Franchisors, like many businesses, don’t think about insurance until they need it, and by then, it may be too late. We recently ran across one variant of this problem after a nasty auto accident, followed by the filing of a wrongful death case. Franchisee insurance that was supposed to be in place, wasn’t, and now the franchisor may now need to deal with an expensive mess.
We all hope all ends well, but this incident prompted a discussion here about franchisor insurance issues. We came up with a top four issues that deserve more attention than they usually get.
1. Franchisor’s Additional Insured Status
Franchise agreements generally, if not universally, require franchisees to obtain certain types and kinds of liability insurance. Liability insurance obtained by a franchisee protects the franchisee, but not the franchisor. That’s good, because it may protect a franchisee’s operations from the ruinous effects of a lawsuit. But it will not protect the franchisor named also (or only) in the lawsuit. To protect a franchisor, it is therefore not enough that a franchisee obtain a certificate of insurance proving that franchisee has obtained insurance. Instead, the franchise agreement needs to specify that a franchisee obtain an endorsement to the franchisee’s policy that clearly designates the franchisor as an additional insured. If properly named as an additional insured, the franchisor has all the rights of an insured, including the right to a defense to any lawsuit and the right to be indemnified from loss for any covered claim.
2. Franchisee Compliance
The franchise agreement may spell out in detail the appropriate coverage required of the franchisee. It may (as it should) specify that the franchisee must obtain an endorsement designating the franchisor as an additional insured. But none of this matters unless the franchisee actually obtains the required insurance. Too often, franchisors fail to police or enforce franchisee insurance requirements until it is too late. It is tedious, but franchisors need to monitor compliance with the insurance provisions of the franchise agreement as they would all other provisions of the agreement. They need to make sure that the franchisee has obtained specified coverage, that the franchisor is properly named in the endorsement as an additional insured on all liability policies, that the coverage under the policy (and the additional insured endorsement) is consistent with the coverage specified by the franchisor, and that the liability limits and deductibles comply with the franchisor’s requirements. And all of this needs to be done routinely, systematically, and before there is an incident that prompts the need for coverage.
3. Coverage Flexibility
Many franchise agreements set out in detail the kinds and amount of insurance a franchisee must obtain. And the kinds and amount of insurance may be perfectly appropriate when the parties entered into the franchise. But some franchise agreements are for a long period of time, and coverage that may been adequate at the onset of the relationship may not be adequate in the 15th year of a fifteen year franchise agreement. It for this reason a franchise agreement should always provide that the franchisor retains the right to change or increase the coverage requirements through a change in the operations manual or by some other form of notice.
For instance, in the last year, there have been a number of high profile cases brought by employees of a franchisee seeking to held the franchisor responsible for a franchisee’s employment law violations, and there may well be more of these kinds of cases as a result of the recent decision by the General Counsel of the National Relations Board to let claims proceed against McDonald’s based on alleged unfair labor practices at franchisee-owned restaurants. Few saw these cases coming five years ago, and few franchisors mandate that franchisees obtain employee practices liability insurance that would provide for the franchisor’s defense costs and protection for the damages claimed in some of these cases. Unless the franchise agreement gives the franchisor flexibility to amend a franchisee’s required coverage requirements, the franchisor must wait and hope that nothing happens until its current agreements run their course.
4. Coverage Review
Reviewing insurance is a bit like going to the dentist, but it’s better to have regular check-ups before experiencing the pain of a toothache and the need for root canal treatment. Similarly, all franchisors should periodically review with their broker and (ideally) their counsel the kinds and amount of coverage franchisees should be required to obtain. This review should include a review of the franchisor’s own insurance, looking for what gaps may exist in their own coverage, and an analysis of whether those gaps are best billed by the franchisor’s own coverage, or by insurance required of a franchisee. It should also include an analysis of the franchisor’s risks based its franchisees’ activities in their particular industry, the scope of coverage available in the marketplace, and a review of the cost of coverage.