In 2014, three events combined to produce near-panic among franchisors and franchisees alike by signaling that courts and regulators were going to consider franchisors to be the joint employers of their franchisees’ workers. Subsequent events in 2015 have made these changes a reality.
This disturbing proposition – that a franchisee’s workers can also be the employees of the franchisor – has implications beyond franchising. By legal definition, every franchise is a trademark license. Consequently, any trademark licensee’s employees could potentially be the employees of the brand owner. This concept runs contrary to the fundamental reason that brand owners turn to licensing: to extend brand use while offloading investment costs and labor responsibility to an independent contractor.
This article looks back at the 2014 joint employer legal developments and explores leading cases and regulatory discussions in 2015 and early 2016 which solidify the application of joint employer liability broadly to licensing and other subcontracting relationships beyond the franchise context. The article identifies specific steps that licensors should take to reduce their joint employer legal risks.
The three events converging during a brief four-week window in 2014 involved three well-known brands. On July 29, 2014, the NLRB’s General Counsel announced that it would sue McDonald’s as the joint employer of the franchisees’ workers for numerous unfair labor practices at franchisee-owned restaurants. On August 27, 2014, the Ninth Circuit issued twin decisions holding that thousands of FedEx Ground drivers were FedEx employees, not independent contractors, exposing numerous practices common in licensing arrangements that render franchisors vulnerable to scrutiny. The next day brought good news: the California Supreme Court in Patterson v. Domino’s (2014 Cal. LEXIS 9349 (Aug. 28, 2014)) ruled the franchisor was not responsible for sexual harassment allegedly committed by a franchisee’s supervisor, ruling Domino’s did not automatically become a joint employer nor responsible for a franchisee’s wrongdoing simply by setting brand standards for running franchise stores. So far, decisions citing the celebrated Patterson case, which recognizes a franchisor’s brand justification defense to joint employer liability, have confined Patterson to franchise arrangements; even though the California Supreme Court based the Patterson ruling on the federal Lanham Act, the primary trademark law in the U.S. governing all brand licenses, not just the special subset that qualify as franchises.
On December 19, 2014, the NLRB made good on its promise by filing complaints for numerous unfair labor practices against McDonald’s and its franchisees as joint employers. The NLRB has not yet disclosed any facts about its case against McDonald’s, but under the new joint employer (Browning-Ferris) standard, the details may be unimportant if a brand owner’s right to establish, maintain, and police brand standards is all that it takes to supply indirect control.
Like those of the prior year, the events of 2015 had mixed outcomes. In March 2015, the NLRB blasted franchisor Wendy’s for content in a template employee handbook offered to Wendy’s franchisees, claiming the handbook amounted to unlawful labor practices vis-à-vis Wendy’s franchisees’ workers – even though franchisees were free not to use the handbook. On the flip side, in May 2015, the NLRB’s General Counsel’s office issued an advice memorandum to franchisor Freshii concluding the franchisor was not a joint employer of its franchisees’ employees under the then proposed joint employer test (later adopted in Browning-Ferris), without explaining why Freshii’s brand controls did not amount to indirect employment controls.
Joint employer decisions continue to proliferate with no letup in sight. On August 27, 2015, the NLRB overturned decades of labor policy in the long-awaited Browning-Ferris Industries of California, Inc. decision (362 NLRB No. 186 (Aug. 27, 2015)), a nonfranchise case that significantly broadened the employer test by ruling that a firm’s reserved contract rights that indirectly affect the terms and conditions of subcontracted labor render it a joint employer even if it never actually exercises that control. A stinging dissent criticized the new legal standard as “an analytical grab bag from which any scrap of evidence regarding indirect control or incidental collaboration as to any aspect of work may suffice to prove that multiple entities – whether they number two or two dozen – ‘share or codetermine essential terms and conditions of employment.’” The dissent predicted a sea change for labor relations across numerous business arrangements including franchising. And post-Browning-Ferris, NLRB members publicly admit their decision creates enormous ambiguity over employer status for ubiquitous arrangements like franchising and vendor/client subcontracting relationships.
