February 2, 2016
Practice Group(s):
Corporate
Labor, Employment
and Workplace Safety
‘Twas the 2016 Franchise Renewal Season … and
Labor and Regulatory matters are stirring
throughout the franchise model
Franchise Alert
By Carlos White, John Farrell and Reese Brammell
Last year, the franchising industry witnessed developments that significantly affected the
core of its business model. These developments stem in large part from both federal and
state governments taking a more active role in regulating the interests of labor and
franchisees. Whether the governments’ approaches were proper is up for debate. However,
what is not debatable is that franchisors must account for these developments to comply with
franchise law and mitigate risk to their franchise system. Since the 2016 franchise annual
renewal period is rapidly approaching for most franchise systems, now is the time for
franchisors to assess and implement the requisite changes in their franchise program. This
alert discusses three of the most significant developments franchisors will need to address
during the 2016 franchise renewal period.
New Joint Employment Test
The National Labor Relations Board (“NLRB”) made two rulings on the “joint employment” 1
test that could potentially have far-reaching financial and legal implications on the franchise
business model. On August 14, 2015, in McDonald’s USA, LLC, a joint employer, et al.,2 the
NLRB denied McDonald’s request to challenge or strike NLRB General Counsel Richard
Griffin’s expansive new definition of “joint employer.” Using this definition, the General
Counsel alleged that McDonald’s is a joint employer with its franchisees, due to McDonald’s
right to control certain employment and personnel matters of its franchisees.3 Just two weeks
after the McDonald’s ruling, the NLRB, in Browning-Ferris Indus. of California, Inc.,4 adopted
1
Being deemed a “joint employer” by the NLRB under the National Labor Relations Act (“NLRA”) might
subject a franchisor to collective bargaining requirements, as well as liability for violations of labor laws by its
franchisees. It is worth noting that the NLRB’s joint employment test does not apply to all employment
statutes, and certain employment statutes have their own test for joint employment. In fact, the Wage and
Hour Division of the Department of Labor (“DOL”) recently issued Administrator’s Interpretation No. 2016-1
(“Interpretation”), providing guidance on when a joint employment relationship exists under the Fair Labor
Standards Act (“FLSA”) and Migrant and Seasonal Agricultural Worker Protection Act (“MSA”). In the
Interpretation, the DOL asserts that the joint-employment test under the FLSA and MSA is more expansive
than the NLRB’s test, and focuses on the economic realities of the employment relationship. (See
http://src.bna.com/b7j). As a consequence, the standard for determining that franchisors have liability for the
wage and hour violations of franchisees may be even more likely to result in exposure for the franchisor.
2
362 NLRB No. 168 (2015)
3
Under the General Counsel’s formulation of the test, a joint-employment relationship is found not only
when an entity’s control over the employment matters of another is direct and immediate, but also where
such entity indirectly controls or reserves the right to control certain terms and conditions of the employment
relationship of another party’s employees.
4
362 NLRB No. 186 (2015)
‘Twas the 2016 Franchise Renewal Season … and Labor and Regulatory
matters are stirring throughout the franchise model
the General Counsel’s new joint employment definition, abandoning the longstanding rule
that required the exercise of control, and instead finding that the right to control, even if not
exercised, is enough. The Board ruled on a 3-2 vote that Browning-Ferris Industries of
California Inc. (“BFI”) was a joint employer with Leadpoint Business Services (“LBS”).5 This
decision was based on the NLRB finding BFI possessed both direct and indirect control, and
the right to control the essential terms of the employee relationship of the employees
provided by LBS. (For additional insights on Browning-Ferris Indus. of California, Inc. please
see our “NLRB Broadens Joint Employment Standard” alert located at the following link:
http://www.klgates.com/nlrb-broadens-joint-employment-standard-09-02-2015/).
Given that the cornerstone of the franchise relationship is to have built-in controls to protect
the franchise system (some of which will inevitably encroach upon the employment matters
of franchisees), these recent rulings have caused substantial uncertainty and consternation
for franchisors deciding how to structure their franchise programs to avoid joint-employer
liability. To help temper these concerns, the NLRB’s General Counsel has made public
statements noting that joint-employer status is a very fact-specific inquiry, and controls
necessary to protect the quality of the product or brand will not be enough to trigger jointemployer status. Additionally, the NLRB provided guidance in Freshii Advice Memo dated
April 28, 2015 (“Memo”), to help franchisors seeking to avoid being deemed a joint employer
under the new test.
In the Memo, the NLRB advised on whether Freshii Development, LLC (“Freshii”)6 was a
joint employer with Nutritionality, Inc., one of its franchisees (“Nutritionality”). The NLRB
concluded in the Memo that Freshii was not a joint employer with Nutritionality under the new
joint employer test, since Freshii did not “significantly influence the working conditions of
Nutitionality’s employees.” The NLRB also noted in the Memo that there was no evidence
that Freshii and Nutritionality shared control of, or codetermined, the essential terms of the
employees’ contracts (e.g. hiring, firing, discipline, supervision, or setting wages).
Although the General Counsel’s public statements and Memo are nonbinding, they do
provide some helpful guidance on structuring and updating franchise program documents to
mitigate a franchisor’s risk of attaining joint-employer status. Some general pointers for
franchisors to follow to reduce joint-employer risk include:
o Mandating that the franchisee includes signage in the franchise unit that clearly
indicates to the franchisee’s employees that the unit is owned and operated by the
franchisee.
o Including express language in the franchise agreement and other related franchise
program documents that the franchisee is solely responsible for its employee and
personnel matters.
o Allowing franchisees to, in fact, make employment decisions, including what policies to
implement, how to set employee schedules, developing compensation and benefits
plans, how to discipline employees, and employees’ hiring and firing.
o Avoiding franchisor day-to-day supervision of any kind and, in the event the franchise
agreement requires or contemplates inspections, ensure that franchisor-level
5
6
LBS was an employment agency that supplied BFI with its employees.
