Tuesday, March 30, 2010

The Great Franchising Robbery

So, after months of agonizing about the decision you must make, the inevitable happens. With the advice of former franchisees, your attorney, your accountant, your spouse, and close friends, you end your relationship with Cold Stone. Hopefully, you have protected yourself, both from a legal and a financial standpoint. Remember, Cold Stone will come after you. Now, comes the process of rebuilding your life. It will seem like a daunting task. Looking for a job may be at the top of your list of priorities. Your financial condition may be a real concern. You may have relationship issues to deal with. Begin the work immediately! During this life changing process, you will undoubtedly have questions about why this has happened to you. We have all faced those questions. The answers to your questions can be found in blogs like mine, or by contacting people like Cecil Rolle, or talking to other ex-franchisees.
     So where do we all go from here? Can we take steps together to help each other to cope with what has happened to us? Are there legal steps that we could take either individually, or as a group that might force Cold Stone to pay for their actions? Your first step should be to contact Cecil Rolle, so that he can add your name to our database. I believe that only as a group do we have strength. Your second step is to gather information (e-mails, conversations with area developers or corporate employees, notes from Co-Op meetings, any written correspondence you may have had with Cold Stone, copies of your franchise agreement). This information will be invaluable in the future. Step three would be to educate yourself. Know what is out there.....read blogs (like this one), look for forums online, and talk to other franchisees, and ex-franchisees.

I found a very interesting blog by Carol Cross that many of you might find interesting, called The Great Franchising Robbery. This may give you some insight as to the problems with franchising, and how the deck is stacked against the franchisee. Enjoy!

     With the specter of the global economy and multi-national corporations, who would operate within the global economy, it became necessary for American multi-national corporations to outsource many good American jobs to remain competitive in the global economy. Our manufacturing base has diminished over the years as well, and this has produced a problem for government as to "Where are Americans going to work to realize their American Dream." Where are the jobs of the future?" Franchising has given the government job numbers to report to the American People and franchising has grown disproportionately in our economy because of all of the recessions we have had in the past thirty years.

     Thirty years ago the franchisors and the special interests who surround franchising, to include the federal and state governments, determined that franchising could grow jobs and financial activity in the economy, especially during recessions, when those with the financial resources to invest in themselves, and who had lost their jobs and income, would invest in franchises to restore their income and security. These investments and the redistribution of the savings/assets of franchisees would provide the cheap "venture" capital and the cheap labor to encourage those with successful businesses to franchise these businesses and grow jobs within the slowing economy.
     McDonald's, the great American success story, was, and is, the inspiration for franchisors to franchise their businesses to grow a chain that will make them millionaires within a few years if their "concept" catches on and the American people fall in love with THEIR concept.
     It is the Franchisors who are the ENTREPRENEURS and the franchisees are merely the resources of the franchisors used to grow the franchisors' chain operations. Of course, all franchisors are delighted if ALL of their "founding" franchisees are successful and make it, at least, to a "breakeven" status. But, realistically, there are always a certain percentage of "founding" franchisees that will fail and lose their entire investments. The only reliable research available from academics indicate that all startup small businesses, whether independent or franchised, fail at a rate of 50% at sometime within the first five years and only 29% are still standing at ten years.
     Apparently, in spite of and because of this grim reality, the Federal Government regulated franchising and took the business model out from under the purview of the States in the late 70's because they wanted to grow franchising and in order to grow franchising, they had to protect the franchisors from the certain percentage of franchisees who would fail and who would believe that they were fraudulently induced to contract because of misrepresentations made in the sales process as to the success and profits they would enjoy when they bought the franchise in good faith.
     The failure of "founding" franchisees, however, is not failure for the franchisors if the tangible and intangible assets of the failed founding franchisees can be retained within the system to continue to serve the franchisor. The franchisor has no capital investment in the hard assets of the franchisee's business operation and doesn't fail if these failed units can be CHURNED in fire sales to second-generation franchisees that, perhaps, can bring the business to breakeven status because they buy the business for just pennies on the dollar of the original investor, the founding franchisee.
     Unfortunately, "Churning" has become a management tool for some exploitive and dishonest franchisors whose franchises DO NOT produce profits for the majority of the franchisees and whose founding franchisees fail at a rate that, if known and disclosed, would prevent them from selling their franchises to new prospects.
     Unfortunately, The FTC Rule of the Federal Trade Commission that regulates franchisors appears to, in practive, permit franchisors to obscure the failure rate of their founding franchisees in the sales process and to sell their franchises to the public without making any representations at all concerning success or profits in the written disclosure document, the FDD, or the written franchise agreement. Franchisees are tricked by the appearance of government regulation to believe that there is some oversight of franchisors by the government and that government wouldn't permit the franchisors to sell franchises with high failure rates of founding franchisees and low profitability experience to innocent prospects who invest their life savings in these "pigs" and "dogs" that are eligible, often, for 90% guaranteed loans through the Small Business Administration (SBA).
     Many franchise experts have indicated that there is a fatal flaw in the FTC Franchise Rule that misleads that portion of the “American Public” who invests in franchises. The fatal flaw being that franchisors, themselves, are not mandated to disclose the unit historical financial performance statistics of their systems to new buyers or to investors in the franchisors' commercial paper.
     Apparently, the fatal flaw in the FTC Rule continues to be ignored by the regulators and by the Congress because they feel they can't change the law to make the franchisors disclose unit performance statistics because if the REAL RISK were disclosed to prospective buyers of franchises, this in itself would slow the economy. The Artifice of Item 20 of the Franchise Disclosure Document, whereon prospective franchisees are supposed to do their due diligence with current and ex-franchisees, actually acts to immunize the franchisors from fraudulent inducement/fraudulent concealment in the forming of the contract, and all of their inducements outside of the franchise disclosure document and the written franchise agreement are now moot and not actionable.
       So we have a Catch 22 that has resulted in great pain and suffering for thousands and thousands of Americans who have been unknowingly sucked into buying unprofitable franchises that often fail or that premeditatedly indenture them in long-term one-sided contracts from which there is no reasonable exit.
     The Great Franchising Robbery of franchisees continues and franchising continues to grow in our economy. Because the franchisors know that they are protected from claims of fraud and because they can sell their franchises without making any claims of success or profit in the written documents, franchisors have been encouraged to commit intentional torts and frauds against franchisees to themselves survive --that are NOW going to come to the attention of the courts in great numbers by way of class and mass actions. The government subsidy of the old and the mature franchisors and the startup franchisors will be exposed and there will be some kind of change.
     The Robbery will not stop until there is TRUTH in DISCLOSURE OF THE RISK in buying a New Franchise from a new franchisor or from an established and mature franchisor.

