The NLRB <i>McDonald's</i> Ruling and Franchisors

Thereafter, the matter will likely end up in the courts, with ultimate review by the U.S. Supreme Court a real possibility.

Threat to Franchise Operations?

It is difficult to overstate the importance of this issue for the franchise sector of the U.S. economy. One prominent attorney who practices in the area of franchise law observed, prior to the NLRB ruling, that “[t]he most serious legal threats [to franchise operations] from an employment law perspective ' are judicial and regulatory determinations that a franchisor's franchisees, the franchisees' employees, or both are the franchisor's hidden, disguised, or joint employees.” Dean T. Fournaris, “The Inadvertent Employer: Legal Business Risks of Employment Determinations to Franchise Systems,” available at 27 Franchise L.J. 224 (2007-2008).

One franchisee owner stated that, should the NLRB and then the courts uphold the OGC determination, “[t]his would be a huge impact on the economy.” Kate Taylor, “Franchise Industry Strikes Back at NLRB's 'Joint Employer' Decision,” Entrepreneur, Sept. 23, 2014, available at http://entm.ag/1phMcAY. There are now approximately 3,500 franchises, in all areas of business, in the United States. Maureen Farrell, “The Top Brand-Name Franchisees in the US,” Forbes Magazine , Jan. 20, 2011, available at http://onforb.es/13DqjlC.

The battle lines, in what all indications suggest will be a lengthy dispute, have been drawn. On the one hand, opponents of the decision point to what they say are decades of established law in the United States regarding the franchise model, and to the fact that a common analysis used by courts in employment law franchise cases, i.e., whether or not a franchisor has “significant control over the employment relationship,” does not support the notion that McDonald's is a joint employer. 013 U.S. Dist. Lexis 105780 (D. Ariz). On the other hand, those who applaud the OGC's conclusion assert that McDonald's is
“hid[ing] behind its franchisees” and that “McDonald's requires franchisees to adhere to ' regimented rules and regulations that there's no doubt who's really in charge.” Greenhouse, supra.

Before the OGC Ruling

Although the OGC ruling has brought the issue of franchisor liability in employment disputes to the forefront and generated considerable attention and publicity, whether franchisors can be held liable for violations of anti-discrimination and wage and hour laws by their franchisees actually has been litigated for decades. And, while the OGC decision found that McDonald's and its franchisees are joint employers of individuals who work in McDonald's facilities, in fact, the joint-employer concept is but one of a number of theories that have been employed since at least the 1980s in efforts to establish franchisor liability in employment actions.

Moreover, a common perception that “courts ' have typically found that franchisors are not joint employers of franchise employees” (Chronowski, supra) is not entirely accurate. In reality, although a majority of such cases ' including those that relied on a theory other than the joint-employer concept ' have been decided in favor of the franchisor, many have resulted in decisions holding that a franchisor was an employer of franchisee employees.

Among the numerous theories other than joint employer that employees have advanced in attempts to hold franchisors liable for employment law violations are the common law agency theory, the single employer theory, the economic realities test and the integrated enterprise test. Although there are distinctions among these theories, they all essentially look to the degree of control a franchisor exercises over its franchisees, particularly with regard to employment matters.

Factors considered in most of these concepts are such issues as the degree to which the franchisor controls franchisee hiring practices and the manner in which employees perform their work; franchisor participation in the training of employees; and franchisor involvement in employee disciplinary decisions.

Despite the fact that the very nature of the franchise relationship entails a measure of franchisee independence in managing personnel matters such as benefits, prior to the OGC ruling a number of courts found franchisors liable for franchisee employment law violations. In Myers v. Garfield & Johnson Enterprises, 10 679 F.Supp.2d 598 (E.D. Pa. 2010). for example, the court found that the franchisor and franchisee had sufficiently “apportioned the various duties of employer between themselves,” so that a joint-employer relationship had been alleged with enough specificity to allow the case to continue. Myers, 291 at 610.

Earlier, in Cook v. Arrowsmith Shelburne, 69 F.3d 1235 (2d Cir. 1995). the U.S. Court of Appeals for the Second Circuit denied a summary judgment motion by a franchisor in a case brought using the single employer theory. Under the single employer theory, a plaintiff must establish that there is a high enough degree of franchisor involvement in the personnel process so that the franchisor and franchisee essentially operate as an integrated enterprise ' as opposed to the franchisor and franchisee being separate but sharing and co-determining personnel decisions as joint employers. The Cook court concluded that there was enough evidence of an “interrelationship of operations” between the franchisor and franchisee to find for the employee. Cook at 1241.

