March 18, 2016

Do Fee Payments Make Uber Drivers Franchisees?

Brian H. Cole, Law Offices of Brian H. Cole

Are drivers for Uber Technologies, Inc. (Uber) employees of Uber? And if not, might they be deemed franchisees? These questions have drawn considerable attention, both in courtrooms and elsewhere.

Trial is set to begin on June 20, 2016, in a class action lawsuit asserting that Uber drivers are indeed employees. See O’Connor v. Uber Technologies Inc., ND Cal., Case No. CV 13-3826-EMC, filed Aug. 16, 2013. The O’Connor case was certified as a class for all individual Uber drivers in California between 2009 and June 2014.

Meanwhile, on June 3, 2015, the California Labor Commissioner issued a ruling in Berwick v. Uber Technologies, Inc., Case No. 11-46739-EK, holding that the plaintiff, an Uber driver, was an employee of Uber and entitled to reimbursement of her expenses. (She had already received her “wages.”) Uber has appealed that case to the California Superior Court for the County of San Francisco. Case No. CGC-15-546378, filed June 15, 2015.

If Uber succeeds in showing that its drivers are not employees, does Uber risk a claim that its drivers are franchisees, potentially subjecting the company to liability and civil and criminal penalties for failure to comply with franchise disclosure and relationship laws? Under state franchise relationship statutes that do not require a franchise fee—namely, the laws of Arkansas, Connecticut, Missouri, New Jersey, Rhode Island, and Wisconsin—it is possible that Uber’s drivers will be found to be franchisees. Under the FTC Rule and state disclosure and relationship statutes that do require payment of a franchise fee, the tentative answer appears to be “no,” given that drivers do not pay a franchise fee to Uber.

Although the precise language of federal and state definitions of “franchises” varies slightly, the definitions typically include three elements: a trademark, a community of interest/marketing plan, and a franchise fee. (The franchise relationship statute definitions in Arkansas, Connecticut, Missouri, New Jersey, Rhode Island, and Wisconsin omit the third element.)

The relationship between Uber and its drivers likely satisfies the first two elements. The drivers’ activities are likely identified by or associated with Uber’s trademark (satisfying the first element). And Uber likely provides significant control or assistance, prescribes a marketing plan or system, or has a community of interest with its drivers (satisfying the second element).

The controversial question is whether the “fee” requirement (the third element) is satisfied. To answer that question, it is necessary to look at the amounts that may constitute a fee.

Payment of Fee is Key

Under the third element of most franchise laws, an arrangement is not a franchise unless the purported franchisee pays a fee of some sort to the franchisor or an affiliate of the franchisor. For example, the standard in the Illinois Franchise Disclosure Act (which is fairly typical of state franchise laws) is that “the person granted the right to engage in such business is required to pay to the franchisor or an affiliate of the franchisor, directly or indirectly, a franchise fee of $500 or more,” 815 Ill. Cons. Stat. § 705/3(1)(c), with “franchise fee” defined as “any fee or charge that a franchisee is required to pay directly or indirectly for the right to enter into a business or sell, resell, or distribute goods, services or franchises under an agreement.” 815 Ill. Cons. Stat. § 705/3(14).

According to the website on which potential new drivers apply to Uber, get.uber.com/drive/ (last accessed on Nov. 11, 2015), a potential Uber driver must have an automobile with four or more doors, from model year 2000 or later, that is not salvaged. If the potential driver does not have a car that meets those standards, the driver can apply to lease a car through Uber, starting at $99 per week with a $250 deposit. (The lease can be cancelled on two weeks’ notice and allows unlimited mileage.) In addition to having a car that meets these standards, the driver must have a smartphone (iPhone 4s or newer or Android 2013 or newer) that runs the Uber App. If the driver does not have a qualifying phone, the driver can rent one from Uber for $15 per week plus a refundable $200 deposit.

These requirements to own or lease a car and a phone, even if rented from Uber, should not constitute a “franchise fee.” See Thueson v. U-Haul Int’l, Inc., 144 Cal.App.4th 664 (2006) (payments to purported franchisor for use of computer and telephone line did not constitute payment of a franchise fee, because those were ordinary business expenses); RJM Sales & Marketing, Inc. v. Banfi Products Corp., 546 F.Supp. 1368 (D.Minn. 1982) (ordinary business expenses do not constitute a franchise fee).