Sunday, January 10, 2010

What About the Stress?

Your health matters! During the four years operating my Cold Stone stores, I completely ignored the health issues that had been building inside me due to the immense stress I faced each and every day. There were some days I'd go into the bathroom just to throw up. I felt a tightness in my chest constantly! My blood pressure had skyrocketed to 180/115, and I developed Type 2 diabeties. I've had franchisee's tell me that there were days they could'nt get out of bed. Cecil Rolle's latest e-mail included a section on this very topic, and with Cecil's permission I'd like to re-print it:

"The stress associated with operating a Cold Stone Creamery franchise is caustic and overwhelming. Franchisees report time and time again that their stress level is constantly elevated by the financial shortfall from Cold Stone's failed business model. The constant worry of making payroll every 14 days, Sysco/Sygma payments, rent, utilities, royalties, money, money, money--stress, stress, stress.

Franchisees often have to pull money from their savings, investments, kids' college fund, 401(k), or invest their inheritance from their hard-working parents, borrow against the equity in their homes or other property. They borrow from their friends, family and whatever source they are able to procure cash from to keep their unprofitable stores open. Many report that they are often concerned about such issues as having their power and water disconnected. They report that Kahala-Cold Stone's constant, active and aggressive effort to terminate and take stores for the company's own financial benefit is an enormous source of stress even for franchisees operating well between the lines.

Stress has a long term--adverse affect on your quality of life. The sleepless nights, nervousness, irritability, cause irreparable damage to your health, not to mention the damage that it does to your relationships.

I hear from franchisees all the time regarding the relief they feel once they have closed their stores.

Stress has been definitively linked to premature aging, sleeplessness, anxiety, nervousness, frequent urination, frequent stomachaches, urinary track and other infections, irregular menstruation, immune suppression causing chronic infection and disease, and other conditions. It causes the onset of diabetes, high blood pressure, cardiovascular disease, abnormal circulation, depression, hardening of the arteries and other diseases. According to wikipedia.org:

Stress is how the body reacts to a stressor, real or imagined, a stimulus that causes stress. [A Cold Stone franchise clearly qualifies.]

Alarm is the first stage. . .

Resistance is the second stage. If the stressor persists, it becomes necessary to attempt some means of coping with the stress. Although the body begins to try to adapt to the strains or demands of the environment, the body cannot keep this up indefinitely, so its resources are gradually depleted. [Emphasis added.]

Exhaustion is the third and final stage. . . . At this point, all of the body's resources are eventually depleted and the body is unable to maintain normal function. At this point the initial autonomic nervous system symptoms may reappear (sweating, raised heart rate etc.). If stage three is extended, long term damage may result as the capacity of glands, especially the adrenal gland, and the immune system is exhausted and function is impaired resulting in decompensation. [Emphasis added.]

The result can manifest itself in obvious illnesses such as ulcers, depression, diabetes, trouble with the digestive system or even cardiovascular problems, along with other mental illnesses.

Responses to stress include adaptation, psychological coping such as stress management, anxiety, and depression. Over the long term, distress can lead to diminished health and/or increased propensity to illness; to avoid this, stress must be managed. [Emphasis added.]

Your health matters and it should take precedence over even your finances. You can live--even thrive without money. (Many Cold Stone Creamery franchisees are firsthand proof of that.) But you cannot live a quality life without good health.

You should rid your life of the stress associated with operating your unprofitable Cold Stone Creamery store by closing it immediately.."

Cecil's comments on the effects of Cold Stone Creamery's failed business model on your health are right on point. He does not mention (so as not to add to your stress) the very real possibility of suicide. QSR magazine, the trade magazine for the quick service industry did an article on Quizno's franchisees who were strugling, much like we are, and pointed out that because of the financial devastation faced by many of their franchisees, two of them had committed suicide.

SUICIDE IS NOT AN OPTION!  Cold Stone is not worth it. There are many of us out here who have been in your place.  We can help you through the minefield.  Cecil's phone is always on!  My phone is always on!  There is a better life after Cold Stone, you just need to believe that.

I found this model of grief very insightful.  It perfectly matched with what I went through during and after the process of closing my stores:

7 Stages of Grief


You will probably react to the financial collapse of your business with numbed disbelief. You may deny the reality of the loss at some level, in order to avoid the pain. Shock provides emotional protection from being overwhelmed all at once. This may last for weeks.