Meanwhile other government agencies, including the U.S. Department of Labor (DOL) and OSHA, have signaled their plan to follow the new joint employer (Browning-Ferris) standard, focusing on the restaurant, construction, staffing, agricultural, janitorial, and hotel industries, holding franchisors and contractors responsible for wage and hour compliance for workers whose services they benefit from regardless of whether a direct employment relationship exists.
Indeed, on January 20, 2016, the Wage and Hour Division (WHD) of the DOL released an “Administrator’s Interpretation” and related FAQs articulating the DOL’s new analytical framework for increasing aggressive joint employment enforcement against the growing number of businesses in today’s new economy across all industries that rely on contract service providers to perform functions integral to their own business. The DOL’s new explication of joint employment is equally amorphous and arguably broader than the NLRB test and sends a strong warning that the DOL plans to target well-established business practices. As a small comfort to franchisors, the new DOL Interpretation gratuitously remarks, “Indeed, the existence of a franchise relationship, in and of itself, does not create joint employment.” While hardly an exemption for franchisors, at least the DOL acknowledges there is nothing inherently infirm about the franchise method of doing business, or, more broadly, with trademark licensing, that dooms these arrangements to joint employment legal enforcement.
In sum, nothing since August 2014 has produced greater clarity for actions franchisors and licensors can take to predictably reduce their potential joint employer liability.
Labor Regulators Take Center Stage
On October 16, 2015, the NLRB’s general counsel, Richard Griffin, and the administrator of the DOL’s Wage and Hour Division, David Weil, addressed an audience of more than 860 lawyers at the American Bar Association’s annual Forum on Franchising to explain their respective agencies’ policy reasons for holding franchisors and others who use licensee-supplied or subcontracted labor subject to liability as joint employers.
The real concern of these federal regulators is with the accelerating use of licensing, franchising, subcontracting, and other types of business arrangements by firms to outsource to others work formerly done by company employees. The upshot, they say, is that numerous small businesses have sprung up to supply these outsourced workers, “splintering” traditional employer functions across multiple firms, creating, as the government calls it, a fissured workplace (an academic, not legal, term). The proliferation of small firms filling the employer role makes it harder for labor agencies to keep up with compliance audits and for unions to organize workers (for, instead of bargaining with one company, unions must bargain with many).
Federal regulators maintained that joint employer liability, which is not a new legal theory, should be extended to most subcontracting relationships. The chief beneficiary of outsourced labor, they said, is not the direct employer, but the firm relying on another firm’s workers. Thus, their position: The firm that ultimately benefits from the work should be equally responsible for any labor law violations committed by the direct employer. While they find nothing wrong with a company’s desire to concentrate on its own core competencies, they pointed to research showing that outsourcing labor results in lower wages for outsourced workers and more labor law violations by those workers’ W-2 (direct) employers. Research specifically of franchise arrangements showed a significantly higher rate of labor law violations at franchisee-owned businesses than at franchisor-owned locations. Optimizing their agency’s limited resources, federal regulators said they were targeting industries with the highest noncompliance rates where workers were least likely to complain: Franchisors are in their crosshairs.
While acknowledging a brand owner’s right to ensure uniformity of products and services associated with its brand, they highlighted several practices they believe exceed a brand justification and may create joint employment liability: (i) a franchisor’s ownership or control of the real estate where licensees operate, which allows the franchisor ultimately to control who has access rights (a relevant factor when it comes to access by union organizers); (ii) use of recent technology that allows franchisors to monitor the performance of franchisee employees and guide franchisees to make adjustments to improve their employees’ results; and (iii) requiring franchisees to add the franchisor as another insured on employer liability or workers compensation insurance policies. “The devil is in the details,” they admitted, without shedding any light on when brand controls are just brand controls and do not indirectly affect a franchisee’s workers.
The regulators insisted that, given the state of commerce today, the old joint employer test must give way to a broader joint employer standard. They also implored franchisors to collaborate with law enforcers to improve franchisee legal compliance without (ironically) considering whether collaboration might require the kind of behavior (control) that would increase a franchisor’s joint employer exposure under the broadened legal test. Department of Labor Wage and Hour Division director David Weil cited the 2013 collaboration between the Wage and Hour Division and Subway, in which the franchisor escaped joint employer liability by agreeing to educate its franchisees on labor compliance after federal agents uncovered widespread labor law violations at franchisee-owned Subway restaurants. Many in the audience wondered how their franchisor clients might be able to line up for treatment similar to Subway’s if it meant their clients would be spared financial exposure as joint employers.