Freshii is a franchisor of fast-casual restaurants.
2
‘Twas the 2016 Franchise Renewal Season … and Labor and Regulatory
matters are stirring throughout the franchise model
inspectors provide instruction only to high levels of franchisee management, and not
front-line employees.
o Including in the franchise agreement and other franchise program documents only
those controls that are required to protect goodwill and standards of the franchise
system.7
Proposed Overtime Exemptions
Current law guarantees overtime pay for employees working in excess of 40 hours per week
if they earn less than a certain threshold. Employees earning more than the threshold may
be exempt from the rules. On June 30, 2015, the Department of Labor (“DOL”) proposed
overtime rules that will substantially increase the minimum salary level needed to classify an
employee as potentially exempt from the overtime pay requirement.8 Under the proposed
rules the minimum salary for a worker to be overtime exempt will rise from $23,660 to
$50,440, and the highly compensated employee exemption will increase from $100,000 per
year to $122,148. In addition, to prevent the exemption levels from becoming outdated, the
DOL is proposing a mechanism that automatically updates the salary and compensation
thresholds on an annual basis.
The Solicitor of Labor, Patricia Smith, mentioned at a recent American Bar Association event
that it is unlikely the final rules on this matter will be issued until late 2016. Of course, the
issuance of the final rules may change depending on the results of the upcoming presidential
election, but there appears to be support in both parties for raising the exemption thresholds
by some amount.
Notwithstanding the politics relating to this matter, if these prospective rules are adopted,
there will be significant ramifications on labor costs and liability risk for employee
misclassifications for both franchisees and franchisors (including franchisors that own and
operate corporate units as well as franchisors that may fall within the scope of the new jointemployer test).9
In addition to evaluating the impact of these proposed rules on franchisors’ annual budgeting
process, franchisors should also begin to assess how to best:
o Calibrate their workforces to comply with these proposed regulations (e.g. identifying
positons that may no longer qualify as exempt, reclassifying employees, etc.).
o Make disclosures in the franchise disclosure document (e.g., Items 1, 7, and 19) to
avoid claims relating to a material omission of fact.
o Inform franchisees and their franchisee advisory councils on how these rules may
impact their operations.
7
This analysis will be a familiar exercise to franchise attorneys who advise on structuring trademark
licensing and distribution arrangements to avoid franchise law liability.
8
The DOL has stated that these rules would extend overtime protections to nearly five million white-collar
workers within the first year of implementation.
9
Although the NLRB’s definition of “joint employer” only applies to the NLRA, recent developments from
government agencies and courts alike signal broadening standards for finding employee status.
3
‘Twas the 2016 Franchise Renewal Season … and Labor and Regulatory
matters are stirring throughout the franchise model
New (and Proposed) Relationship Laws
California amended its franchise relationship law on October 11, 2015, to provide additional
franchisee protections with respect to franchise terminations, renewals, transfers, and
buyback obligations. This amended law took effect on January 1, 2016, and in connection
with the amended law, franchisors with California franchisees will need to update, among
other things, their:
o California Addenda to the franchise disclosure document and franchise agreement to
reflect the changes in law.
o Franchise renewal and transfer policies to account for the new standards.
It is worth noting that, in recent years, there has been a groundswell of debate surrounding
franchise relationship laws, and this debate has rekindled a push for some states to
strengthen existing or pass new franchise relationship laws.10 For example, the states of
New Hampshire, Maine, Massachusetts, and Pennsylvania have introduced bills to create
franchise relationship laws in their respective states. Now, the federal government has gotten
into the “act” with Rep. Keith Ellison introducing the two bills: the Fair Franchise Act of 2015
(“FFA”)11 and the Small Business Administration Franchise Loan Transparency Act of 2015
(“SBAFLTA”)12. The FFA and SBAFLTA are both currently being considered in committee.
Similar to state franchise relationship laws, the FFA seeks to provide franchisees with
greater protections on standard relationship law matters like franchise renewals,
terminations, and assignments. Under the SBAFLTA, franchisors (except those in the
lodging industry) will be required to include additional disclosures in their franchise disclosure
document regarding first-year operations of franchisees in the franchise system. The
SBAFLTA also requires the franchisor to disclose to the franchisee any financial information
pertaining to the performance of any franchise location that the franchisor provides to a
potential lender on behalf of the franchisee-borrower. Although neither the FFA nor
SBAFLTA is expected to pass, these proposed laws do underscore the fact that franchise
relationship laws have become a political issue that will continue to gain momentum as we
move through 2016. Accordingly, these initiatives could have major effects on franchisee
intake processes and contractual requirements.
We will continue to monitor and keep you abreast on these and other franchise matters in
2016.
Authors:
Carlos White
Carlos.White@klgates.com
+1.214.939.5712
10
In general, franchise relationship laws govern the ongoing contractual relationship between the franchisor
and franchisee after the execution of the franchise agreement. Nearly one-third of the states have enacted
some form of a franchise relationship law.
11
H.R. 3196
12
H.R. 3559
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‘Twas the 2016 Franchise Renewal Season … and Labor and Regulatory
matters are stirring throughout the franchise model
John M. Farrell
john.farrell@klgates.com
+1.214.939.5519
Reese Brammell
reese.brammell@klgates.com
+1.214.939.4949
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© 2016 K&L Gates LLP. All Rights Reserved.
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