As the shock wears off, it is replaced with the suffering of unbelievable pain. Although excruciating and almost unbearable, it is important that you experience the pain fully, and not hide it, avoid it or escape from it with alcohol or drugs.

You may have guilty feelings or remorse over things you did or didn't do for your business. Life feels chaotic and scary during this phase.


Frustration gives way to anger, and you may lash out and lay unwarranted blame for the collapse on someone else. Please try to control this, as permanent damage to your relationships may result. This is a time for the release of bottled up emotion.

You may rail against fate, questioning "Why me?" You may also try to bargain in vain with the powers that be for a way out of your despair


Just when your friends may think you should be getting on with your life, a long period of sad reflection will likely overtake you. This is a normal stage of grief, so do not be "talked out of it" by well-meaning outsiders. Encouragement from others is not helpful to you during this stage of grieving.

During this time, you finally realize the true magnitude of your loss, and it depresses you. You may isolate yourself on purpose, reflect on things you did or did not do, and focus on what could have been. You may sense feelings of emptiness or despair.


As you start to adjust to life without your business, your life becomes a little calmer and more organized. Your physical symptoms lessen, and your "depression" begins to lift slightly.


As you become more functional, your mind starts working again, and you will find yourself seeking realistic solutions to problems posed by the loss of your business. You will start to work on practical and financial problems and reconstructing yourself and your life.


During this, the last of the seven stages in this grief model, you learn to accept and deal with the reality of your situation. Acceptance does not necessarily mean instant happiness. Given the pain and turmoil you have experienced, you can never return to the carefree, untroubled YOU that existed before this tragedy. But you will find a way forward.

You will start to look forward and actually plan things for the future. Eventually, you will be able to think about your situation without pain; sadness, yes, but the wrenching pain will be gone. You will once again anticipate some good times to come, and yes, even find joy again in the experience of living.

Thursday, January 7, 2010

What Next?

You've finally realized what is happening (deep down you already knew). The situation seems to be spiraling out of control. You are continually "robbing Peter to pay Paul". You are having trouble paying Sysco (they might even have you on C.O.D.). You have payroll on Tuesday, and there is no money in the account. You are afraid to answer the phone. The bank calls to tell you that your account is seriously negative........

Things are not going to get better. Cold Stone is not going to rescue you. You have exhausted all of your savings, closed your 401K, borrowed from most of your family (and now cannot pay them back). Your house has liens on it to secure your loans. Your ability to borrow against it is gone(you realize you might even lose it!). You may even be having relationship issues because of your situation. What do you do now? The first thing is to realize that you are not alone. Often times, you go to a Co-Op meeting, and everyone else seems to be fine, maybe even doing well. That's what Cold Stone wants you to think. You are afraid to talk to your fellow franchisees about your situation, maybe out of fear or shame. Trust me, more than 50% of them are in the same situation!

Please, the next thing to do is critical. Call or contact Cecil Rolle! His phone number is 352-262-6798, and his e-mail address is cdrolle@bellsouth.net. He knows what you are going through. He's been there. He will put you into his database, and he will keep you informed about any legal action that may take place, but more so, through his semi-monthly e-mails, he will give you insight and answers to many of the questions you may have. He will also keep you informed about what strategies Cold Stone is currently employing to mislead and misdirect you about their efforts to "help" you.

The next thing to do is to begin to gather and consolidate any and all information, e-mails, communications, and conservations you may have had with Cold Stone/Area Developers about your situation. Start building a file that includes all documents pertaining to your association with Cold Stone. This will include things like your UFOC documents, your QSC & E results, and any written communication you have had with Cold Stone or your Area Developers. Save, and print any e-mails you send or receive from Cold Stone/Area Developers. All of this information will be extremely valuable to you as you move forward with your dealings with Cold Stone.

Now this is extremely important.....do not under any circumstance, sign any document with Cold Stone that ask you to give up any rights of litigation. Trust me, this verbiage will most likely be included in any document Cold Stone wants you to sign from now on. DO NOT TRUST THEM to do the right thing!

Once Cold Stone discovers that you are in financial trouble, they will begin to do everything they can to take your store. They will base their decision on "Out of Compliance" issues which, according to your franchise agreement, can be almost anything. Why do they want your store? When they acquire it, it becomes an instant asset! It cost them almost nothing to acquire it, and they will resell it for .30 to .5o cents on the dollar(this is called "churning"). The liability is on you!

This is where Cecil can help you. He will give you strategies to preserve assets you may have left,and what legal strategies you may need to move forward. I urge you again to contact Cecil!

You are going to be hurt financially. You are going to "fall off the truck..." You just need to minimize how much you will be hurt in the fall! I've been through the entire ugly process. The sooner you decide to walk through that door, then close it, the sooner other doors will open up for you.

I didn't think I could survive the fall, or even if I wanted to survive. I thank God every day when someone forwarded me an e-mail from Cecil Rolle. Cecil saved my life,and gave me hope. You've got to take that first step if you're going to move forward. You can call me at 559-999-2599 if you need someone to talk to, but make that first phone call to Cecil. You'll be glad you did.

Thursday, January 1, 2009

The Twelve Worst Franchise Provision Agreements

I've told you my story, and it is one that will continue for some time. Currently, I am working on a legal action against Cold Stone Creamery, but it will be a long arduous process. Hopefully, you will find this blog both entertaining as well as informative.

