Antitrust is among the most-confusing areas of the law, even for attorneys. But, as a franchisee, understanding the antitrust principles that apply to the franchise relationship is important, as franchisor antitrust violations are common, and they can have severe negative ramifications for individual franchisees. So, as a franchisee, when is it time to speak with an antitrust attorney? Here are five of the most-common antitrust violations in franchising:
Common Antitrust Violation #1: Unlawful Customer Restrictions
Protected and “exclusive” territories are common in franchising; and, while dividing geographic territories amongst franchisees is generally permissible, there are other types of customer restrictions that can violate federal and state antitrust laws. When examining customer restrictions for potential antitrust issues, the franchisor’s intent and the practical effect of a restriction are both important factors.
With regard to franchisor intent, if the purpose of a restriction is to limit customers’ options (i.e. by prohibiting franchisees from serving customers outside of their respective territories), then this is more likely to tend toward an antitrust violation. For example, if a franchisor wants to prevent franchisees from competing with one another on price (in order to drive up royalties and marketing fund contributions), this could be an unlawful practice. On the other hand, if a franchisor simply restricts franchisees from actively marketing outside of their respective territories (but does not restrict the customers they can serve), this is an industry-standard practice that generally does not raise antitrust implications.
This is a complicated and nuanced area, and franchisees who have concerns should discuss their franchisor’s specific practices with an antitrust attorney who has particular experience in franchising. Learn more.
Common Antitrust Violation #2: Minimum Price Fixing (Resale Price Maintenance)
Minimum price fixing (also know as “resale price maintenance”) is a common practice among franchisors, which often attempt to classify their pricing controls as “system standards.” Similar to customer restrictions, while minimum price controls can be legal under some circumstances, they can also violate federal and state antitrust requirements.
In 2007, the U.S. Supreme Court relaxed the federal restrictions on resale price maintenance; however, legislators and regulators in multiple states have continued to enforce the pre-2007 standards. In order to get around these state-level restrictions, franchisors often utilize practices such as establishing “suggested” retail prices, refusing to sell products to franchisees who resell them below a particular price point, and imposing minimum advertised prices. Learn more.
Common Antitrust Violation #3: Profit Passover Arrangements
In the franchise context, a typical profit passover arrangement involves one franchisee making a payment to another when the first franchisee sells a product or service to a customer in the second franchisee’s territory. This payment is typically mandated by the franchisor, which also predetermines the amount of “profit passover” that is owed. So, why do some franchisors require profit passovers, and why do they raise antitrust implications?
The idea behind profit passovers is that they are intended to compensate franchisees for the costs associated with other franchisees’ extra-territorial sales. In today’s world, most products and services come with warranties (especially in the ultra-standardized world of franchising), and performing warranty work comes at a cost. If one franchisee must perform warranty work as a result of another franchisee’s sale, then that sale can be a liability for the franchisee who is on the hook for any repairs. To compensate for this liability, franchisors require the selling franchisee to pay over a portion of the profit from the sale, which is termed a “profit passover.”
While this makes sense in theory, the problem is that it disincentivizes franchisees from making sales outside of their territories (because the profit margin is lower), and this can stifle competition. As a result, some profit passover arrangements constitute antitrust violations. Learn more.
Common Antitrust Violation #4: Product and Service Tying Arrangements
Tying arrangements are very different from profit passover arrangements, but they too can violate antitrust laws at the federal and state levels. In a nutshell, a tying arrangement involves the purchase of one product or service being conditioned on the purchase of another. In other words, the second (and perhaps unwanted) product or service is “tied” to the first.
Franchisors routinely require franchisees to purchase specific products and services. These purchasing requirements promote, and may even be essential to, brand standardization. So, requiring franchisees to purchase certain products or services is not in itself an antitrust violation. However, if franchisees are being forced to purchase additional items that they do not want or need in order to buy the items that they do want or need, then this may raise a red flag. Often, these types of tying arrangements are designed to inflate franchisors’ profits directly, or to increase the revenue of suppliers who then pay rebates to the franchisor. Learn more.
Common Antitrust Violation #5: Unilateral Refusals to Deal
Another example of an antitrust violation that is common in franchising is franchisors unilaterally refusing to deal with individual franchisees. These refusals can take the form of tying arrangements (i.e. the franchisor refuses to sell one product to a franchisee unless the franchisee also purchases the “tied” product), indirect pricing controls (i.e. the franchisor refuses to sell products to a franchisee who resells them below a certain price), and territorial restrictions (i.e. the franchisor only offers certain opportunities to franchisees in certain areas).
Similar to the other common antitrust violations discussed above, unilateral refusals to deal are not per se unlawful, but rather may constitute antitrust violations depending on the specific factual circumstances involved. If your franchisor is refusing to deal with you in a manner that is inconsistent with its treatment of other franchisees, you should discuss your situation with an experienced antitrust attorney. Learn more.
Request a Free and Confidential Consultation at the Goldstein Law Firm
If you have questions about how federal or state antitrust laws apply to your franchise – and how you may be able to use these laws to protect your investment – we encourage you to contact us for a free consultation. To speak with franchise attorney Jeffrey M. Goldstein in confidence, please call 202-293-3947 or inquire online today.