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Siskinds partner Peter Dillon wrote an article for Advocatedaily.com regarding the recently proposed Burger King – Tim Horton’s transaction and the potential impact it could have on franchisees.
Full article, published on AdvocateDaily below.

We’ve all heard the axioms that “nothing succeeds like success,” or “it takes money to make money.” In a world that is becoming increasingly brand conscious, these adages are proving to be truer than ever.

Franchising is all about brand building. It has the distinction of using OPM (other people’s money) to achieve rapid market penetration. The fact that individual owners – the franchisees – become an integral part of the brand creates unique challenges when the brand goes up for sale.

Enter the Burger King – Tim Hortons proposed transaction. Brazilian private equity firm 3G Capital is a global superstar in amassing premier food and beverage brands, including Budweiser, Heinz, and Burger King.

In the ordinary course, the “cogs in the wheel” – franchisees of the acquired brand, might be concerned about being purchased by a private equity firm. Typically, these firms are known for short-term cost-cutting in order to boost profits and earn a quick return on their investment after breaking up and spitting out parts of the acquired brand. In a situation like that, franchisees can see cuts to head office support staff, substitution of inferior products and other cost-saving measures that may eventually undermine brand value and diminish the value of an individual franchise unit.

In some cases, acquisition of the brand can prove very beneficial to the franchisee. For example, Toronto based FirstService Brands has engaged, over its 25 year history, in the acquisition of a number of home-based service franchises such as California Closets, Certa Pro Painters, College Pro Painters, Paul Davis Restoration and Pillar to Post. FirstService typically leaves existing management in place, but as the result of its own synergies, can markedly increase management competence, economies of scale, capitalization and branding knowledge, resulting in each of their acquired brands being much sounder – and each of the franchisees of those brands being happier and more profitable.

The last time Tim Hortons was acquired, it was another U.S. burger chain. In that case, the Ohio-based Wendy’s restaurants pretty much left Tim Horton’s to its own devices. After all, Tim Hortons was substantially more profitable than the Wendy’s restaurant chain. One cost-saving measure that was introduced during the Wendy’s era was the idea of central baking, and the use of par baked goods in stores, as opposed to the former “fresh-baked” products sold by Tim’s. It seems that consumers have accepted this change and Tim’s market dominance – at least in Canada – continues.

This time around, Tims is likely to face more aggressive cost-cutting, and a substantial change in the management organization, if 3G Capital’s past history is any indication of things to come. These two changes can be highly detrimental to a franchise system. Franchising has a lot of things in common with a marriage. The relationship tends to be long-term, and a great deal of the relationship is governed by trust, despite the length of the franchise agreement. When key personnel who have been a part of that personal relationship are removed and replaced by people with sharp pencils, tensions can rise and this results in a distraction from the business of running the franchise system.

If the combined Burger King – Tim Hortons Canadian headquarters sees a substantial reallocation of management and other resources, this could fuel litigation from disgruntled franchisees. Although it wasn’t acquisition of a new system, when Print Three started up its Le Print Express franchise several years ago, it faced litigation from franchisees who complained about resources previously allocated to them being reallocated to the new competing system. The judge in that case held that such a reallocation of resources might amount to a breach of the franchisor’s duty of good faith, now enshrined in franchise legislation and five Canadian provinces.

Courts in Canada have proven to be quite willing to come to the assistance of the “little guy” franchisee. Acquirers of Canadian franchise brands should pay attention to this fact, and ensure that their plans for the acquired brand do not negatively impact the franchisees of the system. Of course, that makes good long-term business sense, but since not all purchasers have a long-term perspective, the fallout of some of these acquisitions remains to be seen.

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