There are hundreds of us within the Cold Stone community that have been affected greatly by the actions of Cold Stone Creamery. I realize that there is a larger community out there, composed of many franchise opportunities, and tens of thousands of franchisees. Not all franchisors are dishonest, or use deceptive practices to recruit franchisees. Take McDonald's for example. The relationship between its franchisees, and its suppliers is the model for quality franchising. But, you must always do your due diligence when examining a franchise opportunity. With that in mind, lets take a look at a list of the twelve worst franchise provision agreements within any UFOC (Unified Franchise Offering Circular) document. As you examine the UFOC document you may have received from a franchisor, look for any of these franchise provisions within the UFOC. If you find any of them, try to negotiate these provisions out of the UFOC document. If the franchisor is unwilling to do so, do not move forward! And remember, the UFOC offers you almost no protection. Essentially it is designed to protect the franchisor, and to give them almost unlimited latitude when dealing with their franchisees. Ok, so what are the top twelve worst provisions? You can link to them if you want a copy, using the link to the right, but let me cover all twelve. I'll give you my take on each of them:

1. Gag Rules. Some franchise agreements now prohibit franchisees from discussing any aspect of their franchise experience with anyone outside the system. This defeats the FTC rule and other state disclosure laws which require lists of terminated franchisees to be provided to prospective franchisees. It may even prevent ex-franchisees from discussing any issues that caused them to leave the system, at least for a period of time.

2. Franchisor Venue Provisions. These provisions require franchise disputes to be litigated or arbitrated in the home state of the franchisor. This not only increases costs for the franchisee, but also allows the franchisor to litigate, arbitrate or even mediate on their home turf. Some agreements only allow for mitigation for the franchisee, while allowing the franchisor the right to seek legal action in a court of law! There has been a ruling recently in California that may allow the franchisee the right to seek legal remedies through the court system, even with the mediation provision in the UFOC document. I will post that court decision in the sidebar to the right later this week.

3. Lack of Reciprocal Cure Periods. Many franchise agreements give the franchisor 30, 60, or 90 days to cure any alleged defaults; some even do not allow the franchisee any remedy if the franchisor defaults. On the other hand, some franchise agreements provide for no cure periods for any alleged default by the franchisee. What is good for the goose is certainly good for the gander! It has been my experience that the franchisor rarely gives the franchisee enough time to cure any default, and in fact, wants the franchisee to default! This way, the franchisor can come in and acquire an asset for virtually nothing, and resell it over and over again. This process is known as "churning".

4. Nonreciprocal Noncompetition Covenants. Many franchise agreements have oppressive post-term noncompetition covenants, both in terms of duration and geographical scope. At the same time, many franchise agreements allow the franchisor to place competing units pretty much where they want. If the franchisor wants protection from the franchisee after the agreement expires or terminates, why shouldn't the franchisee be entitled to the same protection during the franchise agreement? The franchisor, many times is more interested in their royalty fees and service fees than the financial health of their franchisee. Look, if they have one unit making $400,000 per year, making say, 9% in fees, they collect about $36,000. If they open a second unit 2 miles away, and the second unit grosses $300,000, and due to the close proximity of the second unit to the first, the first now only grosses $300,000, the franchisor now generates about $54,000 from the combined gross sales of both units! If break even for the units are about $350,000, you can see how this strategy damages the franchisee, but adds an additional $18,000 in revenue for the franchisor!

5. Sole Sourcing Requirements. Many product-oriented franchise systems require the franchisee to purchase products solely from the franchisor or from suppliers designated by the franchisor. No allowance is given to purchase from alternate sources even if the quality standards are upheld. This leaves the determination of the gross margin achieved by the franchisee solely in the hands of the franchisor. Cold Stone Creamery actually states in the UFOC/Franchise agreement, that you may submit Vendors for their approval, but if Cold Stone has an exclusive arrangement with its vendors, the issue becomes moot, and you will be faced with "out of compliance" issues. In many cases, Cold Stone Creamery also receives "kick backs" from the vendors (known as FMP dollars). These "kick backs" become a large revenue stream for Cold Stone Creamery, and, generally, are not shared with the franchisee community that paid the often exorbitant prices for the goods they are forced to buy from the vendors!

6. Mandatory Subleases with Rent Overrides. Many franchise systems require the franchisee to sublease the franchised premises from the franchisor who has in turn leased the premise from the landlord. This places the franchisor in the real estate business and able to net a profit essentially without risk. In addition, the fact of these overrides and the amount of them are rarely disclosed in the franchising offering circulars. Cold Stone Creamery basically derives an income by charging the franchisee a 6% fee (for the life of the rent, usually 5 years), which they like to call an "administrative" fee. This fee is paid up front, and can cost you between $6,000 to $20,000! So, tell me, what is their incentive for negotiating the best possible rent for you? The more rent you are charged, the larger the "administrative" fee they receive!

7. Lack of Accountability of Advertising Fund. Over the years, franchise agreements have increasingly been drawn in a manner to give the franchisor maximum discretion over the use and application of advertising funds. Agreements are often drafted in such a way as to allow franchisors to not spend advertising dollars in the market where franchisees have contributed to ad funds. This has been just another way in which Cold Stone has misused, or worse, misappropriated the franchisees money to cover its own expenses. Many times at our local Co-Op meetings, we've asked for an accounting of these funds, only to be given promises of disclosure which never happened.