While no bright lines were laid, the federal regulators’ candid discussion was informative in offering insight into the direction regulators may take with law enforcement policies. Coming on the heels of their public comments, the January 20, 2016, DOL Administrator’s Interpretation is no surprise.
Contractors, Licensees, and Franchisees
Every trademark license involves two actors: a brand owner and an authorized brand user. Until federal labor regulators creatively redefined who is an employer and who an employee by finding modern workplaces to be fissured, licensors and licensees alike assumed that licensees were independent contractors, not employees. This is especially true of franchising, which attracts franchisees with the lure of being one’s own boss by owning one’s own business tethered by a license to another company’s brand. Browning-Ferris’s amorphous “indirect control” legal standard puts not only franchisors but all licensors in the crosshairs of federal and state regulators, because the right to impose brand standards may be enough to hold the licensor responsible for a licensee’s violation of workplace laws vis-à-vis the licensee’s employees. The DOL’s focus on economic dependence, as opposed to control, in determining if a joint employment relationship is just as vague and problematic as the NLRB’s “indirect control” test.
Here lies the crux of regulators’ misunderstanding: The federal Lanham Act requires licensors to impose quality controls on their licensees to guaranty that the public will recognize a licensee’s business as an authorized source of the specific goods and services that the licensor (and only the licensor) decides may be associated with its brand. A licensor that fails to impose quality controls over its licensees’ brand use risks losing its trademark rights. This is decades-old, well-settled law. As the Lanham Act recognizes trademark licenses as a valid means for extending brand use, logically, then, a licensor’s right to impose quality control standards must be legally distinguishable from an employer’s right to dictate workplace rules. All trademark licenses join licensor and licensee at the hip by virtue of their sharing a common brand identity.
But in the modern so-called fissured workplace world, regulation by the federal Lanham Act may be a curse. While the California Supreme Court’s Patterson decision said the Lanham Act justifies a licensor’s right to impose operating standards on its franchisees without thereby becoming their employees’ employer, recent joint employer decisions reveal the struggle of decision makers in differentiating permissible Lanham Act quality controls from top-down employer controls. The Browning-Ferris majority flatly refused to recognize the Lanham Act’s role in allowing a hiring firm to set operating standards for temporary workers. (It is entirely possible that the Board’s decision in Browning-Ferris will be overturned in the courts, but this could be years away.) Meanwhile, the contradictory outcomes in Patterson and Browning-Ferris cannot be reconciled by the fact that Patterson involved a franchise system, a subset of general licenses; for one need only look at the NLRB’s attack on McDonald’s to realize that the franchise subset of general licenses offers brand owners no protection against potential joint employer risk.
The indirect control test advanced by Browning-Ferris is highly problematic. Not only is it too nebulous, but it also fails to accommodate the Lanham Act’s constraint that trademark owners impose quality controls on their licensees’ activities. The Browning-Ferris dissent called the new standard “an analytical grab bag” because a case can always be made that quality controls indirectly influence how a licensee directs its employees’ on-the-job performance. Indeed, federal regulators admit their new test is ambiguous; it rests on devilish details for deciphering when a trademark license does and does not expose a licensor to joint employer liability. Something is fundamentally wrong with a legal test that lacks practical boundaries, that does not inform licensors in any predictable, dependable way when and how they should adjust their quality controls to avoid crossing into joint employer territory.
Likewise, the DOL’s joint employment explanation is equally problematic. Every trademark licensee has some degree of economic dependence on the trademark licensor that supplies it with a brand name and identity, features that are often the most essential to a licensee’s financial success. The license, alone, cannot supply the grist for joint employment since it would mean all trademark licenses are joint employment arrangements, an outcome the DOL disclaims it intends (referencing franchising in particular). If the indirect control test is an analytical grab bag, so too is the DOL’s economic dependence standard.