Apparent Authority

Arguably, the most successful as well as the most unconventional theory used by employees seeking to establish franchisor liability for franchisee employment actions is the apparent authority concept. Apparent authority is a recognized principle in New York and exists where “words or conduct of the principal, communicated to a third party ' give rise to the appearance and belief that the agent possesses authority to enter into a transaction.” In re Nigeria Charter Flights Contract Litigation, 520 F.Supp.2d 447, 463 (E.D.N.Y. 2013). Put more simply, when a franchisor possesses apparent authority to act on behalf of its franchisee, although their franchise agreement may not provide for that authority, franchisor liability may be found.

Two district court cases from the U.S. Courts of Appeals for the Ninth and Fourth Circuits demonstrate particularly well how apparent authority has been used to establish franchisor liability. In Miller v. Zee's, 31 F.Supp.2d 792 (D. Ore. 1998) an employee of a Denny's franchisee brought a sexual harassment suit against both the franchisee and Denny's. The court observed that in the franchisee's restaurants there were no indications of a connection to any entity other than Denny's. Not only was the Denny's trademark ubiquitous both inside and outside these establishments, but the plaintiffs did not know their workplace was owned by a franchisee and believed themselves to be Denny's employees. The perception of Denny's as the real employer was reinforced by the fact that it had the right to train managers, decide employee disciplinary matters and conduct internal audits of franchisee operations. Denny's summary judgment motion was denied.

Thomas v. Freeway Foods, 406 F.Supp.2d 610 (M.D.N.C. 2005), was a case where the court rejected the plaintiffs' argument that franchisor Waffle House, Inc., was liable for discriminatory conduct by its franchisee under agency theory, only to arrive at the opposite conclusion when assessing the issue in terms of apparent authority. In Thomas, the court found significant the fact that, among other things, Waffle House's website did not distinguish between restaurants owned by the parent and those that were franchisees.

Presented with similar facts, however, other courts have not found apparent authority arguments persuasive. In Cha v. Hooters of Am., 2013 U.S. Dist. Lexis 144750 (E.D.N.Y. 2013), the court concluded that essentially the same evidence that the employees presented in Miller was not enough to establish franchisor liability. In part, the outcome of such cases depends on how significant a court finds the presence of logos, uniforms and signs referring only to the franchisor and employees' perceptions of who their employer is. Whether a court will be receptive to an apparent authority argument depends not only on what district the case is in, but what judge is assigned to the matter. (New York State courts have generally not been sympathetic to apparent authority claims, nor to employee claims based on agency theory and similar concepts. See, e.g., Martinez v. High Powered Pizza, 43 A.D.3d 670 (1st Dept. 2007)).

Conclusion

As one commentator observed with regard to the franchisor liability controversy that was inflamed by the OGC ruling, “it will take years before there is clarity.” Chronowski, supra . Business interests, including the International Franchise Association, have already mobilized to oppose adoption of the OGC opinion by the NLRB and the courts, and some have urged Congress to pass legislation nullifying the OGC ruling. If franchisors are deemed to be joint employers with their franchisees of franchisee employees, they fear, that “could force franchisors to take responsibility for everything from employee wages to worker harassment cases” rather than leaving such matters in the hands of local franchisees. Taylor, supra.

In the event that the OGC ruling becomes established law, that would probably put an end to decades of litigation over franchisor liability in employment cases involving the theories discussed above and establish the joint-employer theory as the governing principle in franchise employee cases. Alternatively, if the NLRB or the courts decline to adopt the OGC's rationale, litigation along the same lines as has been seen in recent decades is likely to continue ' with the possible exception that the joint-employer theory may be somewhat discredited and cases based on apparent authority or agency theory more prevalent.

In either case, the stakes are clearly high for franchisors, unions and franchisee employees. An outcome favorable to the OGC's interpretation of the franchisor as joint employer question has the potential of, consistent with franchisor concerns, transforming a significant sector of the U.S. economy.

Geoffrey A. Mort, Kraus & Zuchlewski LLP, New York, has extensive experience in federal court litigation of employment discrimination lawsuits. He previously served as an Assistant Circuit Executive for the U.S. Second Circuit Courts and as a litigator in the New York City Corporation Counsel's office. This article also appeared in the New York Law Journal, an ALM affiliate of this newsletter.

The National Labor Relations Board (NLRB) general counsel's July 29, 2014, ruling that McDonald's is a joint employer of those who work for its roughly 14,000 franchised restaurants in the United States continues to send ripples through both the legal and business worlds. The NLRB general counsel's decision was made in an internal, unpublished memorandum concerning a group of cases filed with the board asserting that McDonald's as well as its franchisees had violated the rights of franchisee employees with respect to protests over wage and hour issues. Significantly, however, the NLRB usually follows the legal advice of its Office of the General Counsel, or OGC. Louis S. Chronowski, “NLRB Decision Shocks Franchise World: McDonald's, a 'Joint Employer' of Franchise Employees,” The Metropolitan Corporate Counsel, Sept. 23, 2014, available at http://bit.ly/1Efm10V.