8. Lack of Reciprocal Legal Fee Provisions. Many franchise agreements require the franchisee to pay all of the franchisor's legal expenses in the event of litigation between the parties. However, if the franchisee wins the litigation, the franchise agreement does not provide for legal fees. The only way a franchisee can obtain legal fees is if a state statue allows such recovery or in the unlikely event the franchisee prevails on a RICO claim. The language of the early franchise agreements with Cold Stone Creamery did allow for reciprocal legal fees. But please, thoroughly read the sections dealing with how disputes will be resolved.

9. Kickbacks. Some franchise agreements openly acknowledge that the franchisor has the right to make deals with vendors who sell goods and services to franchisees that are mandated by the franchise agreement. Very often, these vendors provide kickbacks, promotional fees, and commissions to the franchisor in return for being allowed to sell their products and services to a captive market. Instead of passing these kickbacks, promotional fees and commissions on to the franchisees to reduce their cost of goods sold and increase their margins, these payments are pocketed by the franchisors. Now, while these kickbacks are not necessarily illegal (they, in fact, are described in the UFOC document that each of us signed with Cold Stone Creamery), there are arguments within the judicial system, that these kickbacks may be illegal if they meet certain per se requirements, and as such, may violate some state and federal anti-trust laws.

10. Mandatory Arbitration Provisions. While arbitration is a faster and presumably cheaper, it has major disadvantages to franchisees. Arbitration is private, with the resulting decisions not creating any precedents. In addition, the ability of the franchisee to obtain documents from the franchisor and to take depositions is severely limited. When you signed your franchise agreement with Cold Stone Creamery, you basically waived your right to trial by jury, and agreed to arbitration if a dispute arises. Recently, there was a court decision in California that set aside that provision, and allowed for a trial by jury.

11. Radically Different Franchise agreements on Renewal. Many franchisees find that when it is time to renew, they are not really renewing their existing franchise agreement, but are entering into a wholly new franchise agreement, often with materially different financial and operational terms. Cold Stone Creamery has taken it one step further. When you sign a new franchise agreement for a new location, the terms and conditions of that new agreement supercedes your origional agreement!

12. Unilateral Admendments to the Franchise Agreements. Many franchise agreements provide that the franchisor can change its operations manual or other company policies from time to time without notice to or with the consent of the franchisee. Thus, the franchisor has the right to unilaterally change the franchise agreement. Moreover, the franchisee is rarely given the opportunity to inspect the franchisor's operating manual in advance of the sale of the franchise. Cold Stone Creamery clearly outlines this policy in Provision 24 of the franchise document. They can also change things like royalties, or advertising fees without consulting the franchisee!

This is why it is so important to read the UFOC document thoroughly. Have a qualified franchise attorney go through the document, and using these twelve franchise agreement provisions, evaluate your documents.

For most, the financial aspect has been the biggest issue.

Monday, December 29, 2008

Cold Stone's Strategy

Was it Cold Stone's plan to defraud prospective franchisees? Cheat them out of their life savings? Ruin families? Not in the beginning. The early years were both exciting and challenging. There were just a few employees in the fledgling company, and like many startups, they had their share of ups and downs. Doug Ducy often told the story about the first franchisee that signed up, and Cold Stone Creamery receiving their first franchisee fee! Finally, they could buy a brand new computer! Maybe some office equipment.....even pay themselves! Cold Stone Creamery had started to grow. So how did it all go wrong? What happend that changed the way Cold Stone would operate? One word.......Greed.

