investors by some lenders show serious inaccuracies that indicate unconscionable lending practices” ” As a consequence of the deception and falsifications involved it is unlikely that such documentation would withstand the scrutiny of the Crimes Act and other such law”

Mr. Eatwell further added:

“when we look at the Crimes Act S240 Obtaining by deception or causing loss by deception and S242 False statement by promoter, etc for example, some very serious questions about the Blue Chip loans emerge. Such questions must be adjudicated”.

It would appear that a group of Blue Chip borrowers has formed and are starting to organize for lawsuit:

…any other investors who is unhappy with the way the documentation of their loan was presented to them should make contact with EUFA immediately.

Franchise restructuring ‘nauseating’

Meanwhile back in New Zealand, the Blue Chip fiasco is turning stomachs. Over 3,000 residential investors are owed +$70-million by 21 related insolvent companies.

Property investor Olly Newland says plans by the parent Blue Chip company to restructure itself and raise more money in Australia are “nauseating”.

“They’ve just cut loose all the poor people here,” Mr Newland said.

“It’s a shocking look. They’ve shown no remorse at all for what they’ve done and they are not the slightest bit interested in fixing it by the look of it … It doesn’t sit well with me,” Mr Newland said.

In a related story Blue Chip seeks money as empire crumbles, an investor comments:

Blue chip have left me with a morgage of Two Hundred and five thousand

I am 66 years old might not have a home any more very had having to pay 350 a week They told me I would never lose my home and lots of lies Cant sleep on my own and cant stop crying

The Philosophy of taking a Loss

This is a very interesting article picked up by an excellent law weblog. In Cooling the Mark Out, sociologist Erving Goffman says:

The confidence of the mark is won, and he is given an opportunity to invest his money in a gambling venture which he understands to have been fixed in his favor The venture, of course, is fixed, but not in his favor.

The mark is permitted to win some money and then persuaded to invest more. There is an “accident” or “mistake,” and the mark loses his total investment.

The operators then depart in a ceremony that is called the blowoff or sting. They leave the mark but take his money.

The mark is expected to go on his way, a little wiser and a lot poorer.

Of course, sometimes something wises the victim:

In order to avoid this adverse publicity, an additional phase is sometimes added at the end of the play.

It is called cooling the mark out.

After the blowoff has occurred, one of the operators stays with the mark and makes an effort to keep the anger of the mark within manageable and sensible proportions. The operator stays behind his teammates in the capacity of what might be called a cooler and exercises upon the mark the art of consolation.

An attempt is made to define the situation for the mark in a way that makes it easy for him to accept the inevitable and quietly go home. The mark is given instruction in the philosophy of taking a loss. [my emphasis]

Brilliant. Check out the rest of Michael Webster’s excellent weblog, The Bizop News. It is a must read if you want to understand the psychology and law of fraud.

The original article, On Cooling the Mark Out: Some Aspects of Adaptation to Failure, University of Chicago.

Fascinating and very applicable whenever the fraud sausage explodes, to use one of Michael’s vivid expressions.

Intentional corporate insolvency

Stuff in this life happens for a reason.

And the only reason anything in business happens is to make a return for those that are in control.

All corporations are born, mature and die: They have a lifespan. Some natural; Others not so much.

What many people fail to appreciate is that many businesses are assisted in their own suicide to avoid paying out their creditors and investors (once the cash is safely off-shore, mind you).

Weak or non-existent insolvency laws make it very profitable for fraudsters to take in money in Corporation1, transfer it to Corporation2 (and elsewhere) and then have accountants, corporate lawyers and consultants kill Corporation1.

This parts investors from their money. Usually 100% legally.

1. Any liquidator that doesn’t admit that corporate euthanasia happens frequently is either a liar or a scoundrel or both.
2. If a government fails to provide a law, then this Intentional insolvency trick is perfectly legal (ie. no lawsuit will remedy the loss).

Ever wonder why the fiddlers don’t even bother to flee the scene of the crime? The joke is on you as an investor: There haven’t been any laws broken.