If you entered into a franchise agreement, you'd know it,
right? Not necessarily. In several recent cases, companies
terminating distributor relationships were surprised to learn that
the law considered them franchisors, subject to state franchise
laws.
"Most people, including lawyers, think a franchise is
McDonald's or Ramada Inn," says Edward Dunham, a partner
in the New Haven, Connecticut, law office of Wiggin & Dana who
specializes in franchises. But legislatures designed franchise laws
to protect a wide range of small businesses that depend on their
relationships with particular companies.
State franchise laws address disclosure required at the
beginning of the relationship and steps required at termination,
including acceptable grounds, how much notice is required, and
whether the "franchisee" must be offered a chance to fix
the problem.
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So what's a franchise? In the typical three-pronged
definition, a franchise is when one business operates in close
relationship to the other's trademark, is required to follow a
certain marketing plan and must pay a franchise fee.
"Most manufacturers think as long as they don't charge
a franchise fee, it's not a franchise," Dunham says. But
in several recent cases, courts have interpreted other payments as
indirect franchise fees, including required payments to a spa
manufacturer's co-op advertising fund, and the cost of required
dedicated phone lines and electronic databases.
In one case, Mitsubishi's U.S. division for Caterpillar
forklifts informed a Chicago dealer it would be terminating the
relationship. The dealer sued for violation of Illinois'
franchise laws. The U.S. Court of Appeals for the Seventh Circuit
upheld a lower court's ruling that the relationship counted as
a franchise. The court pointed to $1,600 the dealer had spent on
required manuals over nine years, and awarded $1.5 million in
damages.
If your business markets products or services through dealers or
distributors, be sure you know the franchise laws in the areas you
do business. "You can either recognize that it feels like a
franchise and embrace it," Dunham says, "or you can
structure the relationship to avoid being one." Even then, he
advises, it's best to follow the franchise laws when you
terminate a dealership.
If your business distributes products or services for another
company, you might have significant leverage should trouble
develop. "Inform yourself of the law so you know your
rights," Dunham advises. "Know as much as the supplier
does about relevant laws."
Steven C. Bahls, dean of Capital University Law School in
Columbus, Ohio, teaches entrepreneurship law. Freelance writer Jane
Easter Bahls specializes in business and legal topics.