I’ve given this a lot of thought. Let me explain how I think Cold Stone’s strategy changed over the years. In the first few years of their growth, they indeed wanted success for their franchisees. There was lots of room for growth, and virtually no opportunity for impact from any competitors, or even other Cold Stones. And the company’s growth was way beyond expectations. Cold Stone was flush with money. They advertised for franchisees right at the store level, providing applications to anyone who wanted one. It didn’t matter if someone wasn’t financially qualified…they would loan them the money! This was a Bart Dunn strategy. Some of you who got in before 2005 remember Bart Dunn. If the borrower didn’t pay the loan back, Cold Stone would just take back the asset, and re-sell it! They did have an almost unlimited supply of people wanting a Cold Stone! After a few years of this, and a number of defaults on the loans, Cold Stone was experiencing some cash flow issues itself. It owned a lot of notes, but didn’t have a lot of cash. They hired in-house accountants, and fired Bart Dunn. Financially, Cold Stone was a mess. Their own in-house accountants told them that they weren’t a bank, and should not be lending money to anyone. All the notes were sold off. Hopefully, Cold Stone was now back on track financially. But sales were beginning to decline. Look, Cold Stone was aware that their business model wouldn’t work. The prices of the product we sold needed to be high enough to overcome the high cost of the debt load we had assumed. But the prices crossed over that threshold that customers would be willing to pay. If and when the economy turned down, no one would be willing to pay the kind of prices we needed to feed the machine. This wasn’t even considering the high costs of the raw materials we would experience.
The declining top line sales greatly affected royalty and advertising dollars that Cold Stone was receiving. They instituted programs whereby they could extract more money from their franchisees. They were already receiving money from the vendors, called Flexible Marketing Plan dollars. The more cases they could generate for the vendor, the more FMP dollars they would receive. Someone thought that by breaking up a case of strawberries from a 30 pound box to three 10 pound boxes would work. They never considered what the franchisees might say, or how inconvenient it would be. That is, until we all let them know! But they had just completed a new headquarters that was spectacular. They had to feed their machine too. They began a “guaranteed rent” program. It worked like this. They would be the primary lessee, and the franchisee became the secondary on the lease. They had convinced the franchisee that this was a good thing for both them and the franchisee. In the event that there were issues, the company, being the primary on the lease, would be accountable to pay the rent. For this “guarantee”, the franchisee had to pay them up-front, a 2% fee equal to the dollar value of the rent for the life of the lease, usually 5 years. For me, that amounted to about $6,000. What incentive did Cold Stone have to demand lower rents? After all, that would lower the 2% money they were receiving. What a deal for them! Not only did they get the immediate upfront fee, they collected the rent from us weekly, but paid the rent monthly! Besides, they included terms that would protect themselves if the franchisee bailed. The franchisee would still be on the hook for the rent, and personally liable. Presto, instant cash flow!But there was still that one important issue they would have to overcome. The unprofitable franchisee. And the number of unprofitable stores was adding up. At the most maybe 25% or 30% of the stores were actually profitable. This need to change if they were going to go public. But didn’t Doug Ducy stand on stage and tell all of us that Cold Stone had no intention of going public? Sure he did. But, how much sense did that make? There was too much to gain, and nothing to lose by going public. The gain was in the tens of millions of dollars. Not including what it would mean personally for himself, the Sutherlands, and a few others. The plan was quite simple, actually. Legal action would be taken by Cold Stone against any franchisee that financially violated the franchise agreement. Cold Stone would remove that franchisee, hopefully without a legal battle. Just walk in and take over those stores. They would resell each location for 50 cents on the dollar, maybe even less…put in a second generation franchisee that would be able to support the much lower loan amount, and the problem would be solved.Then along comes Kahala Corporation. For Doug, this was even better than he had hoped for. An injection of cash would come much sooner than he had hoped for. Most of the financial mess within the Creamery had been cleaned up, the number of stores was growing, and things, at least on the outside, looked good. Unfortunately for Kahala, they didn’t dig deep enough, until it was too late. The deal was done. It would only be a few months before Kevin Blackwell discovered what he had bought. Cold Stone Creamery represented 50% of Kalaha’s size and represented the biggest share of the total volume of the company. Unless he took immediate action, this could hurt the company he built. Prior to Kahala Corporation, Cold Stone had continued to grow its staff. We couldn’t even keep up with the personnel changes. They changed daily. Now, the reverse was taking place. Kevin had to reduce the duplicated staffing that happened once the buy-out was complete. Suddenly, announcements were coming weekly about someone leaving Cold Stone. These were the top positions within Cold Stone. We had no idea of the magnitude of the purge. Kevin’s goal was to replace most of the top line staff at Cold Stone with his own people. People he could trust. I believe that the Sutherlands were aware of the direction Doug had taken the company. It was time, they agreed, Doug had to go. They stood behind Kevin when the axe fell on Doug. Kevin had become aware of the situation Cold Stone faced with the unprofitable Cold Stone franchisees, but he agreed with the plan and the course of action already taken by Cold Stone, deciding to let it play out.That’s where I see Cold Stone’s strategy today. Maybe there is some conjecture on my part, but I have seen the actions taken by Cold Stone up close and personal. I know what they are capable of. They are not interested in helping the franchisees who are struggling. There is nothing in it for them. If you find yourself in financial difficulty, remember this. It is only a matter of time. At some point, all the money will run out. Someone will lock the doors on you. Start action now. Call someone. Listen to other franchisees or former franchisees. Get in touch with Cecil. Call me. Just do something before it’s too late. Also, remember, nothing is more valuable than your life or your family.

