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Claims Against Franchisors As Alleged “Employers”

Government agencies increasingly are prosecuting enforcement actions against franchisors under federal labor and employment laws, claiming that they are employers of their franchisees' employees.1 For example, in July 2014 the National Labor Relations Board (NLRB) announced that it had authorized 43 cases against franchisor McDonald's USA, LLC for alleged labor violations by its franchisees, including alleged failure to pay overtime, failure to provide required breaks and layoffs related to union organizing activity.2 In a press release, the NLRB stated that if it cannot reach a settlement with McDonald's, it will issue complaints and name McDonald's as a so-called "joint-employer" of employees of its franchisees. A "joint-employer" relationship may exist where two companies are in a contractual relationship, and one company (e.g., the franchisor) has retained control over the terms and conditions of employment for employees of the other company (e.g., the franchisee).3

Separately, in an amicus brief filed with the NLRB, the NLRB's general counsel recently has advocated a return to the board's pre-1984 interpretation of the National Labor Relations Act (NLRA).4 Under the pre-1984 interpretation of the NLRA, a franchisor qualifies as an employer even if it exercised only "indirect control" over working conditions. Under the "indirect-control" standard, the NLRB found relatively minimal control, such as making recommendations to a supplier firm during the collective bargaining process or retaining the contractual right to engage in "general supervision" of employees, to be indicative of joint employer status.5

Although the NLRB has adhered to a more franchisor-friendly standard over the past 20 years, the general counsel's brief now argues that the NLRB must return to its previous approach in order to effectuate the purposes of the NLRA, including the facilitation of collective bargaining.6 The NLRB's new position indicates that franchisors should prepare to defend themselves against union organizing claims alleged by their franchisees' employees.

In addition to the suits that the NLRB may pursue, McDonald's faces private suits in seven actions pending in three states. In these cases, 27 named plaintiffs, who purport to represent tens of thousands of McDonald's employees, argue that courts should hold McDonald's responsible for its franchisees' alleged wage and hour violations.7

In this article, we analyze franchisors' defenses to claims by franchisee employees under the Fair Labor Standards Act (FLSA).8 We will analyze some recent cases which illustrate the steps franchisors may take to protect themselves against claims by franchisee employees.

Test For Employer Status

Under the FLSA, an "employer" includes "any person acting directly or indirectly in the interest of an employer in relation to an employee." When an employee sues a franchisor under the FLSA, the court must determine whether the franchisor falls within the statutory definition of an "employer."

Courts and administrative agencies have adopted a number of legal theories to determine whether a franchisor qualifies as an "employer" of the franchisees' employees. Courts use labels such as "joint employer," "single employer," or other names when analyzing claims against franchisors.9 Each test for employer status differs slightly from the others,10 and courts frequently apply several theories or blur the distinctions between them.11 However, courts frequently focus upon the extent to which the franchisor controls the terms and conditions of employment of the franchisees' employees as the primary factor which determines whether a franchisor will be amenable to suit.12

In this article, we focus on the "joint-employer" test. As discussed above, a so-called "joint-employer" relationship exists, notwithstanding that the franchisor and the franchisee are two separate legal entities, in circumstances where the franchisor has "retained for itself sufficient control of the terms and conditions of employment of the employees who are employed by the [franchisee]."13 Courts focus on the degree of control a franchisor exercises over employment policies, and the extent to which it supervises employees' day-to-day activities. Courts also cite a franchisor's authority to hire and fire employees and to administer employee training programs as evidence of a franchisor's joint-employer status.

FLSA Suits

Two opinions from this year illustrate the manner in which courts have assessed whether an employee can sue a franchisor as an "employer" under the FLSA. In Olvera v. Bareburger Group, 2014 WL 3388649, at *6 (S.D.N.Y. July 10, 2014), a federal district court in New York denied a motion to dismiss by franchisors of FLSA claims brought by franchisee employees.

The plaintiffs in Olvera alleged that Bareburger Group, LLC and three related franchisor defendants guided their franchisees on how to hire and train employees, set and enforced operational requirements, and monitored employee performance. The Bareburger employees also claimed that the franchisors specified methods and procedures for preparing food, exercised control over the work of employees, required franchisees to keep records of hours and wages, and exercised control over timekeeping and payroll practices. The court determined that if the plaintiffs could prove these practices, the franchisors would constitute employers under the FLSA.

