Recently we discussed the headwinds that remain for the franchise community as a result of policy changes coming from Washington and the various state capitols.  What should franchisors consider as they swim in this sea of dangerous uncertainty? Unsurprisingly, there is no clear path; decision-making in the fog of the unknown is risky. That said, we suggest that fanchisors might consider the following to avoid the most severe effects of these possible outcomes:

  • Reduce employment control factors to the minimum and tie operational standards closely to brand quality in franchise agreements and brand quality manuals.
    • Downside: Many franchisees want operational and employment guidance from the franchisor.
    • Downside: Unclear whether quality control required by the Lanham Act will preclude application of an ABC test, or vice-versa.
    • Downside: Loosening control risks loss of mark.
  • Train field personnel to focus on brand compliance only, consistent with franchisor’s focus.
  • Encourage/require franchisees to operate as corporate entities.
  • Raise wages and benefits in franchisor-operated locations, to avoid joint liability with its franchisees in wage and hour complaints.
  • Seek out potential franchisees in radically different businesses, who can treat franchise outlets as portfolio assets, e.g., private equity investment entities, companies with multiple brand or business operations; or who can operate a franchise outlet as an adjunct to their regular business, e.g., supermarkets, universities, multi-brand concessionaires, or gas stations.
    • Downside: Lesser control over franchise operations.
    • Downside: Divided loyalties of franchisees.
  • Grant franchises in nontraditional venues over which franchisor has little or no ability to control work conditions, e.g., sports arenas, university campuses, convenience markets, supermarkets, recreation areas.
    • Downside: Lessor control over franchise operations.
  • Reassess/change the system financial model to anticipate increased expense and risk.
  • Require franchisees to escrow funds (e.g., equal to quarterly salaries).
  • Increase royalty payments or other fees.
  • Require additional or greater levels of insurance (e.g., EPLI).
  • Require irrevocable letters of credit from franchisees.
    • Downside: Franchise agreements may not permit.
    • Downside: Many franchisees will be priced out of the relationship; favors multi-unit franchisees.

The search for a redemptive path for franchisors is no longer urgent. Judging from the current pace of activity, legislative and regulatory outcomes will be slow to develop. And maybe, just maybe, the franchise industry will emerge (relatively) unscathed.

In recent blogs, we identified serious threats to the franchise industry – the Protect the Right to Organize (“PRO”) Act, joint employer standards, state ABC laws, and the new Biden Administration guard at the Department of Labor and the National Labor Relations Board (which looks suspiciously like the old Obama Administration guard. A combination of these changes, we warned, could spell disaster to the future of the franchise industry.

For now, we’re walking back from the ledge; the apocalypse has been averted. The Democratic logjam in Congress has resulted in a watered down legislative agenda for the Biden administration, David Weil’s confirmation at the DOL is stalled, and a few courts are trimming the effects of state ABC laws. So, we move back from the ledge, albeit cautiously.

The franchise industry may experience a reversion to the Obama-era of joint employment headaches, but will it be worse? Passage of the PRO Act is unlikely, meaning that the deep structural changes to the relationship between employers and employees will remain a fond progressive hope, rather than law. As mentioned in our PRO Act blog, some of the provisions of that Act may become the subject of executive orders or a rulemaking process. Rumblings of increased fines for employers who violate the NLRA, up to $50,000 per employee, have already reached the rumor mill. Both the NLRB and the DOL could adopt either an Obama-era or an ABC joint employment standard, but which will it be and how broadly will it extend?

Our very cloudy crystal ball suggests that the two most likely scenarios are:

  • PRO Act fails; NLRB and DOL adopt ABC joint employment standard.
  • PRO Act fails; NLRB and DOL adopt economic reality standard, broadly stated (back to the Obama-era).

But of course, we could hope for just a little more breathing room with the following scenario:

  • PRO Act fails. DOL and NLRB adopt economic reality standard, including the requirement that a potential joint employer must possess and actually exercise direct control over at least one essential term or condition of employment.