The more controversial issue relates to the overall fee structure of the relationship between Uber and its drivers. Uber operates as a technology service. Drivers and customers install an App on their respective smartphones. When customers sign up for the service, they supply a credit card number, which will be charged for all rides they order. When customers need a ride, they enter on the App the location where they want to be picked up, and Uber sends a message to the nearest driver. If the driver “accepts” the assignment, the customer is notified that the driver is on the way. If the first driver declines, another driver is notified. The Uber App uses data from both the driver’s phone and the customer’s phone to determine when the customer has been picked up and to calculate the length and duration of the trip. At the end of the customer’s ride, the customer’s credit card is charged.

Periodically, drivers are paid for the rides they supply. The percentages have varied over time and markets, but this article will assume that the payment to the driver is 80% of the amount charged by Uber—with the remaining 20% representing reimbursement to Uber for services such as providing the technology platform that matched the driver and the customers.

From an economic perspective, there is no discernable difference to an Uber driver between the driver collecting $10 from a customer and remitting $2 to Uber, or Uber collecting $10 from the customer and remitting $8 to the driver. In both cases, the economic reality is that the driver ends up with $8 and Uber ends up with $2. The key question is whether this economic reality is a “hidden franchise fee” or an “indirect franchise fee.”

Other Franchise Claims Have Failed

Over the years, there have been multiple efforts—so far, unsuccessful—to establish that arrangements with some similarities to the Uber/driver model are “franchises.” For example, Communications Maintenance, Inc. v. Motorola, Inc., 761 F.2d 1202 (7th Cir. 1985) (applying Indiana law) involved sales and installation contracts. Specifically, Motorola sold radio systems, and had a contract with Communications Maintenance to install those radios for the customers. Customers paid Motorola a combined “sales and installation” fee, and Motorola then paid Communications Maintenance an amount less than what Motorola charged the customer for the installation. Following termination of the contract, Communications Maintenance sued, claiming that the markup Motorola received on the costs of the installation constituted a “hidden” or “indirect” franchise fee. The court held that the profit margins Motorola realized could not properly be characterized as a franchise fee. See, also, Corporate Resources, Inc. v. Eagle Hardware & Garden, Inc., 115 Wash. App. 343 (2003) (similar contract for installation of home-improvement products).

Other cases involved Avis Rent-A-Car’s “agency operator” model. For example, in Adees Corp. v. Avis Rent-A-Car Sys., Inc., 2003 US Dist. Lexis 26293 (CD Cal. 2003), aff’d 157 Fed. Appx. 2 (9th Cir. 2005), Avis held a concession to operate a rental car business at the Long Beach airport. Avis built out the facility, acquired the cars, and contracted with Adees to run the facility. All funds collected by Adees were held “in trust” for Avis and promptly deposited to an Avis-controlled bank account. Avis paid 10% of time and mileage collections to Adees, as well as 65% of refueling charges, but deducted $0.20 per day for each car on the lot that was not rented. (Adees had an option to return cars to a central facility, thereby avoiding this charge.) The contract allowed Avis to terminate on 30 days’ notice, without cause. Avis did so, specifically informing Adees that Adees was not in default, but that Avis had decided to terminate for its own business reasons. Adees sued, claiming that the contract was actually a franchise. The trademark and control elements were conceded by Avis, and revenues. For a similar outcome under similar facts but applying Washington law, see Jon K. Morrison, Inc. v. Avis Rent-A Car Sys., Inc., 2003 WL 23119903 (WD Wash. 2003).

Another attempt to characterize an arrangement similar to the Uber arrangement as a franchise proved unsuccessful in Atchley v. Pepperidge Farm, Inc., Case No. CV-04-0452-EFS (E.D. Wash., filed Nov. 29, 2004). In that case, Pepperidge Farm consigned product to a distributor that stocked the product at retailer facilities. (Although not expressly addressed in the opinion, it appears the distributor supplied the delivery vehicle.) When the products sold, the retailers paid Pepperidge Farm, which then paid a 20% concession to the distributors, less various deductions. After a bench trial, the court issued an opinion on December 6, 2012, in which it determined that the structure Pepperidge Farm used (which included both commissions on sales and deductions from those commissions) did not constitute a “franchise fee” because the distributors made no “unrecoverable investment” in the business.

Conclusion

The cases thus far have not been successful for franchisees. Nevertheless, there are non-frivolous arguments that courts should treat Uber drivers as franchisees and extend to them the protections of state franchise laws. Whether—or when—those arguments will succeed remains to be seen. As the economy evolves, new business models like Uber must continue to consider existing regulations, including the franchise laws.

Brian H. Cole, Law Offices of Brian H. Cole