Similarly, in Cordova v. SCCF, 2014 WL 3512838 (S.D.N.Y. July 16, 2014) the same court held that franchisees' employees could sue a franchisor for alleged wage and hour violations if the franchisor created management and operation policies and practices, provided materials for monitoring employee performance, and had authority to exercise control over employee records.

A federal circuit court case decided this year illustrates that employees will not succeed in FLSA claims against franchisors when they are unable to show that the franchisor actually controlled terms and conditions of employment. In Orozco v. Plackis, 757 F.3d 445, 452 (5th Cir. 2014), a restaurant cook, Benjamin Orozco, working at a franchisee restaurant (Craig O's) sued the franchisor's owner Craig Plackis, claiming that he had not been paid minimum wage or overtime to which he was entitled under the FLSA.

Plackis gave the franchisee advice regarding general operations, including profitability, menu changes, vendor contracts and advertising. The record contained evidence showing that after meeting with Plackis, the franchisee made changes to employee work schedules or conditions of employment.

The case proceeded to trial, where the jury returned a verdict in favor of Orozco. Plackis moved for judgment as a matter of law under Rule 50 of the Federal Rules of Civil Procedure, arguing that Orozco had not submitted sufficient evidence from which the jury could reasonably have found that Plackis was Orozco's employer. On appeal from the denial of the Rule 50 motion, the appeals court reversed. The court held that the jury could not reasonably have concluded that Plackis actually had authority over key elements of the employment relationship, including hiring and firing decisions, supervision, work schedules, conditions of employment, or the rate and method of payment.

The court did not consider Plackis' advice to the franchisee to be evidence of control over working conditions. Plackis' advice, followed by the franchisee's implementation of his suggested changes, did not establish that Plackis actually had the right to require the franchisee to abide by his recommendations. Similarly, Plackis' review of employee schedules did not establish that he had control over scheduling.

Practical Considerations

Franchisors wishing to minimize exposure to joint employer claims from employees should look carefully at both their franchise agreements and their daily practices, with the objective of maximizing franchisee control over terms and conditions of employment. For example, franchisors may consider giving franchisees full control over hiring decisions, employee benefits, wages and scheduling. Franchisors also may wish to confirm that franchisees retain the responsibility for training their employees, particularly if such training relates to employee relations and compliance with anti-discrimination laws.

Some franchisors may nevertheless negotiate the right to exercise more control over their franchisees. Franchisors who retain such control or influence over terms and conditions of employment—such as employee training, hiring, scheduling or payroll—should understand that they are thereby increasing the risk that a court might find that they have become "joint employers," and, therefore, may face claims based on alleged violations of the various employment laws.

Another way for franchisors to reduce the risk of being found to be joint employers is to include a provision in their franchise agreements stating that franchising decisions are based solely on the franchisees' conformity to specified quality standards. Franchise agreements may be re-written to establish that all suggestions made by the franchisor which are not related to such standards are entirely optional.

Franchisors can reduce their exposure to financial loss by requiring franchisees to maintain insurance policies covering employment discrimination claims, and by including both broad and specific indemnification provisions in their franchise agreements. Indemnification provisions may cover all claims of third parties (including employees) arising out of the operation of the franchise.

While courts in many states may not enforce indemnification provisions if there is a judicial finding that the indemnitee actually engaged in intentional discrimination, franchisors may rely on indemnification provisions for payment of their defense costs and/or payment of judgments for claims of vicarious liability, unintentional discrimination or non-meritorious claims of intentional discrimination.14 Franchise agreements also may state that a franchisee may not interpret any policy as preventing it from complying with federal, state or local law.

Endnotes:

1. Steven Greenhouse, "McDonald's Ruling Could Open Door for Unions," N.Y. TIMES, July 29, 2014, available at http://www.nytimes.com/2014/07/30/business/nlrb-holds-mcdonalds-not-just-franchisees-liable-for-worker-treatment.html?_r=1; Julie Jargon, "McDonald's Ruling Sets Ominous Tone for Franchisers," WALL STREET JOURNAL, July 29, 2014, available at http://online.wsj.com/articles/nlrb-decision-could-make-mcdonalds-liable-for-labor-practices-of-franchisees-1406660591.