Coming Soon: What steps we think franchisors should take now to protect themselves in the event the headwinds return.

Mediation is very effective in resolving disputes. Franchisors are enthusiastic about mediation, especially pre-suit, because it can eliminate the need to disclose settlements to prospective franchisees otherwise required under the FTC Rule. Regardless of whether the mediation involves a franchise dispute, or another negotiated dispute resolution, the focus is now on implementing settlement agreements which can be readily enforced. This issue is particularly acute in dealing with cross-border dispute resolution where enforcement may occur in geographies far from the seat of the dispute that may be the home of the party against whom the agreement is being enforced.

The American Bar Association’s Forum on Franchising recently presented the program “Do you Really Want to Litigate in London or Timbuktu? Negotiating and Settling International Franchise Disputes Before Arbitration or Litigation Heats Up.” International practitioners Kristin L. Corcoran, Martine De Konig and Robert F. Salkowski, illustrated some of the challenges of international dispute resolution. This discussion explained why we should be prepared to settle these cases early. It also highlighted the importance of having settlement agreements which can be enforced anywhere.

Absent a court rule, statute or treaty, enforcement of a settlement agreement is a matter of simple contract enforcement. Drafting is key to maximizing the enforceability. But mediated settlement agreements, that is, settlement agreements in which third party mediators are involved, may be more easily enforced both domestically and internationally. As will be seen, I would recommend a third party mediator involvement in almost every important mediated outcome.

Drafting Considerations for Settlement Agreements

Decide whether confidentiality is important. This may dictate whether and how security for performances are structured and the methods of enforcement.

These contractual provisions may be useful in your more complicated settlement agreements:

  1. Escrow of documents of title. Real estate deeds, UCC-1 filings, judgments by consent, mortgages, corporate stock certificates or membership interests in business entities can be escrowed. The documents can be released like any other closing upon certain performances. The escrow agent ideally should be a third party, and sometimes a mediator can be convinced to perform this role. More often, the role is more likely to be assumed by one of the counsel in the case. The instructions should be clear and minimize discretion as too much discretion invites litigation.
  2. Dispute resolution provisions. If the settlement agreement is breached, a cost-effective and expedited dispute resolution is necessary. Domestic settlement agreements can state venue provisions and expedited procedures, like motions on short notice for enforcement. These provisions should be coordinated with any local court rules which provide for expedited enforcement of settlement agreements. For international agreements, the clear preference is to provide for dispute resolution through arbitration, which may even contain expedited procedures and timeframes. Enforcement of arbitration awards is expedited through the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the “New York Convention”).
  3. Further assurances clauses. This is important boilerplate language that requires the parties to cooperate and assist by performing any additional acts to give effect to the settlement. This would include execution of any additional documents and procuring required acts by third parties.
  4. Third party guarantors and/or security. The parties can agree to third party guarantors of payment and/or performance. The monetary obligations can be collateralized by a security interest in assets with a UCC lien. The lien can be filed at the outset. In the alternative, the UCC-1 for example may not be authorized to be filed until a default occurs. Non-monetary performances may be secured with a performance bond. Payment bonds and irrevocable standby letters of credit may be used to secure payment performances. Consent judgments may be agreed upon even at the outset if the performances are expected to be performed in short order.

Court Rules May Aid Enforcement of Settlements

Many federal courts have local rules which modify Federal Rule of Civil Procedure 41, pertaining to withdrawal of cases. For example, in the Eastern District of Pennsylvania, Local Rule 41.1 provides for dismissal of a case upon settlement, but upon petition, may be reinstated for good cause within 90 days, especially for non-performance of a settlement agreement. Federal Rule 41 itself allows a court by specific order to retain jurisdiction over any withdrawn or dismissed case to enforce a settlement. Note that courts generally do not want to be burdened by retention of jurisdiction except for short periods of time. Once a jurisdiction expires, a new lawsuit to enforce the settlement would be required.  Similarly, state courts sometimes have specific rules on enforcement. Pennsylvania Rule of Court 229.1 imposes sanctions if settlement funds are not paid within 20 days.