The OGC's ruling first will be tested before administrative law judges (ALJ) who hear the employees' claims in these cases. Assuming that the ALJs find against McDonald's, there seems little doubt that the company will appeal to the full, five-member NLRB. Steven Greenhouse, “Ruling Says McDonald's Is Liable for Workers,” N.Y. Times, July 30, 2014, at B1.

Because three of the NLRB's members are former union representatives or employees, some consider the board to be sympathetic to the interests of employees and unions, which might well lead to decisions upholding ALJ decisions against McDonald's. Michael J. Burns, “NLRB Recognizes Franchisee-Franchisor as Single Employer, American Society of Employers,” Aug. 6, 2014, available at http://bit.ly/10hKxPC.

Thereafter, the matter will likely end up in the courts, with ultimate review by the U.S. Supreme Court a real possibility.

Threat to Franchise Operations?

It is difficult to overstate the importance of this issue for the franchise sector of the U.S. economy. One prominent attorney who practices in the area of franchise law observed, prior to the NLRB ruling, that “[t]he most serious legal threats [to franchise operations] from an employment law perspective ' are judicial and regulatory determinations that a franchisor's franchisees, the franchisees' employees, or both are the franchisor's hidden, disguised, or joint employees.” Dean T. Fournaris, “The Inadvertent Employer: Legal Business Risks of Employment Determinations to Franchise Systems,” available at 27 Franchise L.J. 224 (2007-2008).

One franchisee owner stated that, should the NLRB and then the courts uphold the OGC determination, “[t]his would be a huge impact on the economy.” Kate Taylor, “Franchise Industry Strikes Back at NLRB's 'Joint Employer' Decision,” Entrepreneur, Sept. 23, 2014, available at http://entm.ag/1phMcAY. There are now approximately 3,500 franchises, in all areas of business, in the United States. Maureen Farrell, “The Top Brand-Name Franchisees in the US,” Forbes Magazine , Jan. 20, 2011, available at http://onforb.es/13DqjlC.

The battle lines, in what all indications suggest will be a lengthy dispute, have been drawn. On the one hand, opponents of the decision point to what they say are decades of established law in the United States regarding the franchise model, and to the fact that a common analysis used by courts in employment law franchise cases, i.e., whether or not a franchisor has “significant control over the employment relationship,” does not support the notion that McDonald's is a joint employer. 013 U.S. Dist. Lexis 105780 (D. Ariz). On the other hand, those who applaud the OGC's conclusion assert that McDonald's is
“hid[ing] behind its franchisees” and that “McDonald's requires franchisees to adhere to ' regimented rules and regulations that there's no doubt who's really in charge.” Greenhouse, supra.

Before the OGC Ruling

Although the OGC ruling has brought the issue of franchisor liability in employment disputes to the forefront and generated considerable attention and publicity, whether franchisors can be held liable for violations of anti-discrimination and wage and hour laws by their franchisees actually has been litigated for decades. And, while the OGC decision found that McDonald's and its franchisees are joint employers of individuals who work in McDonald's facilities, in fact, the joint-employer concept is but one of a number of theories that have been employed since at least the 1980s in efforts to establish franchisor liability in employment actions.

Moreover, a common perception that “courts ' have typically found that franchisors are not joint employers of franchise employees” (Chronowski, supra) is not entirely accurate. In reality, although a majority of such cases ' including those that relied on a theory other than the joint-employer concept ' have been decided in favor of the franchisor, many have resulted in decisions holding that a franchisor was an employer of franchisee employees.

Among the numerous theories other than joint employer that employees have advanced in attempts to hold franchisors liable for employment law violations are the common law agency theory, the single employer theory, the economic realities test and the integrated enterprise test. Although there are distinctions among these theories, they all essentially look to the degree of control a franchisor exercises over its franchisees, particularly with regard to employment matters.

Factors considered in most of these concepts are such issues as the degree to which the franchisor controls franchisee hiring practices and the manner in which employees perform their work; franchisor participation in the training of employees; and franchisor involvement in employee disciplinary decisions.

Despite the fact that the very nature of the franchise relationship entails a measure of franchisee independence in managing personnel matters such as benefits, prior to the OGC ruling a number of courts found franchisors liable for franchisee employment law violations. In Myers v. Garfield & Johnson Enterprises, 10 679 F.Supp.2d 598 (E.D. Pa. 2010). for example, the court found that the franchisor and franchisee had sufficiently “apportioned the various duties of employer between themselves,” so that a joint-employer relationship had been alleged with enough specificity to allow the case to continue. Myers, 291 at 610.

