Are Minimum Wage Laws that Discriminate Against Franchises “Industry-Specific” for the Purposes of Item 1?

The top stories in the franchise world continue to be about efforts by the cities of Seattle, Chicago, and others in raising the minimum wage with laws that discriminate against small business owners who own franchises. For the full story, see some of my previous blog posts on the issue. These laws are a serious concern for franchisees and franchisors alike

In brief, these laws (which are written substantially the same way in the different cities that have adopted them) require small businesses to raise the minimum wage of their workers from the current level to $15 an hour. Under these new ordinances, businesses with more than 500 employees have 3 to 4 years to increase the minimum wage to the new $15/hour level, while "small businesses," defined as businesses with fewer than 500 employees, have up to 7 years to reach the new level.

The problem? For the purpose of calculating the "500 employees" number, all franchises in the same system are counted together. The net result of this is that these locally-owned small businesses with a few employees, which also happen to be franchises, are being discriminated against as compared to their non-franchised counterparts.

After reading some of my blog posts on the subject, another franchise attorney (one who exclusively represents franchisees) commented to me that these laws, which treat franchises differently than similarly situated non-franchise small businesses, could arguably be viewed as "industry specific" laws for the purposes of Item 1 of a franchisor's Franchise Disclosure Document (FDD). I can see the argument on both sides of that point.

The Federal Trade Commission's (FTC) Franchise Rule requires a franchisor to state in Item 1 of its FDD "any laws or regulations specific to the industry in which the franchise business operates." The FTC has elaborated on this requirement by saying that laws applying to all businesses generally do not need to be disclosed; instead, "only laws that pertain solely and directly to the industry in which the franchised business is a part must be disclosed in Item 1."

The minimum wage laws adopted by some cities like Seattle target franchises by treating them differently from other similarly-situated small businesses; laws that are specific to a certain "industry" are the types of laws that need to be disclosed in Item 1.

So, the question then becomes: is franchising as a whole an "industry?" Are these the types of laws the FTC was contemplating when creating the Item 1 disclosure requirement? Should Item 1 of a franchisor's FDD should disclose these laws?

I can see the arguments on both sides. On the one hand, franchising itself isn't really an "industry." Merriam-Webster defines "industry" as "a department or branch of a craft, art, business, or manufacture; especially: one that employs a large personnel and capital especially in manufacturing." In that sense, franchise systems are not part of the same "industry" because they are diverse, representing businesses in a multitude of different streams of commerce (like retail, food service, personal services, and business services just to name a few). 

However, Merriam-Webster does recognize an alternative definition. "Industry" can also be defined as "a distinct group of productive or profit-making enterprises <ex: the banking industry>." In that sense, franchising could be considered an industry because franchise companies are in a distinct group that has its own set of goals, concerns, and issues. It is in this sense that the International Franchise Association and business periodicals regularly refer to franchising as an "industry."

In its guidance, the FTC hasn't specified which of these definitions it meant when it created the Item 1 disclosure requirement. The better argument, in my view, is that the FTC didn't intend to single out franchising as a whole as its own "industry" when it created the Item 1 disclosure requirement. That is because the FTC itself, in its rulemaking process, used the word "industry" a number of times, but used it in different contexts. Specifically, the FTC repeatedly referred to franchising itself as an "industry," and then in other contexts that are clearly different, it talked about the franchisor's duty to disclose certain information unique to "industry" in which the franchisee's business will operate. It is clear from the context of the FTC's guidance that the two uses of the word are different from one another.

Based on the contextual distinction between the two uses and definitions of the word "industry" by the FTC in its rulemaking, I think the more convincing legal argument is that a franchisor does not have to disclose minimum wage laws that discriminate against the franchise "industry" as a whole.

But, from a practical and informational perspective (and considering the purpose of the Franchise Rule), I think a good argument can be made that these laws should be disclosed anyway (even if disclosure is not legally required). That a franchisee may be required to pay its employees a higher minimum wage than his or her similarly situated non-franchise competitors is something that she or he would certainly want to know.

As a result, I am recommending to my franchisor clients that, when they update their FDDs for 2015, they include a disclosure in Item 1 that says:

Some jurisdictions have passed laws that require businesses to pay their employees a higher minimum wage than what is required under federal law, which laws may disproportionately affect franchised businesses.

It's a simple enough disclosure to include. Moreover, it would certainly help a franchisor in later defending against a legal claim by a franchisee that the franchisor knew about, but didn't disclose, the existence of these laws prior to the franchisee committing to buy the business.

What do you think? Do you think these discriminatory minimum wage laws must be, or should be, disclosed in Item 1?

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s