Enforcement of Mediated Settlement Agreements

The United States and over 50 other nations are signatories to the United Nations Convention on International Settlement Agreements Resulting from Mediation (the “Singapore Convention”), though the United States Senate has not yet ratified the Convention and the EU is not a signatory. Many countries have not yet signed or ratified the Singapore Convention. When ratified, each signatory agrees to enforce to enforce a mediated settlement agreement in an expedited manner, similar to the confirmation of an arbitration award under the New York Convention. The mediated settlement is seen as being more reliable than the non-mediated settlement, which could be subject to claims of unfairness. Not every mediated settlement agreement fits under the Singapore Convention. No international settlement should be finalized until it is checked against the requirements of the Convention. Best practices suggest that the enforcement provisions specifically state that the agreement may be enforced under the Singapore Convention.

Israeli based international arbitration advocate, Eric Sherby, takes a critical look at the Singapore Convention in “The Singapore Convention. The Emperor’s New Clothes of International Dispute Resolution”, International Dispute Resolution News, ABA Section of International Law (Fall 2020). He makes a strong case that the contractual provisions discussed above are sufficient  for international enforcement. He argues that the Singapore Convention is superfluous, and may even do more harm than good because of its definition of mediator breach and potentially allowing a party to raise the defense even after the counter-party has acted to its detriment in relying on the settlement agreement. Mr. Sherby may be correct, but we never know whether we can obtain the important drafting concessions and security we need to ensure easy enforcement of the settlement. The Singapore Convention is still in its infancy and I am unaware of any case which have addressed or opposed enforcement under the Convention.

You never, ever mention your competitors in your marketing and advertising. Unless maybe you attack them. That’s Marketing 101, right?

Well, the conventional wisdom appears to be wrong.

Recent research from Professor Keisha Cutright at Duke’s Fuqua School of Business suggests just the opposite. That brands praising their competitors may actually help boost their own sales.

Listen to this fascinating The Indicator podcast from NPR’s Planet Money economics team: “BRAND new friends” and learn how sending some love out to your competitor might just boost your bottom line.

On September 28, 2021, Fox Rothschild partner Craig Tractenberg with Rochelle Spandorf from Davis Wright Tremaine LLP provided perspectives on drafting licenses and distribution agreements respecting the evergreen issue of creating an accidental franchise in a Strafford Publications webinar. They also discussed best practices for complying with federal and state franchise and business opportunity laws once an inadvertent franchise is established.

The topics addressed were:

  • determining whether a business constitutes a franchise;
  • strategies for drafting licenses and distribution agreements to avoid accidental franchises; and
  • complying with federal and state franchise and business opportunity laws once a franchise is established.

They discussed examples of well known businesses which were deemed to be accidental franchises by courts, and the legal consequences of those legal decisions. Much of the questions and answers from the audience were about structuring to avoid the franchise trap.

Of special interest was the hot topic of agreements in the cannabis space. Rochelle and Craig discussed:

  • the risks of accidental franchising in the cannabis distribution business;
  • retail cannabis/cbd licensing programs (e.g. ONE Cannabis, Miracle Leaf) which operate under a common brand and business concept as service businesses;
  • how some state registration states like California will not permit the offer and sale of cannabis franchises because of federal illegality;
  • other complications including state franchise registration, federal legalization, banking, insurance, federal income tax deductions and financial statement presentation.

As new industry sectors like cannabis move into licensing multiple locations, the reward of franchising–leveraging local knowledge and capital–is obvious. But, sometimes, the danger of the accidental franchise is overlooked inadvertently. Both Rochelle and Craig encourage all businesses expanding with a license model to consider whether they are creating an accidental franchise system.

