Franchise 101: Hot Doggin’ Franchisee Sales Pitches; and Un-Merry Maids

February 2019

Franchisor 101: Hot Doggin’ Franchisee Sales Pitches

Hot dog franchisor, Charlie Graingers, was unable to obtain dismissal of a federal lawsuit brought by franchisees alleging fraud, misrepresentation and breach of fiduciary duty. The franchisor claimed that a general release signed by the franchisees released it from the claims. However, the court ruled that the franchisees presented sufficient facts to show they might have been defrauded into signing the release. The franchisees received a Franchise Disclosure Document that said they would be provided various resources and operational support. The franchisees had written statements from the franchisor saying the franchise was a low-cost, low-overhead foolproof restaurant concept and was “guaranteed to be successful.” The franchisor made other claims in writing about its restaurant experience and franchise commitments. The court found that the franchisees sufficiently alleged misrepresentations relating to the time, place and content of the claimed fraud. In addition, the franchisees plead sufficient facts to show that they reasonably relied on the franchisor’s claims since they had no other way to evaluate the prospective business. The court also found that the franchisees sufficiently plead that the franchisor had a fiduciary duty. This was based on the FTC’s Franchise Rule, which requires franchisors to make complete, truthful disclosures to franchisees due to the imbalance of power between the parties. This case is a lesson to franchisors, and their sales teams, that a general release is not always protection, especially if a franchisor makes untrue claims in the FDD or outlandish representations outside the FDD, to induce a sale. Representations made in the FDD about services to prospective franchisees need to be based on reality. Franchisors and their sales teams should discuss best practices and compliant sales practices with counsel before selling franchises to avoid getting into situations like this one. See:  Trident Atlanta v. Charlie Graingers, E.D. N.C.

Franchisee 101: Un-Merry Maids

Employees of a Merry Maids home cleaning franchise brought a class action against the franchisee, the franchisor, its owner and affiliated entities claiming they were joint employers. A California federal district court granted the franchisor’s motion for summary judgment on joint employer liability. However, the court allowed the claims to go forward under a theory called “ostensible agency.” This theory involves the question of whether or not the plaintiffs reasonably believed they worked for the franchisor. The franchisee’s pay structure is based on a percentage system that compensates workers by the number of houses they clean. The employees claimed this structure violated California labor law. The employees alleged they did not receive minimum wage, overtime, or proper rest or meal breaks. The franchisor countered that it could not be liable because the franchisee, not the franchisor, was their employer. Based on franchise joint employer precedent, the court explained that a franchisor will be liable as a joint employer if it retained or assumed the right of general control over relevant day-to-day operations at its franchise locations. The court found the alleged control, or right to control, in this case, which was pursuant to the franchise agreement and operations manual, was not enough to give the franchisor direct control over the employees’ hours, wages or working conditions. Moreover, the franchisee’s co-owner stated he never read the operations manual and was solely responsible for day-to-day management of employees. Further, the compensation scheme that was the basis of the employees’ labor allegations was developed by the franchisee outside of the system and was not part of the Merry Maids’ operations manual. Next, the court analyzed the ostensible agency claim. In California, ostensible agency exists where: (1) a person deals with an agent with reasonable belief in the agent’s authority; (2) that belief is due to some act or neglect of the claimed principal, and (3) the relying party is not negligent. Here, the employees claimed they had a reasonable belief that the franchisor was their employer based on the “uniform system of branding, trademark and promotion.” They cited evidence that the franchisor was also in the city of Fresno where the franchises were located and the employees worked and the employee handbooks, pay stubs, training materials and uniforms all said “Merry Maids.” The franchisor countered by explaining that the handbooks given to employees read “Merry Maids of Fresno” and listed “Jeff and Jason Skadburg” as owners. In addition, the employees’ declarations in support of their class action stated that their work experience led them to conclude they were employed by the franchisee. Nevertheless, relying on franchisor joint employer ostensible agency case law, the court concluded that there was a genuine dispute about reasonableness of the employees’ beliefs that the franchisee was acting as an agent for Merry Maids. Franchisees should make sure to comply with labor and employment laws in their state, which was the basis of the employees’ wage-hour claims. This is a case that will interest both franchisees and franchisors as it progresses. Details: Cruz v. MM879, Inc., E.D. Cal.