Wednesday, December 24, 2008

My story

First of all, let me give you a few details about my background prior to Cold Stone. I started with McDonald’s in 1972. I worked for them in one capacity or another for most of my adult life, including a 10 year stint as a franchisee. I am well acquainted with how to run a successful restaurant….I eventually sold my store, and about five years ago saw my first Cold Stone in Hawaii. I was amazed! What a great idea, I thought. I knew that there wasn’t a Cold Stone in Bellingham, WA where I lived. The size of the store and the number of employees was small, by McDonald’s standards. It should be easy to run and manage one of these. I ask the owner for an application and when I returned home, completed all the paperwork, and sent it in. A few weeks later, I got a call from the area developer. We arraigned a meeting, we talked about my background, she gave me the history of Cold Stone, and then I asked about financials. She told me that in the Pacific Northwest Region, the Average Unit Volume was $425,000 (this was in 2003), and had grown steadily for the previous four years. We were told that franchisees were generating between 15% and 20% profits! That sounded impressive! She was very engaging, and my wife and I were very interested. Just prior to the end of our meeting, I told the area developer, that before we made a decision, we would like to see specific financials from franchisees in the area. She explained that she could not give out that kind of information, because it would violate confidentiality agreements with the current franchisees. I told her that she did not have to give us names, just the supporting documentation. She said that the P & L information from each franchisee was not readily available to the area developers, but what she could supply us with was a generalized P & L, that had Cold Stone recommended expenditures listed. She said that I should be able to complete a pro forma based on that. We agreed to look at the information she would provide us, complete a pro forma, and call her by the next week. She supplied us with a list of franchisees to call (her list).
The P & L information she provided looked reasonable. The generalized P & L indicated that Food Costs (including paper) should run about 23-24%, and that labor costs, around 24%. Seemed reasonable, at least in the McDonalds world. Little did we know that these numbers were far from realistic? But we completed a number of projected P & L’s based on the AUV provided by the area developer, looking at the high side, the average, and the low side. It did look doable. We called a name or two on the list. The franchisee in Vancouver, WA was ecstatic about Cold Stone. His comments were “What are you waiting for? You’ve worked for McDonalds! This will be easy for you!” The second franchisee wasn’t quite as glowing, but wasn’t anywhere as enthusiastic either. We decided to take the chance….we called the area developer and told her we wanted to be a part of the Cold Stone family. We wanted in. We signed the paperwork, gave her a check for the franchise fee…..we had done it! Like most of you, we were excited. We signed an agreement for a second location a few months later, paid a second franchise fee, then, even a third location! Another franchisee fee! We still didn’t have an open location, but we were growing! We went to our first co-op meeting. There seemed to be quite a bit of negativity at that meeting. But I didn’t think too much of it, at first. I had been to co-op meetings with McDonalds, and there was always some dissention…usually over how the advertising dollars were spent. But this was different. I got that uneasy feeling you get when you buy a new car, buyer’s remorse……but I attributed it to not knowing these people. We finally opened our first store. There was a lot of difficulty with financing, however, even though I had put up 20% of the projected costs. First National Bank of Arizona wanted more upfront money! I had to come up with an additional $25,000! And none of this included the first food order, the first payroll, or uniforms! Cold Stone would loan me an additional $75,000 because the bank wanted to only loan 50% of the total costs! That in itself should have been a warning signal; however, we continued to move forward, just trying to open our first location. My store was the first store in the system to have Cold Stone be the primary on the lease, so the lease agreement took some time to complete, and proved to be very hard to understand, at least for me. I immediately had to pay Cold Stone an additional 2% of the projected lease amount over a five year period to Cold Stone as an “administrative fee”. That was a whopping $6,000 I had to pay up front to Cold Stone, so they could collect the rent from me, and pay the landlord their rent.
Now the relationship started to look a little one sided……but we still moved forward, buoyed by the AFM, the following January. It certainly was extremely upbeat, and we heard all these testimonials from some of the successful franchisees, and Cold Stone gave us their vision for the future, and it was glorious…..according to Cold Stone. Doug Ducy stood on stage, telling us all how fast Cold Stone would grow……”There will be 1000 profitable stores open by 2005!” he proclaimed! And, if he had to, it would be with the 500 franchisees in the system already.
During the first year both Patty and I worked in the store. We put in a ton of hours. After all, we invested everything we had in the business, my inheritance, our 401 K, and we even put our house up for collateral! My total financial commitment had reached about $150,000 in cash. Then our first winter hit. Cash flow went negative. We struggled to make payroll. We had fallen behind with Sysco, and they put us on C.O.D. They turned over the outstanding balance (about $8,000) to a collection agency. We agreed to pay them $500 every two weeks. Then in December of 2004, we got a call from Cold Stone……they had made a mistake and failed to withdraw rent for 4 months. We owed them about $16,000, and they wanted to know how soon we could pay them! Cold Stone did defer the back rent until March 2005…….then we had to make payments, about $1000 a week until it was paid off. All the while, I wondered what we were doing wrong. Why couldn’t we make this work? Even Cold Stone convinced many of us that it was our fault. We weren’t doing the local store marketing like we should, or the Co-Op had no viable marketing plan in place. It didn’t matter. It was our fault!
I became involved in the Co-Op. I wanted to be a team player. I was the Co-Op president for 2 years. Throughout that time, I supported the initiatives Cold Stone was pushing. Like many of you, I looked to Cold Stone as the expert. They were, after all looking out for our best interests………or so I thought. One franchisee in our Co-Op always seemed to be the complainer. Always telling us what the real cost of couponing would be. How Cold Stone was making a ton of money through FMP dollars (money paid to Cold Stone by vendors like Sysco or Sygma for increasing case count), or how the rapid expansion of the number of franchises would hurt asset value for most of us. Little did we realize that he knew what he was talking about! I remember a conference call that I was part of with Bruce Burnham, who was then Vice President of Purchasing. During that call, I asked Bruce this question….”Bruce, why would I make a business decision to purchase candy from Sysco, when the cost per box (as an example) for Snickers was $32.00. The same box of Snickers at Costco was $16.00!” Bruce told me and everyone on that conference call that if I did not purchase it through Sysco that I would be considered out of compliance and that Cold Stone could take legal action against me. There were more incidents similar to these that occurred over my four years as a franchisee. We continued to struggle financially. It seemed that we were always “robbing Peter to pay Paul”. My wife finally had to get another job. We had personal bills to pay! We had actually come within hours of our house being foreclosed on. She got a job as a