2. Nat'l Labor Relations Bd. Office of Public Affairs, NLRB Office of the General Counsel Authorizes Complaints Against McDonald's Franchisees and Determines McDonald's, USA, LLC is a Joint Employer, July 29, 2014, available at http://www.nlrb.gov/news-outreach/news-story/nlrb-office-general-counsel-authorizes-complaints-against-mcdonalds; Jargon, supra note 1.

3. Myers v. Garfield & Johnson Enterprises, 679 F.Supp.2d 598, 607 (E.D. Pa. 2010) (quoting N.L.R.B. v. Browning-Ferris Indus. of Pennsylvania, 691 F.2d 1117, 1123 (3d Cir. 1982)).

4. Amicus Brief of the General Counsel, Browning-Ferris Industries of Cal., Case No. 32-RC-109684, slip op. at 17 (N.L.R.B. June 26, 2014).

5. Id. at 6-7 (citing U.S. Pipe & Foundry Co., 247 NLRB 139, 140 (1980); Jewel Tea Co., 162 NLRB 508, 509-10 (1966)).

6. Id. at 22-23.

7. Jargon, supra note 1; Steven Greenhouse, McDonald's Workers File Wage Suits in 3 States, N.Y. TIMES, March 13, 2014, available at http://www.nytimes.com/2014/03/14/business/mcdonalds-workers-in-three-states-file-suits-claiming-underpayment.html?_r=0.

8. 29 U.S.C. §201, et.seq.

9. See, e.g., Myers v. Garfield & Johnson Enterprises, 679 F.Supp.2d 598, 605 (E.D. Pa. 2010) (discussing single-employer and joint-employer liability); Latuga v. Hooters, 1996 WL 164427, at *7 (N.D. Ill. March 29, 1996) (holding that various Hooters franchisor and franchisee entities were so interrelated as to be a single employer for purposes of Title VII).

10. While some courts use traditional common law agency theories, others apply the "instrumentality test," which looks at whether the franchisor controls the specific instrumentality of the harm alleged. See, e.g., Papa John's Int'l v. McCoy, 244 S.W.3d 44, 47 (Ky. 2008); Wendy Hong Wu v. Dunkin' Donuts, F.Supp.2d 83, 93-94 (E.D.N.Y. 2000) aff'd sub nom. Wu v. Dunkin' Donuts, 4 F. App'x 82 (2d Cir. 2001).

11. See, e.g., Hatcher v. Augustus, 956 F.Supp. 387, 390 (E.D.N.Y. 1997) (employing a "hybrid test" that relies on a list of nine non-exhaustive factors); McLaurin v. Fusco, 629 F.Supp.2d 657, 659-60 (S.D. Miss. 2009) (explaining the "hybrid test").

12. See, e.g., Patterson v. Domino's Pizza, S204543, 2014 WL 4236175, at *17-19 (Cal. Aug. 28, 2014) (holding that franchisor was not liable for sexual harassment by franchisee's employee when the franchisee was solely responsible for hiring and training employees and lacked contractual authority to manage the behavior of the franchisee's employees); Singh v. 7-Eleven, 2007 WL 715488, at *4-6 (N.D. Cal. March 8, 2007) (holding that franchisor was not liable for alleged FLSA violations when it did not have the power to hire and fire employees or to determine work schedules or rates and methods of payment).

13. Myers v. Garfield & Johnson Enterprises, 679 F.Supp.2d 598, 607 (E.D. Pa. 2010) (quoting N.L.R.B. v. Browning-Ferris Indus. of Pennsylvania, 691 F.2d 1117, 1123 (3d Cir. 1982)).

14. Jeffrey S. Klein and Nicholas J. Pappas, "Insuring Against Job Discrimination Claims," NYLJ, April 1, 1996, at 1.

Reprinted with permission from the October 6, 2014 edition of the New York Law Journal © 2014 ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved.

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