Franchise Lawyer Blog

Franchisors and franchisees each have a vested interest in determining the prices of the goods or services being sold at franchised locations. These concerns and the manner in which they are addressed frequently bring the franchise world into contact with the labyrinthian world of legal antitrust restrictions.

One basic form of price control is minimum retail prices; that is, the franchisor and/or its suppliers establishing a pricing floor beneath which their products cannot be sold. The motivations behind this device are many: to maximize profits; to prevent dilution of the value of the good and/or services; to encourage competition, etc. For 96 years, vertical minimum price agreements; i.e., agreements running up and down from franchisees/retailers to manufacturers/distributors/franchisors, were considered per se illegal under Section 1 of the Sherman Act as anti-competitive price fixing. Per se illegality means they are automatically illegal regardless of the circumstances.

Then in 2007 came the case now referred to as Leegin. In Leegin, the United States Supreme Court ruled that vertical price restraints should hereafter be judged by "the rule of reason," overruling the 1911 case of Dr. Miles Medical Co. v. John D. Park & Sons Co. Justice Anthony Kennedy's majority opinion held that "Dr. Miles had erred by treating vertical minimum price agreements between manufacturers and retailers as analogous to horizontal price-fixing agreements between sellers."

Since then, commentators have been divided on the impact of Leegin. While the decision has been recognized as affording companies, including franchisors, greater flexibility in imposing minimum retail price maintenance programs, it has been noted that it is not clear how state laws will be affected by the federal decision or even if the states will follow it at all. Many states have laws as restrictive as the Sherman Act but not identical to it.Only time will tell how the individual states continue to enforce their laws intended to prevent anti-competitive behaviour.

On the other hand, some business commentators have noted a willingness on the part of manufacturers, and presumably franchisors and their suppliers, to "embrace their newfound pricing power." Some of have expressed concern that this will feed inflation.

The effect of the case will bear close scrutiny for some time. Congress continues to look at the effect of the Leegin decision on consumer prices. Many legal commentators warn that determining that vertical minimum price maintenance is not per se illegal is not the same thing as saying that it is per se legal; in other words, the rule of reason analysis can still find that the conduct violates the Sherman Act. For that reason, franchisors and their manufacturers and suppliers are urged to implement any such pricing structures with a carefully thought out plan that takes into account the specifics of the Supreme Court's decision.

Not all franchises succeed and some industries are inherently riskier than others. Perhaps none is more risky than start-up restaurants. Although the risks and obstacles to success in these types of ventures are well known, it is human nature to look for someone (other than yourself) to blame when failure occurs. In the franchising universe, sometimes the franchisor is to blame. But not always.

A United States District Court in Georgia has ruled in favor of a franchisor, Raving Brands, in a lawsuit filed against it last year by a group of franchisees. The franchisees had each claimed fraud and misrepresentations against the former franchisor in the purchase of a Mama Fu franchise. Mama Fu's is a restaurant serving pan-Asian cuisine.

The federal judge ruled that there are natural risks associated with the acquisition of a franchise, particularly a restaurant, and that it was these economic conditions that caused the failure of the franchisees' locations, not any misrepresentations by the franchisor. The court found that the franchisor had clear intentions of building a chain as successful as their hugely popular Moe's Southwest Grill. But various conditions prevented that from happening. Franchisee lawyers take issue with the decision, noting that clear evidence was presented demonstrating some misrepresentations in the sale of the concept.

Raving Brands has since sold the system to Murphy Adams Restaurant Group. That franchisor continues to push the sale of updated models of its franchise.

A recent news item reported that the Burger King franchisor entered into a multi-million dollar settlement for a personal injury suit. Why was the Burger King franchisor ultimately liable for an accident that took place on the premises of one of its franchisees? The legal principles affecting that question should be of great concern to any franchisor.

The basis for this claim and others like it rest in a variety of legal concepts founded on the notion of vicarious liability; that is, liability imposed upon a party because of the actions of another. The claims are usually based on the doctrine of respondeat superior, which provides that the franchisor, as master, is liable for the acts of its servants and agents, in this case the franchisee. Other cases present the argument as one of "ostensible agency," the franchisee effectively acts as agent on behalf of the franchisor and so any liability created by the franchisee becomes the franchisor's.

The key element to determine is the degree of control; whether the franchisor had the right to control the conduct of the franchisee that caused the injury. Ironically, retaining control over the business environment is typically viewed as being of vital importance to a franchisor's business success. In this context, control becomes a double-edged sword.

It has been recommended that this exposure can be reduced by including disclaimers and waivers of control within the franchise agreement. Too often, the issue of franchisor liability for franchisee actions are covered in standardized clauses covering liability and indemnification that are inserted into franchise agreements without much thought. However, a carefully written agreement will seek to retain control in certain vital areas (financial reporting, for instance), while disclaiming or waiving any degree of control over certain day to day operations of a franchisee that might give rise to liability.