Franchisor Bankruptcy Fears Threatens Franchisees

Quizno’s sandwich chain has been struggling with debt woes for some time, and recently shifted ownership to Avenue Capital Group in an effort to avoid bankruptcy. Meanwhile, franchisees …

Quizno’s sandwich chain has been struggling with debt woes for some time, and recently shifted ownership to Avenue Capital Group in an effort to avoid bankruptcy. Meanwhile, franchisees who aren’t facing immediate problems from the parent company’s failings are now fearing that may change. Other franchisees of companies like 7-Eleven, Denny’s and Sizzler have survived despite a lapse in leadership; however, Quizno’s franchisees may run the risk of loss of support, supplies or worse as the reorganization gets underway.  For more on this continue reading the following article from TheStreet.

If you’re one of the 3,500 Quiznos franchisees, this is not a happy time.

You’re watching as your parent company heads into a debt restructuring program. The company, a chain of sandwich shops known for toasted subs, had been trying to negotiate with its creditors, store landlords and others to avoid bankruptcy, but Quiznos and its creditors agreed this week to hand over majority ownership to Avenue Capital Group, according to The Wall Street Journal.

The hedge fund will invest $150 million into Quiznos and convert some debt to equity to save the company from bankruptcy. Quiznos had taken on massive debt five years ago in a leveraged buyout. Apparently the sandwich chain has also been struggling with declining sales (not shocking, since Subway and other competitors can do toasted subs as well) and violated its debt terms over the summer, the Journal says.

"Improving our balance sheet and putting our capital structure issues behind us are major steps forward to strengthening the Quiznos brand and our customer experience," Quizno’s CEO Greg MacDonald said.

It’s just one of many franchise chains that have had financial woes, especially with the effects of the Great Recession clinging stubbornly. Over the years, some have been able to avoid bankruptcy by agreeing to major restructuring agreements such as Quiznos’; others were sold, with most corporate-owned stores liquidated in the process; and some rose again led by turnaround experts. Denny’s, Sizzler, Schlotzsky’s, Bennigan’s and 7-Eleven are all examples of where the former parent went bankrupt, yet the brand survived and in many cases thrived.

"Of course, these stories mask many of the day-to-day implications and practicalities of dealing with a franchisor in bankruptcy," writes franchise lawyer Jeff Fabian in a contributed piece for

"Sometimes the effects can be minimal, but other times — with small and large franchisors alike — a franchisor’s bankruptcy can significantly impact the success or failure of a franchisee’s operations. From loss of supply of branded inventory, to loss of affiliation with the franchisor’s trademark entirely, to loss of operational support, to customer confusion or defection as a result of less-than-flattering headlines, franchisors’ bankruptcies can have real and long-term effects for the businesses of their franchisees," Fabian writes.

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It’s not that often that a franchise system ends up in bankruptcy. The last thing a franchisor wants to have to report in the franchise disclosure document is that it was bankrupt. More commonly what will happen is that the company gets sold, experts say.

Still, if a franchisee is unlucky enough to be part of an organization going through a restructuring or bankruptcy, there is no need to panic. First, there are almost always plenty of warning signs when a parent company is beginning to slip, such as fewer new stores opened (including ones indefinitely "under construction"), slower supply deliveries and a pullback on national advertising.

Experts say the first thing franchisees should do if they think their parent company is in trouble is review the terms of their franchise agreements, especially to determine whether the company is still meeting its obligations, says Rush Nigut, a franchise attorney with Brick Gentry in West Des Moines, Iowa.

Franchisees will want to ensure that there is an agreement to continue the use of any trademarks, at least for a time, while the parent company is dealing with its woes. (Franchisees can lose the right to use the trademark if their parent company goes into bankruptcy, so it’s important to negotiate the right.)

The most important thing a franchisee can do, though, is to organize, says Brian Miller, CEO of The Entrepreneur’s Source. Banding together enables franchisees to gather information and gives leverage and bargaining power with the franchisor, vendors and suppliers and even help with trademark rights.

The collective group can also put more influence on the court in terms of what’s paid by bidders and the ability of the parent to continue to provide services and support during the proceedings or, in a worst-case scenario, get approval to be released from the franchise agreement, Miller says.

"Bankruptcy of a franchisor is bad, however it’s not always fatal," Miller says.

If a company does end up in bankruptcy, "the franchisor may liquidate the company-owned locations, but usually they don’t have the ability to force the franchisee to liquidate," says Sandeep Kella of

In 2004, Ground Round filed for Chapter 11 bankruptcy protection and shut down the company-owned locations. The remaining roughly 50 franchisees banded together and bought the Ground Round trademark, continuing to operate under the name, Miller says.

The franchisees promised to pay off the popular restaurant chain’s debt and restart the company. Ground Round, with 24 locations in 11 states, is now embarking on an expansion strategy.

"It’s the same company," Jack Crawford told Philadelphia media two weeks ago as CEO of the Ground Round Independent Owners Cooperative. "The people who own the brand are people who have owned and operated Ground Rounds for 20, 30 years. These are the franchise owners that have come together to buy this brand and really save it. It’s the same brand you know, with updated designs, a more enhanced menu."

The parent company of the Village Inn and Bakers Square restaurant brands filed for Chapter 11 bankruptcy protection in 2008, saying it was shuttering 56 company-owned restaurants and looking to further identify underperforming locations. The 93 franchisee-owned locations would not be affected, the company said.

The chain ended up being sold a year later to American Blue Ribbon Holdings, which put the brands through massive reorganization and renovation. Today the company has 263 Village Inn and Bakers Square restaurants (plus 73 restaurants under the Max & Erma’s name, which it also acquired.)

Expect to see more parent companies in trouble, particularly bricks-and-mortar companies saddled with high operational costs, says Dan Martin, CEO of IFX Online, a provider of Web applications and services to franchises.

Franchisors are losing units as retail sales are down, and that affects brand awareness and the overall royalty stream, he says. They are also having a hard time opening locations due to the still hard-to-crack capital access. High infrastructure costs, likely from plans implemented during the height of the housing boom, are based on "more units getting open and retail sales going up — none of which are happening," he says. Franchisees may "come up with the initial round of financing, but when it comes to getting their site opened they’re running out of money."

This article was republished with permission from TheStreet.


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