Licensors face unsettling times ahead. This makes it imperative that companies that license their brands heed where their brand controls may exceed a strict brand purpose and loosen the reigns on their licensees, in order to accentuate a licensee’s freedom to determine the means to accomplish outcomes in running what both parties regard as the licensee’s independent business.
Here and Now
What practical steps should licensors take to reduce their legal risk of being found to be a joint employer of their licensees’ workers? I asked the same question a year ago and revisit my advice in light of events that have transpired since.
In describing my 12 tips for reducing joint employer legal risks, I use “license” and “franchise” interchangeably. This is not because franchises and licenses are legally indistinguishable: Franchises, as noted, are a special subset of licenses, and numerous nonfranchise licenses operate in today’s modern economy legitimately free of laws regulating franchises. In regard to trademarks, however, franchises and licenses are the same. Both implicate the same Lanham Act precepts: the source of a franchisor’s right to impose operating standards on franchisees is the Lanham Act’s requirement that a trademark licensor impose quality controls over its licensees’ activities or risk losing trademark rights. Consequently, by using “license” and “franchise” interchangeably, I mean to underscore that both legal relationships are rooted in the Lanham Act. Readers should read “licensor” to include franchisors and “licensee” to include “franchisee,” and vice-versa, as these 12 tips apply to licensing arrangements generally.
1. Employee Handbooks: In March 2015, the NLRB’s General Counsel issued guidance about lawful employee handbook policies that it says will not expose a company to liability for unfair labor practices. Licensors may regard this development as a sign that they may now safely offer their licensees a sample employee handbook without increasing their own joint employer risks. I continue to recommend that licensors resist the urge to meddle with a franchisee’s employer affairs by supplying franchisees with a sample employee handbook, even one that stays within the NLRB’s so-called safety zone. This advice applies even if a licensor allows its franchisees to modify the template or encourages franchisees to take the template to their lawyer to complete and do not complete it for, or with, them. In a joint employer case, providing a template employee manual remains a bad fact and bad facts make for bad legal outcomes (basically, Murphy’s Law rules).
Instead, the better choice for licensors that wish to help their licensees ensure their own compliance with local labor laws is to encourage licensees to retain the services of qualified labor relations/human resources consultants or other third-party providers that offer payroll and outsourced employer functions. Many reliable companies offer these services (indeed, outsourced HR compliance is now a cottage industry). It is fine to recommend a particular service provider, but do not limit licensee options or insist that your franchisees use a preferred HR firm. If you wish to offer centralized payroll, administrative, or accounting services to franchisees, offer them as optional programs and allow franchisees to select their own third-party choices as well. You should not accept any revenue from a recommended or approved service provider based on the revenue the provider earns from doing business with your franchisees. This also would be an unhelpful fact in a case probing your status as the joint employer of your franchisees’ employees. Finally, do not impose repercussions if a licensee chooses not to use either the third-party service provider you recommend or any one at all.
2. Essential Employment Decisions: It remains as important as ever to stay out of your licensees’ essential employment decisions, such as hiring, firing, disciplining, setting wages, and establishing work conditions, as these areas remain the epicenter of joint employer legal risk. Consequently, do not reward franchisees who follow recommended HR policies or penalize those who do not. Do not screen or approve your licensees’ hiring decisions even when it comes to their management hires, and do not threaten to terminate a franchise agreement unless the franchisee fires, disciplines, or reassigns a particular employee. For your own protection, I continue to recommend against providing licensees with employee applications and other employee forms – suitable templates are readily available from Internet websites and outsourced HR service providers. It is important not to offer to help licensees with their hiring decisions or offer to serve as a sounding board for your licensees’ employees to air their grievances regarding their direct employer. If a licensee’s employee informs you of the breaching of a labor or employment law or other alleged violation, forward the grievance to the licensee to handle. Train your franchisees to explain to their workers that they have one boss and work only for the franchisee. Easy opportunities to communicate this message include requiring franchisees to place a prominent, boldface statement at the top of their employee applications that the applicant is applying to work for the franchisee, not the franchisor; and to display their entire business entity’s name, not just the licensed brand, on franchisee payroll checks.