Earlier, in Cook v. Arrowsmith Shelburne , 69 F.3d 1235 (2d Cir. 1995). the U.S. Court of Appeals for the Second Circuit denied a summary judgment motion by a franchisor in a case brought using the single employer theory. Under the single employer theory, a plaintiff must establish that there is a high enough degree of franchisor involvement in the personnel process so that the franchisor and franchisee essentially operate as an integrated enterprise ' as opposed to the franchisor and franchisee being separate but sharing and co-determining personnel decisions as joint employers. The Cook court concluded that there was enough evidence of an “interrelationship of operations” between the franchisor and franchisee to find for the employee. Cook at 1241.

Apparent Authority

Arguably, the most successful as well as the most unconventional theory used by employees seeking to establish franchisor liability for franchisee employment actions is the apparent authority concept. Apparent authority is a recognized principle in New York and exists where “words or conduct of the principal, communicated to a third party ' give rise to the appearance and belief that the agent possesses authority to enter into a transaction.” In re Nigeria Charter Flights Contract Litigation, 520 F.Supp.2d 447, 463 (E.D.N.Y. 2013). Put more simply, when a franchisor possesses apparent authority to act on behalf of its franchisee, although their franchise agreement may not provide for that authority, franchisor liability may be found.

Two district court cases from the U.S. Courts of Appeals for the Ninth and Fourth Circuits demonstrate particularly well how apparent authority has been used to establish franchisor liability. In Miller v. Zee's , 31 F.Supp.2d 792 (D. Ore. 1998) an employee of a Denny's franchisee brought a sexual harassment suit against both the franchisee and Denny's. The court observed that in the franchisee's restaurants there were no indications of a connection to any entity other than Denny's. Not only was the Denny's trademark ubiquitous both inside and outside these establishments, but the plaintiffs did not know their workplace was owned by a franchisee and believed themselves to be Denny's employees. The perception of Denny's as the real employer was reinforced by the fact that it had the right to train managers, decide employee disciplinary matters and conduct internal audits of franchisee operations. Denny's summary judgment motion was denied.

Thomas v. Freeway Foods , 406 F.Supp.2d 610 (M.D.N.C. 2005), was a case where the court rejected the plaintiffs' argument that franchisor Waffle House, Inc., was liable for discriminatory conduct by its franchisee under agency theory, only to arrive at the opposite conclusion when assessing the issue in terms of apparent authority. In Thomas, the court found significant the fact that, among other things, Waffle House's website did not distinguish between restaurants owned by the parent and those that were franchisees.

Presented with similar facts, however, other courts have not found apparent authority arguments persuasive. In Cha v. Hooters of Am., 2013 U.S. Dist. Lexis 144750 (E.D.N.Y. 2013), the court concluded that essentially the same evidence that the employees presented in Miller was not enough to establish franchisor liability. In part, the outcome of such cases depends on how significant a court finds the presence of logos, uniforms and signs referring only to the franchisor and employees' perceptions of who their employer is. Whether a court will be receptive to an apparent authority argument depends not only on what district the case is in, but what judge is assigned to the matter. (New York State courts have generally not been sympathetic to apparent authority claims, nor to employee claims based on agency theory and similar concepts. See, e.g., Martinez v. High Powered Pizza , 43 A.D.3d 670 (1st Dept. 2007)).

Conclusion

As one commentator observed with regard to the franchisor liability controversy that was inflamed by the OGC ruling, “it will take years before there is clarity.” Chronowski, supra . Business interests, including the International Franchise Association, have already mobilized to oppose adoption of the OGC opinion by the NLRB and the courts, and some have urged Congress to pass legislation nullifying the OGC ruling. If franchisors are deemed to be joint employers with their franchisees of franchisee employees, they fear, that “could force franchisors to take responsibility for everything from employee wages to worker harassment cases” rather than leaving such matters in the hands of local franchisees. Taylor, supra.

In the event that the OGC ruling becomes established law, that would probably put an end to decades of litigation over franchisor liability in employment cases involving the theories discussed above and establish the joint-employer theory as the governing principle in franchise employee cases. Alternatively, if the NLRB or the courts decline to adopt the OGC's rationale, litigation along the same lines as has been seen in recent decades is likely to continue ' with the possible exception that the joint-employer theory may be somewhat discredited and cases based on apparent authority or agency theory more prevalent.

In either case, the stakes are clearly high for franchisors, unions and franchisee employees. An outcome favorable to the OGC's interpretation of the franchisor as joint employer question has the potential of, consistent with franchisor concerns, transforming a significant sector of the U.S. economy.

Geoffrey A. Mort, Kraus & Zuchlewski LLP, New York, has extensive experience in federal court litigation of employment discrimination lawsuits. He previously served as an Assistant Circuit Executive for the U.S. Second Circuit Courts and as a litigator in the New York City Corporation Counsel's office. This article also appeared in the New York Law Journal, an ALM affiliate of this newsletter.