Beware The Broad Reach Of State Franchise Laws

New Jersey Law Journal:

The immediate response that business owners and in-house counsel may give to the question of whether they are compliant with state franchise laws is ‘Why would we have to be in compliance when we are not a franchise?’ or ‘the Federal Trade Commission’s Franchise Rule does not apply to my business,’ ending the inquiry without a second glance toward state law applications. Nevertheless, a closer look at the state franchise and business opportunity statutes in comparison to a distributorship arrangement, including the intent behind such laws, may require counsel to venture a more cautious response.

There is a vast difference between the legal view and the commonplace view of what encompasses a distributorship compared to a franchise or business opportunity. When one considers the makeup of a prototypical franchise, one envisions a Blimpies, Gold’s Gym or Dunkin Donuts storefront sprawled throughout suburbia and cities alike. However, many are unaware of the broad reach of state franchise and/or business opportunity laws, and the civil and criminal penalties that may result from failing to register or otherwise comply with such statutes.

To ‘franchise,’ as defined by Black’s Law Dictionary, Seventh Edition (1999), is ‘to grant (to another) the sole right of engaging in a certain business or in a business using a particular trademark in a certain area.’ Franchising has been a popular mode of business operations since the mid-20th century. In reaction to major abuses to which personal investments were lost through numerous fraudulent schemes under the cloak of a ‘franchise’ opportunity, California enacted the first set of laws governing the disclosure and registration of franchises in 1971, followed by several other states shortly thereafter.

The problem lies in the broad scope and application of state franchise and business opportunity laws, and the requirements that follow if such an arrangement applies pursuant to either statute. Some states, such as Connecticut, have franchise laws that govern only the franchise relationship, while others mandate strict filing and disclosure requirements upon the franchisor. Currently, 15 states maintain statutes governing the offer or sale of franchises, and 21 states regulate the offer and sale of business opportunities. While the requirements vary by state, the result is an increase in necessary filing fees, the disclosure of often otherwise private financial information and a long and burdensome process. Such disclosures make certain private information publicly available, an effect that is likely ill perceived by private businesses in competitive industries.

State franchise laws generally come in 2 flavors… Carry on reading.