flight attendant, something she had always wanted to do. The job had benefits! The only problem, she was based in Fresno, California! I saw her only about four days a month. But at least one of us was out of the pressure cooker called Cold Stone! In 2006, I lost $56,000. I kind of had a priority established of who got paid first. First were the employees. Actually, I guess that Sysco got paid first, because now Sysco wanted their money up front, before they even shipped the order. After Sysco and the employees, the various utility companies got paid (the electric company, the phone company…..), then, if there was any money left, the taxes got paid…..this became more and more difficult. As of today, I am currently in arrears for federal and state taxes in excess of $100,000. There was usually no money left for Cold Stone to debit, and certainly not anything for me. This financial difficulty was not unknown to my area developers. I had been constantly updating them about my situation. Then in late December, 2006, I got the phone call. It was Josh Becker, assistant general counsel for Cold Stone. Cold Stone had decided to terminate my franchises. I had fallen way behind in rent and royalty payments. Josh said I would have to sign termination paperwork immediately. And he advised me not to seek legal counsel, because in his words, “it would make things messy.” I did sign the paperwork. Cold Stone did agree to let me market my stores for two months. If I did not have a signed purchase and sales agreement in hand by the end of those two months, then the termination process would begin. The two months I had to sell the stores was January and February of 2007. Not exactly prime time to sell ice cream, let alone two Cold Stones!
But, I began to market both stores. I had gotten my real estate license, and used a local broker to help me try to sell them. I actually got some interest, and in fact, received a number of purchase and sales agreements. But, when the prospective buyers reviewed my financials, they quickly lost interest. There was no way they could even begin to pay a fair price for the stores, and make the numbers work! With rapidly declining sales, not just in our region, but across the country, it would only get worse. My first year, one of my stores was on track to do $425,000, the other, which opened nine months later, about $475,000. In fact, after the Cake Batter disaster, neither store broke $375,000. Year ending 2007, in fact, my combined total sales for both stores was $601,000! I would be lucky if someone would pay $200,000 for each store. Remember, as first generation franchisees, we had to shell out about $300,000 per location. And, besides what I owed to the government, I had leased equipment in one store for which I owed about $140,000, and I still owed my lenders about $300,000. And both of them had liens on my house. At this point, I realized that I was in deep financial trouble. I contacted a bankruptcy attorney. Our strategy was simple. The odds of me finding a willing buyer was almost nil, especially by the end of February. We would delay Cold Stones attempts to force termination of the franchises with the threat of a chapter 13 filing. Then, we would try to negotiate with them. Hopefully, they would want to avoid a lengthy chapter 13 ruling. And it would give me time to find buyers for my two locations. After about a month, Cold Stone decided not to negotiate, and we filed for Chapter 13 protection. I did locate a willing buyer, who wanted both stores, and submitted a purchase and sale agreement for $400,000 for both stores! They interviewed with our area developers, and were approved! However, after meeting with the area developers, and their lender, they decided to amend their offer for only one of the stores for $200,000. Their lender had said that the deal was risky and would not be able to fund both stores. They had decided to forgo any lender, and would buy the one store for cash. They did their 40 hours of local training, and then went for the week of training in Scottsdale. However, after the training in Scottsdale, on the way back from the airport, I got a call from them. They had decided to rescind the purchase and sale agreement! They mentioned indirectly, that after a conversation with Cold Stone and the area developers, they decided that it was too risky to move forward. I now have credible evidence that my buyers had conspired with Cold Stone and had agreed to rescind their purchase and sale agreement, let Cold Stone take over my store(s), and would purchase my store directly from Cold Stone at a greatly reduced price! Cold Stone would pocket the total proceeds on the sale, netting themselves a tidy profit, while leaving me with all my outstanding debt. After much discussion with my attorney who said at one point, “you can put lipstick on a pig, but it’s still a pig!” he called the buyers back, and asked them to bring a reasonable offer to the table and we would consider it.
Our strategy had to change. Based on what my attorney felt we would get as an offer, now our strategy would revolve around how we would avoid paying anything to Cold Stone, and instead paying the lenders as much as we could. There would be nothing going to pay any taxes. “Ed,” he said, “it’s like you’ve fallen off the back of a truck. You’re going to get hurt. We just want to minimize the pain!” So, this is how I spent my inheritance, and mortgaged our future! But, I had to think about what would have happened if I had just rolled over, and let Cold Stone come in and taken the assets. Nothing and no one would have gotten paid off, except Cold Stone! Then, they would turn around and sell the asset to someone else. That is a winning strategy for them! I couldn’t let that happen.
After much negotiating, we settled on a price of $120,000! We found a buyer for the second store, a franchisee in our Co-Op, who wanted a store along the I-5 corridor. During the negotiations, he told us about a conversation he had with the area developers. They told him to “avoid the Bellingham store, that Ed and Patty were in a legal dispute with Cold Stone.” That they, in fact, were selling a store they owned. By the way, they had purchased this store from a distressed franchisee a year earlier for $118,000. Does this sound like either a conflict of interest at the very least, or interference with the sale of my store? He decided to pass on their store, and offered me $75,000 for my store. At this time I received another offer for $175,000! We accepted this offer, but after being interviewed by the area developers, they amended their offer to $110,000. The franchisee who offered me $75,000 increased his offer to $100,000 plus a note for $10,000. The second offeree raised his offer finally to $135,000. We accepted this offer, only to have the area developers reject them as potential franchisees, because his wife did not pass the English profitenciy test. This potential franchisee was a tenured professor of economics at Western Washington University! The franchisee did raise his offer to $120,000, and we finally accepted this offer.
Filing a Chapter 13 bankruptcy action may not be the best strategy, but it was better than doing nothing. We were able to provide a clear title to both purchasers, free of any liens or encumbrances (cleared by the judge), and the judge did allow for one of my lien holders to get paid off. The money I owed to Cold Stone (somewhere in the $300,000 range, including unpaid rent, royalties, the remaining balance on a note they carried, and the leased equipment for $140,000) was discharged. They were able to collect some of the post petition rent that I owed them through the sale of the second store. I am still on the hook for the second lien holder, and the taxes owed. I am still going to have to sell my house to satisfy the lien at some point, and will have to do something about the taxes owed, but I am much better off than I would have been, letting Cold Stone take over my stores.
This was my strategy, and I’m sure there are others out there that might be better. Don’t be afraid to seek out answers. The worst action you can take is to do nothing!