6 Must-Ask Questions Before Completing Merger & Acquisition

Big Fish Eating Little Fish

Franchise mergers and acquisitions are not slowing down, and the deals range from small, like the recent acquisition of Green Home Solutions by Mosquito Shield, to the $1.3 billion tender offer purchase of Popeye’s by Restaurant Brands International, the owner of Burger King and Tim Hortons.

The mergers and acquisitions of franchise companies and systems involve many special considerations that set them apart from the acquisitions of other businesses. Such businesses are more than the “sum of their parts” as franchise companies subsist on a foundation built from distinctive business attributes. These include a franchised company’s intangible assets and their multi-layered and multifaceted relationships with franchisees and vendors. Often, because these intangible assets consisting of contract rights (franchise agreements) and intellectual property (trade secrets, trademarks) usually exceed the common assets of non-franchise businesses, special considerations must be addressed by a prospective purchaser prior to any merger and acquisition.

The following is a brief summary of these special considerations.

  1. Have I done my due diligence?
    Because of the unique aspects of franchise businesses, a purchaser’s due diligence must be attuned to obtain the information most crucial to the decision to proceed with the investment. A purchaser must assess the value of the target company and, therefore, must determine the value of any assets acquired in the transaction, and, more importantly, the liabilities acquired. This analysis may be complicated and time-extensive, especially as a means of pricing the transaction and predicting future growth. The future of the franchised business for the surviving entity after the acquisition is an obvious consideration. The next question is determining to what extent existing management is capable of expanding and growing the enterprise after the acquisition. The acquisition of this knowledge is the essence of due diligence.
  2. What are the defects of the assets?
    Prospective buyers must evaluate the underlying value of the business primarily based on its assets and liabilities but must especially examine and assess the defects of its assets. The financial and operational viability and health of the franchise network must be analyzed. This typically involves an examination of the seller’s operational, financial, marketing, and legal systems. But not only does this involve analyzing a target company’s assets and internal structures, but also the multiple and diverse relationships within its franchise network.
  3. How is the franchise performing?
    As simply a basic consideration, this is obvious. No other analysis is more meaningful or critical than that of closely scrutinizing unit-level financial and operational performance. If franchises are struggling, the brand will experience difficult financial growth and any other positive aspects of the franchise possess little or no value.
  4. What are the federal and state regulations?
    The acquisition of a franchise company also presents the necessity to ensure that both the franchisor and all franchisees are in compliance with the considerable amount of federal and state regulation that applies to franchised businesses. Any failure to comply with federal and state law may provide state and federal agencies, as well as private parties, including franchisees, with rights to pursue remedies that could hinder an acquisition or negatively impact the value of any assets to be acquired in the future transaction. The determination of whether the target franchisor has complied with all legal requirements may require a time-consuming, labor-intensive, and document-laden analysis.
  5. What is high-level management’s skill level?
    The senior level executives’ skills, experience and vision will affect the buyer’s investment decision since it is their leadership which typically determines the success of a franchisor.
  6. Are the franchisees satisfied?

The franchisees’ confidence level and trust in the leadership of the franchise’s brand represent strong indicators of the health of the franchise’s system. Information gathering from franchisees is necessary to determine the franchisor’s strengths and weaknesses to establish those areas that require some upgrade to improve overall franchisee performance.

Prospective purchasers and their counsel must recognize the special considerations inherent in the merger and acquisition of a franchised business.

 

This client alert is intended to inform clients and other interested parties about legal matters of current interest and is not intended as legal advice.  If you have any questions regarding these issues, please contact your Franchise Counsel at Smith, Gambrell & Russell, LLP. 

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