Franchising Model Under Attack: The Joint Employer Threat
By Dianne LaRocca and Erik Wulff
Ever since the post WWII boom era, franchising has flourished throughout the U.S. and indeed the world. Many types of businesses have adopted this model of expansion that allows the capital and human resources of local entrepreneurs to fuel expansion, giving these entrepreneurs the opportunity to participate in the American Dream by owning their own businesses.
But there have been bumps in the road as the franchising model has come under legal scrutiny and stress. In the 60’s and 70’s the anti-trust laws assailed the structure of many franchise programs; in the 70’s and 80’s, franchise disclosure laws were enacted; in the 90’s, the prospects of Federal franchise legislation caused significant concern. Now the attack comes from another quarter: the employment relations franchisees have with their employees.
Historically, franchisors have succeeded in defeating “joint employer” challenges because they have demonstrated that their franchisees are the ones who exercise control over their employees’ wages, hours, and terms and conditions of employment, not the franchisor. However, as the National Labor Relations Board’s (NLRB) Office of the General Counsel’s recent issuance of complaints against McDonald’s USA LLC (McDonald’s) illustrates, others look at things differently. The NLRB, the U.S. Department of Labor, other federal agencies, the U.S. Congress, state attorneys general, private litigants, NGOs, and organized labor are subjecting the relationships between franchisors and franchisees to microscopic scrutiny, and arguing that standards included in franchise agreements to maintain and improve brand value and/or systems and practices established to achieve reliable, predictable products and services, create labor and employment liability for the actual employers—the franchisees, and the alleged joint employers—the franchisors.
In late December, the NLRB General Counsel (GC) issued 13 complaints against McDonald’s and some McDonald’s franchisees as joint employers responsible for alleged unfair labor practices. While the complaints do not specify McDonald’s involvement in the allegedly unlawful conduct, they indicate that merely “possessing” control over labor relations policies of a franchisee is sufficient to establish a joint employment relationship.
That the NLRB would be looking to expand the definition of who is an employer in the franchise context through issuance of complaints was not a surprise. A few months earlier, in an amicus brief submitted in a case captioned Browning Ferris Industries of California, Inc., the GC argued that the time has come for the NLRB to alter the standard it uses when determining whether two seemingly separate and independent employers will be determined joint employers. Even though Browning-Ferris does not concern a franchise relationship, in its brief, the GC asserted, “franchisors typically dictate the terms of franchise agreements and ‘can exert significant control over the day-to-day operations of their franchisees.’” However, the GC also argued, in a footnote, that the NLRB should “continue to exempt franchisors from joint-employer status to the extent that their indirect control over employee working conditions is related to their legitimate interest in protecting the quality of their product or brand.”
It is not only the NLRB that is subjecting who is an employer to scrutiny. David Weil is the current Wage and Hour Administrator for the U.S. Department of Labor (DOL). According to Dr. Weil, fissuring in the franchise industry began when companies began to recognize the competitive advantage arising from creating a distinctive brand (for example, creating a loyal customer base that is more willing to pay a premium for the brand’s products) but also the savings that could occur through a franchise relationship, either because labor was not one of the company’s core competencies or the franchise relationship permitted the company to reduce labor costs by shifting them onto a franchisee. As a result, according to Dr. Weil, there becomes a fissure, or split, in the employment relationship that makes workers vulnerable to abuses: To protect workers from these abuses, Dr. Weil argues that the laws must hold the franchisors at the top of the pyramid liable, jointly liable, or vicariously liable for labor and employment liabilities of their franchisees.
In light of the joint employer issues, franchisors should consider making changes in their franchise agreements to prepare for the challenge. This includes:
- Confirming that the relationship between the franchisor and franchisee is defined as an independent contractor relationship
- Reviewing any provisions that reference the franchisee’s employees and removing any controls the franchisor exercises over them, including the ability to hire, fire, direct and control the franchisee’s employees; establish employment policies for the franchisee’s employees; and issue paychecks to the franchisee’s employees
- Reviewing other provisions that grant the franchisor control, even if outside the labor and employment context, and evaluate whether such controls can be reduced while still protecting the quality of the brand and/or product
- Confirming that the indemnification provisions contained in the agreement cover issues relating to joint employer liability
- Confirming that the agreement includes a provision requiring the franchisee to comply with all federal, state, and local laws and a means to enforce compliance, e.g., audits.
Separate from the franchise agreements, franchisors should consider:
- Bringing “company-owned” outlets into material compliance with labor, employment and other laws
- Directing field representatives to refrain from directing franchisees in labor and employment matters while offering recommendations and “company-owned” outlets as examples
- Maintaining a list of professional employer organizations (PEOs) to which franchisees can delegate employment-related responsibilities and direct inquiries
- Requiring franchisees to maintain a separate identity externally, e.g. through signage, and internally, e.g., employment-related materials
- Reviewing technology that the franchisor requires its franchisees to use and disable any features that enable the franchisor to exercise indirect control over employee working conditions beyond what is arguably necessary to protect the quality of the brand and/pr product, e.g., scheduling.
Only time will tell how broadly the NLRB, the DOL, and other government agencies charged with enforcing the country’s labor and employment laws will seek to expand the definition of employer. And it remains far from certain that the courts will embrace these new theories, and for that matter whether Congress may weigh in. But given the current uncertainties and the dire consequences if these new theories are adopted, franchisors are well advised to take precautionary measures sooner rather than later.
Dianne LaRocca is an Associate and Erick Wulff is a Partner at DLA Piper.