The Bankrupt Franchisor: A Sequel

Some contributions back wrote my office mate mr. J. Provide information about the situation when a franchisor goes bankrupt and what the consequences may be for, in particular, the franchisees involved. Has that contribution considered the situation of a fait accompli, i.e. the situation after the bankruptcy? No less important is the situation immediately prior to bankruptcy. During that period, both the franchisor and the franchisees can make decisions that can have far-reaching consequences later, after the bankruptcy.

In the first place, one should think of the so-called bankruptcy pauliana. The guiding principle in the event of a bankruptcy is that all creditors are allocated proportionally with regard to the payment of their claims against the bankrupt. There are some exceptions to this, such as the tax authorities and the trustee himself, but that is the main principle. In practice, it sometimes happens that, in the period just before the bankruptcy, the soon-to-be bankrupt discharges certain creditors, for opportunistic, personal or friendly reasons, from their claims or makes payments that are disproportionate to the claims of the other creditors and which significantly reduces the recovery options of those other creditors. Such acts are called paulianeus in legal jargon. After the bankruptcy, the trustee has the option of nullifying such legal acts, as a result of which all consequences thereof must be undone. Any monies paid must therefore be repaid and old claims revived.

A second point that needs to be paid attention to is the question of who can be held responsible for a possible bankruptcy. In most cases, this question cannot be answered unequivocally. A complex of facts and circumstances are often the basis for the bankruptcy of a company. In practice, however, it has sometimes happened that a united collective of franchisees en bloc decided to suspend fee payments and other payment obligations to the franchisor on account of disputes existing between them and the franchisor at that time. Class suspensions can cripple a franchisor’s cash flow to a great extent. Such a situation may actually result in the bankruptcy of the franchisor concerned. In that case, after the bankruptcy, a discussion arises as to whether the said suspensions were justified. If there could be any doubt about this, this could lead to a liability claim on the part of the trustee against the franchisees involved. That is the situation that should be avoided at all times. Liabilities related to the bankruptcy of a company of any size can reach astronomical heights, with serious consequences for the franchisees involved.

The moral of this story: if the franchisor is doing badly, be careful on the one hand accepting favors in the form of waivers or payments, since these can be nullified by the trustee as being fraudulent. Furthermore, especially in the role of franchisee, be aware of the consequences that legal or extrajudicial actions can have against a franchisor in dire straits.

Ludwig & Van Dam franchise attorneys, franchise legal advice