Set 10 Limits When Letting Franchisor Assign and Sublet Without Consent

Waiving consent rights doesn’t necessarily require ceding all control.

Leasing to franchise businesses can ensure a stream of large, financially stable, and nationally recognized tenants. But it also poses unique leasing challenges. To leverage the full strength of the franchise, you want to lease directly to the franchisor and allow it to assign the lease or sublet the premises to the franchisee.

The problem with this model is that franchisors aren’t like other tenants. Franchisors make money and protect their brands by maintaining strict control over franchisees’ operations. Accordingly, most franchisors will not and, because of their bargaining power, need not accept standard lease provisions requiring tenants to get a landlord’s consent before assigning the lease or subletting the space.

However, giving up your normal consent rights doesn’t necessarily mean giving up all control over who conducts business in the space. One leasing strategy attorneys tell us is effective: Establish mutually agreeable ground rules limiting the franchisor’s exercise of its right to assign and sublet without consent, including the promise to first ensure that all would-be assignees and subtenants meet predetermined franchisee approval qualifications. Here’s how to use the strategy, along with a Model Lease Clause for implementing it.

Negotiating Strategy

Expect the franchisor to claim that consent-less assignment or sublet poses no real risk to you. We’re the ones with the deep pockets, the franchisor will contend, and we’re financially responsible under the lease. These things are true. But prudent landlords’ concerns will go beyond the tenant’s ability to pay fixed rent. Allowing the franchisor to assign or sublet to any franchisee it wants may end up saddling you with someone who has:

• Little or no experience running a business;
• A criminal record;
• Outstanding debts, lack of credit, and other financial problems;
• A history of causing you problems as a tenant—for example, when the same entity that defaulted on its lease is now under a different name or with a different franchise.

The franchisor may counter that its interest in finding a qualified franchisee is at least as great as yours. After all, franchisors’ livelihoods depend on the success of their franchisees. This, again, is true, provided that you’re dealing with a large and reputable franchise like Subway or McDonald’s. But it may be far less true with a smaller or less established franchise without a clear track record of selecting quality franchisees.

GET 10 PROTECTIONS

While giving up consent rights may be tough to avoid, attorneys say that franchisors are generally willing to accept certain reasonable limits on how they actually exercise their special rights to assign/sublet without consent. Attorneys suggest imposing 10 requirements:

1. Must Be a Valid Franchise Agreement

First, require the franchisee on the other end of the assignment or sublet to have a valid, signed franchise agreement with the franchisor. Otherwise, you run the risk of getting stuck with an assignee or subtenant that isn’t a franchisee and has no affiliation with the franchisor beyond the assignment or sublease [Clause, par. b(1)]. You may also want to reserve your right to look at the franchise agreement before the sublease or assignment begins.

2. Franchisee Term Must Last as Long as Lease

Ideally, the franchise agreement should run for at least the time remaining on the head lease, including any extensions available to the franchisor. In addition to assuring you of having a legitimate franchisee in the space over the lease term, this encourages the franchisor to hold the selected franchisee to high standards of quality.

However, franchisors may be unwilling to accept this condition, especially if the duration of their standard franchise agreements is shorter than the time left on the lease. So, be prepared to negotiate for as long a term as possible based on the franchisor’s business model [Clause, par. b(1)].

3. Franchisee Must Meet Franchisor’s Standards

The heart of the clause are the standards a franchisee must meet to qualify for sublease or assignment. The good news is that you can piggyback on the standards that most franchisors apply in selecting their franchisees. Simply require that the franchisee meet those standards—that is, be an “approved franchisee.” Be sure to check the franchisor’s standards, which should include, at a minimum:

• Net worth, which should be sufficient for the franchisee to operate the business and pay the rent on time [Clause, par. b(3)(i)];
• Creditworthiness and credit history [Clause, par. b(3)(ii)];
• Operating experience [Clause, par. b(3)(iii)]; and
• The payment of required franchise fees [Clause, par. b(3)(iv)].

What if the franchisor doesn’t have such standards or you think those standards are inadequate to protect your interests? Answer: Think long and hard about whether you really want to enter into a lease with that franchisor. “A franchisor with low business standards isn’t likely to make for the kind of tenant you want,” cautions a Chicago leasing attorney.

4. Franchisor Must Promise Criteria Are Met

Specify in the franchisor’s agreement that its signature on any assignment or sublease constitutes a warranty to the landlord that the franchisee meets the criteria for an “approved franchisee” spelled out in the lease clause. That way, if the franchisor assigns/sublets to unqualified franchisees, you can take action against it for breaching the lease [Clause, par. c].

5. Franchisor Can’t Later Reduce Its Standards

Guard against the risk of a franchisor’s reducing its franchisee standards after signing the head lease. But note that franchisors might be reluctant to yield control over their own franchisee standards. Or they may suggest hedging restrictions against lowering standards by agreeing not to make “material” changes. Again, you’ll need to decide how best to resolve this situation. Rule of thumb: The larger, more stable and reputable the franchise, the more leeway you should be prepared to grant [Clause, par. b(3)].  

6. Franchisee Can’t Have Bad History with You

Like an unwelcome relative, deadbeat tenants have a way of showing up at your doorstep over and over again. So, include language banning assignment or sublet to franchisees who have a history of defaulting on obligations under leases made with you or your affiliates [Clause, par. b(2)].

7. Assignment/Sublet Must Be for Permitted Use

Guard against liability resulting from the franchisee’s unauthorized use of the premises by spelling out the specific business to be operated by the franchisee, which should conform to the franchisor’s business. Also say that the assignment/sublet is subject to the use provisions of the head lease [Clause, par. b(1)].

8. Cap Number of Permitted Assignments/Sublets Without Consent

The one thing landlords should know about the franchise business is that franchisors earn much of their income from the franchise fees franchisees pay upfront. Thus, while ensuring a franchisee’s success is—or at least should be—the paramount objective, franchisors can also make a lot of money from turnover. Of course, rapid turnover is far less desirable from your perspective. The last thing you want is for a franchisor to turn the leased premises into a revolving door.

That’s why attorneys suggest seeking to limit the number of times the franchisor can exercise its right to assign or sublet to a franchisee without your consent. The lower the number, the better for you. However, franchisors are likely to push back, especially if their lease is long term and their standard franchise agreements are relatively short in duration. The important thing is to try to at least impose some cap, which you can then negotiate based on the franchisor’s leverage and the business circumstances [Clause, par. d].

9. Franchisee Must Meet All Other Lease Conditions

Keep in mind that the consent requirement is just part of the standard assignment/sublease provision in a commercial lease. Thus, for example, such provisions typically also require the franchisor to get the landlord’s approval of the actual assignment/sublease agreement and split any sublet proceeds with the landlord. So, specify that the right to consent to the sublet/assignment is the only lease right you’re giving up and that these other requirements continue to apply [Clause, par. e].

10. Concession on Consent Limited to Franchisor

Last but not least, make it clear that the right to assign or sublet without your consent is personal to the franchisor that signs the lease and that it may not be transferred to any other person or entity, including any new tenants that take over the lease from the franchisor [Clause, par. f].