Recently, I moderated a panel for an International Franchise Association webinar called “From Venture Capital to Private Equity: Franchise Investment Trends and Terms”.  I was fortunate to have fantastic panelists: Satya Ponnuru (General Partner of NewSpring Franchise), Vanessa Yakobson (CEO of Blo Blow Dry Bar), Bernard Markey (Navigator Partners) and Ed Teixeira (Franchise Grade).  I wanted to share some of the takeaways of that panel.

First, to differentiate, the panel covered everything from early stage growth equity investments (venture capital) to later stage private equity buyouts – a lot to fit into one hour!  Both venture capital and private equity have grown exponentially in the last few years – the first half of 2021 approximating the first 2/3 of 2020 in private equity funding according to the Pitchbook Q2 2021 US PE Breakdown report.  And interest in the franchise sector has grown at all stages.

One of the main takeaways was the emphasis all panelists placed on a healthy relationship between the franchisor and the franchisee.  Clearly, a franchise system will not be a strong business unless the financial metrics are solid at the franchisee level – if the franchisees are not making money, the system will ultimately fail.  But also general communication between the franchisor and franchisee and satisfaction with that relationship was an important aspect of strong franchise business.

Second is making sure that the partnership between the founders and others involved in the franchise system and the investors is solid and that goals are aligned between the two.  They will be working together, hopefully for a long time, so it is important to take time to be confident of the relationship.

Third, for a franchise system to make strong efforts to keep your books and records in order.  If you don’t have someone on your team that is in charge of legal, compliance and/or the financial end of the business, that needs to be added.  Everything from the basics of making sure receipts and franchise agreements are properly signed to gathering solid data on your franchisee businesses should be undertaken from the beginning.

And all seemed to agree that, except in rare circumstances, a solid Item 19 Financial Performance Representation is important.  A lack of an Item 19 was viewed as a warning sign.

Of course, pointers relating to the due diligence process and the negotiation of the transaction were covered, but it is important to keep these high-level tips in mind as well.

Third-party food delivery services via app (e.g., DoorDash, GrubHub, Uber Eats, Postmates, etc.) have become–especially in these pandemic times–a vital part of the restaurant industry ecosystem. And we know that franchise systems regularly utilize and partner with these app-based services. Now, New York City has enacted groundbreaking new laws to regulate these services. Some portions of the laws, such as bathroom access privileges, place new requirements on restaurants.

Carolyn D. Richmond, Glenn S. Grindlinger, and Timothy A. Gumaer of Fox Rothschild’s New York Labor and Employment Group took a deeper dive into what these new laws mean:

New York City Council has passed a package of six bills that together regulate nearly every aspect of the relationships between third-party food delivery services and their delivery workers within New York City. The bills, passed on September 23, 2021, (and explained in more depth below) are expected to be signed into law by Mayor Bill de Blasio within the next few days.

Restaurants will be directly impacted by a provision in one of the bills that says all third-party food delivery services must modify contracts with restaurants to ensure that bathroom facilities are made available to delivery workers unless exceptions apply.

Prohibition on Fees for Payment of Wages

Bill 2296-2021 prohibits third-party food delivery services from charging delivery workers a fee in order to obtain their wages and tips in a specific payment method, such as direct deposit or check. Additionally, the bill requires third-party food delivery services to pay its delivery workers on a weekly basis.

Disclosure of Gratuity Polices

Bill 1846-2020 prohibits third-party food delivery services from soliciting a tip from a customer unless it also discloses (i) the proportion or fixed amount of each tip that will be distributed to the food delivery worker, (ii) the manner in which the tip is provided to the worker (whether immediately or not), and (iii) the method in which the tip will be provided (in cash or another method).

The law also requires that, for each transaction, a food delivery worker shall be notified:

  • how much the customer paid as a gratuity
  • whether the customer paid an additional gratuity after delivery
  • if the customer decided to remove the gratuity, and
  • the reason for the removal if such a reason is provided.

Upon any change or payment of gratuity, the third-party delivery service shall notify the food delivery worker and credit such gratuity to the individual’s account. The third-party delivery service shall also disclose to the courier the aggregate amount of compensation and the aggregate amount of gratuities earned by the courier no later than the day after they are earned.

