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Franchisor Held Vicariously Liable for Franchisee's Ads
Practical Law Legal Update 0-524-3215 (Approx. 3 pages)
Franchisor Held Vicariously Liable for Franchisee's Ads
by PLC Commercial
| Published on 25 Feb 2013 • USA (National/Federal) |
A California state appellate court recently held a franchisor vicariously liable for misleading or deceptive statements made by its franchisees in print and television advertisements.
A recent opinion by the Court of Appeals of California, First District, Division Two, held a franchisor vicariously liable for misleading or deceptive statements made by its franchisees in print and television advertising. The appeals court's finding was based on its determination that the franchisor had extensive control over the advertising operations of its franchisees beyond that needed to protect its trademarks.
In 2007 the California Attorney General filed a complaint against Liberty Tax Service (Liberty) alleging violations of California's unfair competition law (UCL) and false advertising law (FAL), claiming, among other things, that Liberty and its franchisees made misleading or deceptive statements in print and television ads.
Liberty, a provider of tax preparation and loan services throughout the US, had more than 2,000 franchised and company-owned stores in the US at the time of the trial.
The trial court found Liberty liable under an agency theory for its California franchisees' ads, which violated the UCL and FAL, ordering Liberty to:
- Pay $50,000 in civil penalties.
- Take remedial steps under the trial court's permanent injunction.
Liberty appealed, arguing that it was not liable for its franchisees' ads because:
- The franchisor-franchisee relationship requires a higher level of control than the trial court considered.
- It had acted only to protect its trademarks and was therefore not liable under an agency theory.
The appeals court disagreed with Liberty's arguments and affirmed the opinion of the trial court.
The core issue was whether the control Liberty reserved to itself over its franchisees exceeded that required to police its trademarks, a standard that the court defined as "control so pervasive that it amounts to complete or substantial control over the daily activities of the franchisees' business."
The court focused on Liberty's operations manual and determined that it contained mandatory restrictions on the daily operations of franchisees that went beyond Liberty's purported goal of policing its trademarks. Liberty had a particularly extensive right of control over franchisee advertising, which the court found it used to dictate business strategy. Examples included Liberty's:
- Control over what discounts franchisees could offer in ads.
- Control over which products and services franchisees could advertise.
- Detailed instructions on advertising, including extensive pre-approval and timing requirements.
The court acknowledged that a franchisor has a right to exercise control over a franchisee's operations to protect its trademarks and goodwill. However, it found that Liberty had retained a right of complete control over the franchisee's advertising operations such that Liberty's franchisees were its agents for purposes of advertising.
Franchisors, particularly in California, should review their franchise manuals to help ensure that the level of control over franchisee operations and activities is not excessive to avoid vicarious liability for the actions of their franchisees.