Effective January 1, 2017, any franchisor that wants to offer SBA guaranteed financing for its franchisees will use a single, two-page form addendum. In a notice issued just before Thanksgiving, the SBA announced that it will no longer review franchise agreements to determine whether affiliation exists between the franchisor and franchisee in any specific franchise system. Previously negotiated SBA addenda will no longer be accepted.
SBA loans are only available to independent small businesses as defined in the SBA regulations. Some franchisors impose a level of control in the franchise agreements that the SBA considers to create “affiliation” between the franchisor and franchisee. When “affiliation” exists, the franchisee is not viewed as an independent business and is therefore ineligible for an SBA loan. In the past, franchisors worked with the SBA and FRANdata, a private company that operated the Franchise Registry, to craft specific addenda modifying certain control terms in their franchise agreements.
Now, in a step toward simplicity, one form addendum will fit all franchisors. Presumably, lenders will be able to finance franchisees faster and the SBA will have a lighter workload. Franchisors would not need to be listed on the Franchise Registry in order for their franchisees to qualify for SBA backed loans.
The new form of SBA addendum is a binding addendum to the franchise agreement. It remains in effect until the loan is paid in full or the SBA no longer has any interest in the loan. The addendum states substantially the following:
- Change of Ownership – The franchisor may exercise an option or right of first refusal to purchase the franchisee’s business only if the proposed transferee is not one of the current owners of the business or a family member of a current owner. If the franchisor’s consent to the transfer is required, the franchisor will not unreasonably withhold its consent. Once the transfer is effected, the transferor will not be liable for the actions of the transferee franchisee.
- Forced Sale of Assets – If the franchisor has an option to purchase the assets of the franchisee’s business upon default or termination of the franchise agreement and the parties are unable to agree on the value of the assets, the value will be determined by an appraiser agreed upon by the parties. If the franchisee owns the real estate where the franchised business operates, the franchisee cannot be required to sell the real estate upon default or termination, but the franchisee may be required to lease the real estate for the remainder of the franchise term for fair market value.
- Covenants – If the franchisee owns the real estate where the franchised business operates, the franchisor may not record against the real estate any restrictions on the use of the property.
- Employment – The franchisor will not hire, fire or schedule the franchisee’s employees.
One effect of this change is that the Franchise Registry listing will no longer show pre-approved franchisors and their custom addenda, since any franchisor can sign the form addendum and participate in the SBA program without being on the Franchise Registry.
But FRANdata, which operates the Franchise Registry, says it will keep the Franchise Registry in place. It will show which franchisors are willing to sign the SBA addendum and if so, under what conditions if any.
The Franchise Registry will also provide information to lenders on SBA issues not covered in the form addendum that may arise, for example, in collateral agreements a franchisee may sign, credit issues and business model eligibility.
The Franchise Registry will be a private tool that FRANdata offers, not connected with the SBA, which will help franchisors make their brands more friendly to SBA lenders.
The International Franchise Association (IFA) has objected to the new approach and is in continuing discussions with the SBA, looking for ways to simplify the process of individual affiliation reviews without eliminating them.
We will see how this evolves in the coming months.