Third-party food delivery services must maintain for at least three years records demonstrating compliance with the above requirements as a condition of maintaining a license to operate in New York City.

Minimum Payments Per Trip

Bill 2294-2021 establishes the mechanism by which the City will determine the minimum amount earned by a food delivery worker per trip, exclusive of gratuities.

Under this bill, the Department of Consumer and Worker Protection (the Department) is tasked with analyzing the working conditions for food delivery workers, including:

  • the pay they receive and the methods by which pay is determined
  • total income typically earned
  • expenses of such workers
  • equipment required to perform their work
  • the hours of such workers
  • average mileage per delivery trip
  • mode of travel
  • safety conditions

The bill gives the Department the power to request or issue subpoenas for production of data, documents and other information from a third-party food delivery service relating to food delivery workers. Such information may include the times that workers are available to work for the third-party service, how trips are offered or assigned to workers, the compensation workers receive from the service, any gratuities workers receive, agreements or policies covering workers, contact information of workers, information relating to the setting of fees paid by food service establishments and consumers, and any other information deemed relevant by the Department.

Based on its analysis, the Department shall, no later than January 1, 2023, establish a method for determining the minimum payments for a food delivery worker. How much a food delivery worker will earn per trip will be based upon such calculation. Third-party food delivery services are forbidden from taking a tip credit toward wages it must pay food delivery workers.

Beginning February 1, 2024 (and no later than February 1 of each year thereafter), the Department shall announce any update to the minimum payment calculation. The update, if any, would then take effect on April 1 of the same year.

Geographic Limits on Delivery

Bill 2289-2021 addresses general provisions relating to the working conditions for workers and requires that third-party food delivery services permit workers to set limits on distance and routes for deliveries.

Third-party food delivery services must inform the delivery worker, prior to the trip, the address where the food, beverage or other goods must be picked up, the estimated time and distance per trip, whether the customer provided a gratuity, and the compensation for the trip (excluding gratuity).

Delivery workers must also be provided the opportunity to (i) set the maximum distance per trip they will travel, and (ii) reject routes that include bridges or tunnels, both of which can be changed at any time by the worker and at their sole discretion. Third-party food delivery services are forbidden from retaliating against a worker for their chosen parameters in the form of, amongst other things, denial of work opportunities, reduction in hours or pay or a reduction in the worker’s public or internal “approval” rating.

Each third-party food delivery service must also provide its workers with a notice of rights under the law. Such notice of rights will be created and published by the Department.

For each violation, a third-party food delivery service will be subject to a $500 fine for the first violation and, for subsequent violations that occur within two years of any previous violation, up to $750 for the second violation and up to $1,000 for each succeeding violation. Food delivery workers will also be entitled to seek compensatory damages in actions against third-party food delivery service for any violations under the law.

Insulated Food Bags to Be Provided to Delivery Workers

Bill 2288-2021 requires third-party food delivery services to provide, at their own expense, insulated food bags to food delivery workers that have worked at least six deliveries for the service. Previously, a third-party food delivery service could require its workers to provide insulated food bags at their own expense.

The bill gives the Department the power to deny, suspend, or revoke a third-party delivery service’s license to operate in New York City if the service is found to have violated these provisions two or more times within a two-year period.

Bathroom Access for Delivery Workers

Bill 2298-2021 states that a third-party food delivery service must include in its contracts with restaurants a provision that requires the restaurant to make available its bathroom facilities to third-party food delivery workers so long as the delivery worker seeks access to the facilities while picking up an order for delivery. However, the bill notes that a restaurant is not required to do so if (i) accessing the toilet facility would require a worker to walk through the establishment’s kitchen, food preparation area, storage area or utensil washing area or (ii) accessing the facility “would create an obvious health and safety risk to the food delivery worker or to the establishment.”

