Top Five Ways to Prevent Franchisor's E&O Claims

May 13, 2014

Franchisor's E&O insurance provides protection from alleged errors, omissions or negligence in a franchisor's professional services to the franchisees. Here are some best practices to reduce the likelihood of a Franchisor's E&O claim.

The franchise executives I know and work with strive very hard to make their concepts successful and to help drive value to, and growth for, the franchisees in their system. At the same time, the franchisees I know and work with strive equally as hard to make their businesses successful and operate within the guidelines of the brand. It is these two cooperating parties, working together, that make franchise systems successful.

Sometimes, however, things don't work out, and a franchisor finds himself or herself facing a claim and/or lawsuit from a franchisee, or franchisees. These lawsuits typically occur when a franchisee claims misrepresentations were made during the franchise development process and/or in the Franchise Disclosure Document. In many cases the franchisee(s) is claiming that these alleged wrongful acts have led to the demise of their business and financial harm.

This is where Franchisor's Errors & Omission (E&O) insurance can help be a financial backstop against these claims. Franchisor's E&O insurance provides protection to the franchisor from alleged errors, omissions or negligence in their professional services to the franchisees. In previous blog posts, I've highlighted some of the claims examples and the overall benefit of Franchisor's E&O insurance.

In this article, however, I thought I would focus on some best practices to reduce Franchisor's E&O claims from happening in the first place.

1.Franchise Selection: This is the age old issue in franchising and we could write a whole dissertation on the subject. What I've seen repeatedly, however, is once a Franchise E&O claim occurs, the CEO usually knew in advance where it would be coming from. These claims are expensive, so if you have legitimate doubts about the franchise candidate in the selection process, don't approve them, or, at the very least, investigate further to make sure a good fit exists.

2.Commitment to Relationships: Successful franchisors focus on building long-term relationships with their franchisees that are mutually rewarding. The data demonstrates that strong franchisor/franchisee relationships equate to better profitability for both parties. In these days of email, text message and blogs we sometimes forget to reach out and develop a relationship with our teams and franchisees on the good, the bad, the opportunities and challenges. Probably half of the E&O claims I've seen could have been reduced or eliminated with effective communication and a commitment to developing relationships.

3.A vision for the future: As a former franchisee myself, one thing that helped me through some tough times was that I believed the franchisor had a clear vision for the brand and an idea of how to get there. That gave me confidence and gave me somethihng I could share with my team. It also tied us more closely together. Are you sharing your vision with your franchisees? Do you know their vision? Are they aligned?

4.Documented Systems: A successful franchise brand needs well thought out and documented systems. As you grow and evolve, franchisors will need to document its policies, procedures, systems, forms and business practices in a comprehensive and user-friendly operations manual that the franchisees can understand and implement. Franchisees should also have a role in improving and updating these systems.

5.Unit Economics: I'm all about the unit economics at the franchisee level. I truly believe that happy franchisees make for a happy franchisor, not the other way around. Yes, the franchisees run and operate their business and they are ultimately responsible for their top and bottom lines. However, the most successful systems have franchisors that strive every day to help drive results, whether that is through helping to drive sales, better systems, marketing, financial benchmarking tools and other items. Having a bigger pie to slice up doesn't mean you won't face an E&O claim but successful franchisees are less likely to make claims than unsuccessful ones.

These are but five best practices that can help prevent Franchisor's E&O claims from happening to your organization. While these best practices will certainly reduce the need for Franchisor's E&O, they won't eliminate it. Keep in mind: in many cases, the more expensive the startup costs, the greater the need for E&O.

For those who want that financial backstop to cover defense and indemnification costs, contact us to learn more about Franchisor's Errors & Omissions coverage.