3. Work Schedules: It has never been okay for licensors to set specific work schedules for licensees’ workers; licensees must be left to do this on their own. It is acceptable to tell franchisees what jobs must be done, but you may not tell franchisees who must do what. While it is permissible to require licensees to have a responsible contact person on-site at all times during business hours, a duty may be expressed by job title, not by employee name. Likewise, it is acceptable to make recommendations about optimal staffing, but you may not impose minimum staff size requirements on licensees. Since most leases set minimum hours of work and limit dates of closure, there is no reason licensors must regulate these subjects at all. If the excuse for setting minimum hours is the concern that licensees will dabble and not exert their best efforts, this can be addressed by adding minimum performance requirements or an express best efforts duty to the franchise agreement. Respect that licensees have their own overhead to pay and their own profit motives that should drive their work style and effort level.
4. Mandatory POS Systems: Licensors often require licensees to use specific software applications (e.g., point-of-sale applications) to collect and report sales data and other performance metrics in real time, and this practice remains acceptable. However, many POS systems come bundled with software features that help users manage their workforce, perform labor scheduling and payroll functions, and measure labor performance to expose suboptimal outcomes. Software developers design these technology tools for a broad-based audience that includes chain store operations (where all outlets are owned by one company). The NLRB has specifically cited labor scheduling technology tools as evidence of a licensor’s involvement in a licensee’s employer duties, even when use of the labor scheduling features is optional. To minimize joint employer legal risks, if you require your licensees to use particular software applications that might help licensees manage their workforce but that come bundled with other applications, direct the technology provider to disable all applications that perform labor functions. You may give licensees discretion to turn optional labor technology tools back on at their election. This option should not expose a licensor to joint employer liability as long as POS technology is delivered with these features disabled.
5. Training: Licensors may set minimum education, experience, and other prerequisites for a licensee’s workers, but licensees are ultimately responsible for training their workforce and determining if the licensor’s standards are met. It is acceptable to require that franchisee workers demonstrate minimum competency before you will recognize them as supervisors or management-level employees, but establish these training requirements by job title, not by singling employees out by name. As disconcerting as it may be for franchisors to stay out of their licensees’ employee training, until joint employer law becomes more settled, it may be advisable to leave optional the completion of franchisor-run training programs for workers below the franchisee-owner or senior-manager level. Instead, add train-the-trainer programs to your training curriculum so that those licensee representatives who complete your training programs are competent to teach others in their organization on-the-job skills. While it is acceptable to require that franchisee workers participate in some type of “opening training” or instruction on the POS system to ensure smooth operation of the franchise business on its opening day, limit opening training to matters that you can directly connect to implementing brand standards. It is important not to insist that particular employees complete remedial training. Explain to franchisees that if their employees execute brand standards poorly, the franchisee, as employer, will suffer the consequences. In other words, let breach of the franchise agreement motivate franchisees not to hire unqualified persons or assign untrained employees to work.
6. Job Postings: Licensors may be tempted to use their website to post job openings at licensee-owned businesses, or use a private licensee-accessible intranet to post internal job opportunities that enable an employee of one franchised outlet to apply for work at another franchised outlet or at a company-owned outlet. Each service, however, implicates a licensor directly in a licensee’s hiring functions. It is fine to post job opportunities at your own company-owned locations, but do not extend this service to franchisees even if it might benefit them. Instead, allow franchisees to organize this on their own or through their franchisee association.
7. Operating Manuals and Other Communications: Operating manuals, training materials, recruiting materials, and other communications directed to prospective and existing licensees can be unsuspecting sources of bad evidence in a joint employer case, as they are often laden with language that reads like “top down” controls similar to the way in which a supervisor might address subordinate employees. Scour these materials for tone. Avoid expressing operating standards in a way that makes them sound like workplace rules (e.g., “No employee dressed in improper attire may interact with customers.”). Instead, emphasize brand justifications for each mandatory standard or requirement. Also evaluate practices that are not essential to the brand proposition and either eliminate them or consider making them optional. While it is acceptable to highlight optional “best practices,” do not undermine their optional status by threatening to terminate a licensee that fails to implement the best practices. Keep in mind that it is not enough to fix your manuals and written communications; these must also be consistent with your everyday practices. Offer your field team communications training and periodically get into the field yourself to observe your team’s interactions with licensees and the licensees’ staff. Ensure that their communication style is consistent with your brand message and that they avoid body language or tone of voice that might be unduly “top-down.” Remember: You are responsible for your field staff’s interactions, as they are your employees. What they say and the attitude they display in communicating the message will be attributed to you. In conversations and especially in any written communications with franchisees, teach your field staff to emphasize the franchisee’s independence and entrepreneurial opportunities and stress that franchisees, alone, bear the risks and receive the rewards of their business.