While the bill does not define the term “health and safety risk,” the Department is charged with developing rules and enforcing the bathroom measures.

Fox’s franchise team will continue to monitor these new laws, watching to see if they become a trend in other cities and even states across the country.

The Covid-19 pandemic has changed a lot of things, including employment verification. Does your franchise system understand the special provisions the federal government instituted in the I-9 Employment Eligibility Verification process as a result of the pandemic? If not, you could quickly find yourself on the wrong side of the law.

Join Fox Immigration Partners Catherine V. Wadhwani and Mark D. Harley on Tuesday, October 5, 2021, at 12 noon ET/9 am PT for a one-hour webinar that will provide an overview of current Form I-9 requirements, appropriate steps for return-to-work and potential liability for non-compliance.

Register for the webinar HERE.

While the Protect the Right to Organize (PRO) Act was passed by the House of Representatives, it has not been made part of the Biden administration’s infrastructure efforts thus far and does not appear have sufficient support to overcome a certain filibuster in the Senate. Therefore, passage of the Act in its present form is unlikely, especially because the reconciliation process being used for the so-called Biden Budget Blueprint would not seem to apply to the PRO Act.

Thus, at the same time a strong anti-PRO Act lobby appears to be gaining momentum, the administration is reportedly contemplating adopting parts of the PRO Act by executive order, although the scope of such an order would be constitutionally limited.

Whether or not the PRO Act becomes law, David Weil may be inclined to either revert to the Obama era “economic realities” joint employment standard or could propose an even stricter ABC joint employment test. Dr. Weil’s book, Fissured Employment, provided a thoughtful foundation for the economic realities standard, but whether he would support a stricter ABC test is anyone’s guess.

The NLRB is constrained by existing legislation and cannot independently adopt all the changes featured in the PRO Act, nor could an executive order command legislative changes. For example, only the PRO Act would by law embed the indirect control standard into the NLRA. That said, the Board could revise its definition of employee, as it did during the Obama era, in the course of its quasi-judicial activities. The NLRB traditionally has three members from the President’s party and two from the opposition. With staggered terms, the Board’s composition can be slow to change. However, with Biden’s recent nominations to the Board, control of the NLRB could soon change to Democratic.

Whether and how much of the PRO Act can or will be implemented legislatively, by executive order, or by agency regulation is unpredictable. The answers will determine the landscape to which the franchise industry must adapt, and certainly there will be judicial challenges to the outcome. But in the interim, the industry must prepare to survive the maelstrom.

The California version of the ABC test is arguably the most hostile to franchising. Nonetheless, the risk is not confined to California.

This is because the ABC employee classification test, with variations, has been adopted in a majority of states including, in addition to California: Alaska, Arkansas, Colorado, Connecticut, Delaware, Georgia, Hawaii, Idaho, Illinois, Indiana, Kansas, Louisiana, Maine, Massachusetts, Montana, Nebraska, Nevada, New Hampshire, New Jersey, New Mexico, Ohio, Oklahoma, Oregon, Pennsylvania, Rhode Island, Tennessee, Utah, Vermont, Virginia, Washington, West Virginia, Wisconsin and Wyoming.

Despite this wave of ABC test adoption, absent federal action, such as the PRO Act or DOL adoption of an ABC joint employment test, some states are likely to retain a direct control-based employment standard. But the direction is clear: away from a direct contract standard toward the troublesome ABC test.

As if its aggressive ABC test wasn’t enough, the California legislature very recently but narrowly defeated the so-called FAST Recovery Act, designated AB 257. That Act would have established unelected councils with power to establish industry-wide standards on wages, hours and working conditions in the fast food industry. In addition, it would have established joint liability for fast food franchisors and franchisees, substituting the newly-established councils’ employment policies for those of the owner-franchisee. In an ironically positive vein, the FAST act would make it very difficult to support a theory that the franchisor or the franchisee controlled or directed the employees of fast food franchises.

The FAST Act failed by a mere three votes. It is likely to appear again.