Rulings Pose Obstacles to Franchisors Seeking to Stop Wrongful Trademark Use

Trademark infringementA series of recent Circuit Court decisions has made it more difficult for a franchisor to enjoin a former franchisee from using the franchisor’s federally registered trademarks after the franchise agreement has been terminated. I recently authored an article for the New Jersey Lawyer entitled, “Will New Court Rulings Make it Harder for Franchisors to Rescue a Hostage Trademark?“, discussing the impact of these decisions. Since its publication, I have received a number of comments from practitioners in the area, most of whom represent franchisors. All are completely frustrated with the new hurdles imposed by these decisions on efforts to obtain injunctive relief for trademark infringement.

Most jurisdictions require a franchisor plaintiff to establish some combination of the following elements:

  1. a likelihood of success on the merits,
  2. a likelihood of irreparable harm in the absence of an injunction,
  3. the balance of equities favors plaintiff, and
  4. a preliminary injunction is in the public interest.

Historically, once a franchisor demonstrated that it was likely to succeed on the merits of the case, a relatively easy task in a holdover usage case, irreparable harm was presumed.

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What’s an FPR?

financial performance representationsEvery franchise buyer wants to know how much money he or she can make from the franchised business.  Franchise sellers naturally want to answer that question in order to make the sale.  But many say that they cannot give figures to prospective franchisees, and they suggest that the prospects talk to other franchisees whose contact information is typically listed in an exhibit to the franchise disclosure document (FDD).

The fact is that franchise sellers may indeed provide information regarding earnings, but only if the franchisor discloses “financial performance representations” (or FPRs) in Item 19 of the FDD.  If no FPRs appear in Item 19, then the seller must say nothing about prospective sales or earnings.  To do so would violate the Federal Trade Commission’s Franchise Rule and potentially give rise to liability under Section 5 of the FTC Act as false or deceptive advertising.  This requirement applies to franchise brokers as well as franchisors.

The term “financial performance representations” includes essentially any indication of “a specific level or range of actual or potential sales, income, gross profits, or net profits.”  Item 19 may state (using the required language) that the franchisor does not provide any financial performance representation.  But the FTC encourages franchisors to make FPRs in Item 19.

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State Regulation of Biz Ops

breach-notification-laws26 states in the U.S. have laws that govern the sale of business opportunities, or “biz ops”. California and some other states use the term “seller assisted marketing plan” instead of business opportunity, but the substance is the same. At the federal level, the Federal Trade Commission (FTC) regulates the sale of biz ops, as explained in an earlier post. The FTC biz op rule does not preempt the state biz op laws, but allows the states to impose their own requirements.

Like the franchise laws, the business opportunity laws contain disclosure requirements and many require a filing. Unlike in franchising, though, there is no uniformity among the various biz op laws. These laws define a business opportunity in various ways and impose differing obligations on biz op sellers. Moreover, if a biz op offering subject to the FTC rule is also subject to the disclosure requirements of a prospective buyer’s state, the seller may be required to deliver to the buyer both the federal and state disclosure documents.

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What’s a Biz Op?

FTC BuildingWhat’s a business opportunity or, as we often say, a “biz op”? The Federal Trade Commission (FTC) regulates biz op sales under its authority to regulate unfair or deceptive trade practices. The FTC’s definition of a business opportunity differs from the definitions under the laws of the 26 states that regulate biz ops, and the states themselves have varying definitions. These laws impose anti-fraud obligations on the sellers of biz ops, and some require registration and disclosure. This post covers the FTC biz op rule (16 CFR Part 437). A separate post will address state biz op laws.

The FTC began regulating the sale of biz ops throughout the U.S. in 1979 with the issuance of a trade regulation rule on franchising and business opportunities. In 1995, the FTC began a regulatory review of the 1979 rule. That review led to a new FTC franchise rule in 2007 and a separate new FTC business opportunity rule in 2012 in light of the significant differences between franchises and biz ops. The FTC staff report of November 8, 2010, noted that “franchises typically are expensive and involve complex contractual licensing relationships, while business opportunity sales are often less costly, involving simple purchase agreements that pose less of a financial risk to purchasers.” Accordingly, biz op offerings are subject to less imposing and costly compliance requirements.

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California Toughens Its Franchise Relationship Law

California Franchise LawsCalifornia franchisees will soon have additional statutory protections against a franchisor’s termination or non-renewal of the franchise without good cause, and new protections against the franchisor’s refusal to approve the transfer of the franchise without good cause. On October 11, 2015, Governor Jerry Brown signed into law Assembly Bill 525, substantially amending the California Franchise Relations Act (CFRA), which has been in effect in California since 1980. The revised CFRA applies to franchise agreements entered into or renewed on or after January 1, 2016, and to franchises of an indefinite duration that may be terminated without cause. (Section 20041 of the California Business and Professional Code (BPC).) This legislation is a modified version of a similar bill that Governor Jerry Brown vetoed last year.