8. Reviews and Inspections: Recent legal developments do not challenge a franchisor’s right to conduct reviews and inspections of franchisee operations as brand justified; but if you see activities that violate brand standards, do not direct your franchisee’s employees to make on-the-job corrections. Instead, notify the licensee of the inspection results and allow the licensee to determine the best means for implementing and supervising corrections. Make it clear to licensees that your reviews and inspections of their operations are not in lieu of their own duty to supervise their own operations/workers.
9. Pricing Controls: Many companies differentiate themselves to consumers through pricing, something harder to accomplish in an independently owned licensee network. To ensure that licensees communicate the identical pricing message, companies will impose pricing controls (e.g., minimum and maximum resale prices) on their licensees to the extent allowed by law. However, pricing controls directly influence a franchisee’s bottom-line decisions about critical cost centers like labor, and, since the freedom to set prices is an important attribute of independence, pricing controls can be a bad fact in a joint employer case. Consider if you can accomplish your consumer messaging objectives without removing a licensee’s discretion to set its own prices; instead, use marketing dollars, even a network-wide marketing fund, to engage in price-specific limited-time advertising “at participating locations.” Giving franchisees the freedom to set their own prices but promoting the brand to consumers with price-specific advertising, should influence licensees to see the benefit of being a “participating location” and adopt advertised prices as their own.
10. Inventory Levels, Insurance, and Repairs: Allow licensees to determine their own inventory levels and do not set specific minimums, since these rules indirectly influence labor size and staffing decisions. If you retain the right to buy insurance or make repairs at licensee-owned locations, do not automatically handle these matters but make sure the license agreement keeps these rights optional. It is fine to require a licensee to name you as a coinsured on property damage and general liability insurance, but federal regulators regard employment insurance provisions that name a licensor as an additional insured as evidence that a licensor regards itself as a co-employer of the licensee’s employees.
11. Employee Uniforms: Requiring your licensees’ employees to wear specific uniforms while on the job is clearly brand justified, much like requiring licensees to place certain signs inside and outside of their business premises to identify their affiliation as an authorized source of your goods and services. However, supplying licensees with their employees’ uniforms or even providing specifications for what they must look like are often cited as facts proving the licensor is a joint employer, exerting control over an essential employer decision. Instead, consider offering franchisees a menu of uniforms that vary by color or style and letting franchisees pick from the menu. While the franchisees’ choices may be limited, this still affords you a chance to show that the franchisees exercise some independent discretion in picking their employees’ uniforms.
12. Get Smart: Know the Law and Bolster Your Protections: The painful lesson of the last year is that uncertainty over a licensee’s contractor status is as confusing as ever. Companies that rely on licensees as their brand ambassadors need smart advisors who keep up with rapidly changing legal developments to translate nuanced joint employer legal standards into practical, sensible advice. Joint employer cases are highly fact specific; they are judged against a variety of common-law and statutory tests of employer or employee with no “one rule fits all.” Depending on the allegations, different legal tests may be implicated, each with different criteria, and smart advisors must know them all. A franchisor operating in multiple states may face different liability risks across the country despite having uniform contracts and comparable interactions with all franchisees. To properly defend yourself, you’ll need a legal team that thoroughly understands the numerous employment status tests that potentially apply to your licensing arrangements, as these tests are rearticulated ever-so-subtly in court and agency decisions.
Because joint employer liability promises to remain a litigation hotbed for the foreseeable future, ask your legal counsel now to review your license agreements to determine if your licensees’ indemnity duty is broad enough to cover joint employer liability; examine your own insurance policies to determine if coverage exists in case you get sued as a joint employer; and, finally, confirm that your licensees have insurance policies in place that cover their own joint employer claims.