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The Contours of a Franchisor’s Vicarious Liability

lind-v-dominosIn a ruling that reflects a clear understanding of the distinction between the roles of the franchisor and franchisee, the Appeals Court of Massachusetts recently held that Domino’s was not vicariously liable for the acts of its franchisee that resulted in the death of the franchisee’s delivery driver.  LeClairRyan represented the franchisor in the case, Lind v. Domino’s Pizza, LLC, 87 Mass. App. Ct. 650 (July 29, 2015).

The facts of the case are tragic.  Alex Morales, a customer, telephoned the store around 2:30 a.m. to order a pizza.  Morales killed the delivery driver, Corey Lind, and was later convicted of murder in the first degree, armed robbery and kidnapping.  Corey’s parents brought a wrongful death action against Domino’s.  The trial court granted summary judgment in favor of Domino’s, and the plaintiffs appealed.

The Appeals Court held that franchisor-imposed controls imposed to protect the franchisor’s trademarks do not create an agency relationship between the franchisor and franchisee that would lead to vicarious liability.  A franchisor is vicariously liable for the conduct of its franchisee only where the franchisor controls or has a right to control the specific policy or practice resulting in harm to the plaintiff.  In this case, the court held that “the plaintiffs failed to establish a genuine issue of fact whether Domino’s either controlled or had the right to control the specific policy or practice that resulted in harm to Corey.”

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Federal Labor Officials Step Into the Lion’s Den

Lions DenTwo top federal labor officials engaged in a spirited dialog with two franchise lawyer moderators at the American Bar Association’s annual Forum on Franchising in New Orleans on October 16.  The topic: whether the National Labor Relations Board (NLRB) will fundamentally change the franchise industry.

The program had dramatic potential.  NLRB General Counsel Richard Griffin and Dr. David Weil, Administrator of the Wage & Hour Division of the U.S. Department of Labor, faced a lion’s den of more than 800 lawyers representing franchisors and franchisees, none of whom want to see franchisors deemed to be joint employers of franchisee employees.

Yet the presentation was substantive and enlightening.  The labor officials came across as intelligent, thoughtful, articulate and intent on enforcing the law.  They were not doctrinaire, and they even expressed their appreciation for franchising as a business model.  The program gave the officials an opportunity to explain why joint employment is an important tool in general and in the franchise context. 

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Franchisors Vulnerable to Unfair Labor Practice Allegations

franchisor joint employer liabilityAs expected, the National Labor Relations Board (NLRB) recently broadened the definition of joint employer.  In a 3-2 decision, the NLRB adopted the joint employment standard recommended by the NLRB’s General Counsel.  The ruling was issued August 27, 2015, in the case of Browning-Ferris Industries of California, Inc. (BFI).

The Browning-Ferris case did not involve franchising, but it will have an important impact on franchising.  Franchisors are now more likely to be deemed joint employers of their franchisees’ employees for purposes of compliance with the National Labor Relations Act.  This is a shock to the franchise industry.

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Reflections on the Origins of the NY Franchise Act

new-york-franchise-lawsI recently had occasion to review the legislative history of the New York Franchise Sales Act (NYFSA)–click here to see for yourself. Here are a few of my reflections.

The NYFSA was enacted into law in 1980 and became effective January 1, 1981. At that time, Robert Abrams was the NY Attorney General and Hugh Carey was the Governor. Abrams supported the bill and Carey signed it into law.

In recommending passage of the bill, Attorney General Abrams cited the numerous complaints of franchise fraud and abuse that the department of law had received. More than 13,000 New Yorkers had been victimized by franchise fraud, with documented losses exceeding $38 million.

The Attorney General’s Office communications constitute the only supporting documentation in the legislative history. Others who expressed a position opposed enactment of the law. Opponents included the International Franchise Association, Pizza Hut, Days Inns, Sir Speedy and others.

Arthur Gunther, then President of Pizza Hut, urged Governor Carey to veto the legislation to avoid “bureaucratic overkill”. He wrote that the bill was totally unnecessary since the new FTC Rule had become effective just months earlier, on October 21, 1979.

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What’s an Exclusive Territory?

exclusive-territoryThe extent of a franchisee’s territorial rights is the subject of Item 12 of the franchise disclosure document (FDD). One of the questions franchisors must address in Item 12 is whether the territory is exclusive.

If the territory is not exclusive, the Federal Trade Commission’s trade regulation rule on franchising (the FTC Rule) requires that Item 12 contain this statement:

You will not receive an exclusive territory. You may face competition from other franchisees, from outlets that we own, or from other channels of distribution or competitive brands that we control.

So what does “exclusive territory” mean?

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