Liability of a Franchisor for Acts of a Franchisee

In short, it depends. The term franchise refers to a relationship wherein a business organization, called a franchisor, in exchange for a fee and with the guidance of the franchisor, allows another business or individual, called the franchisee, to operate under the franchisor’s trade name, use the franchisor’s expertise and intellectual property.

As such, in a franchise relationship, the franchisee buys the right to use the franchisor’s:

• Trademarks;
• Reputation (i.e., “goodwill”);
• Trade secrets;
• Copyrights; and
• Marketing and service information in selling a product.

Whether or not a franchisor can be held has vicarious liability for the actions of the franchisee in running the business largely depends on the degree of control that is retained by the franchisor in terms of the operation of the overall business.

If the franchisor has a strict set of policies that serve to dictate the day-to-day operation of the franchise, then that is considered to be a high degree of control and creates an agency relationship. As such, the franchisor may be liable for the damages associated with the franchisee’s implementation of their policies.

However, some courts determine agency by focusing on control over the instrument of harm. For example, assume a customer finds a foreign object inside their meal at a fast food franchise, and the customer can prove that the franchisor controlled the meat processing and food serving. In that case, the franchisor could be held liable.

In cases in which a high degree of control exists, the franchisee may be considered an agent of the franchisor, thereby creating liability. These types of agency relationships are known as principal-agent relationships and are discussed below.

What Is the Scope of an Agency Relationship?

In short, an agent is someone who agrees to represent another person. The person that the agent is representing in the relationship is called a principal. An agency relationship is generally formed by an agreement between a principal and an agent. In the relationship, the agent can only act on behalf of a principal for specific issues, depending on the agency agreement.

In other words, an agent essentially acts as an employee of the principal, with the difference being that the agent works with the principal by representing the principal in specific transactions and situations. Additionally, the agent is given different types of power and authority in order to act on behalf of another person or a group of people in a business setting.

Principal-agent relationships are important because agents can enter into binding contracts on behalf of the principal. However, even when a principal-agent relationship exists, the agent must still have the authority to enter into such contracts on behalf of the principal.

As such, in order for an agent’s contract to be binding on the principal, the agent must be acting within the scope of an agent’s authority. This means that the agent must have at least one of the following types of authority:

• Express Authority: Express authority terms may be specifically stated in a written contract between the principal and agent.
  • For instance, the principal may state in the contract, “I authorize ________ to sign all documents associated with sales transactions involving x product;”
  • Express terms may also expressly limit the agent’s authority in the contract;
• Implied Authority: Implied authority is an authority that results from the agent’s conduct and actions or if the agent is performing conduct that is generally identified as authorized by the principal either traditionally or through custom.
  • For example, an agent who is expressly authorized to fix computers may be implicitly authorized to purchase computer parts that are necessary to make those repairs;
• Apparent Authority: An agent has apparent authority when a third party believes that the agent has the authority to act for the principal.
  • This means that the focus is on whether the third party believes that the agent has the authority to act on behalf of the principal;
  • For example, if an agent is performing the specific task at the time specified for the task while wearing an ID badge and uniform issued by the principal, it may be implied that they are acting on the principal’s authority; or
• Ratification: Ratification occurs when the principal does not know and does not authorize the agent to enter into the contract. However, then the principal later accepts the benefits of the contract upon discovering the agreement.
  • By accepting the benefits of the contract executed by the agent, they ratify the agreement.

When Is an Agency Relationship Formed in a Franchise Relationship?

Once again, an agency relationship is formed in a franchise relationship if the franchisee serves as an agent of the franchisor. This is typically due to the relationship and control executed by the franchisor, as well as the terms of the franchise agreement.

It is important to note that an agency relationship is not automatically created by a franchise agreement. Examples of actions that could be evidence of an agency relationship include, but may not be limited to:

• Shared profits between the two parties instead of royalty payments;
• Standardized training methods for employees required by the franchisor;
• Building and maintaining a facility in the manner specified by the franchisor;
• Strict rules of operation provided by the franchisor;
• The ability of the franchisor to cancel the agreement if rules are violated;
• Regular inspection of the facility and operation by the franchisor;
• Prices that are fixed by the franchisor; and
• Any actions that deprive the franchisee of independence in terms of the operation of their business.

It is important to note that some courts have created stronger requirements in order to establish an agency relationship, such as control over the physical work and day-to-day operations.

Establishing an agency relationship between a franchisee and a franchisor is especially important for persons who were injured (i.e., “plaintiffs”) by the franchise. This is because, in a typical franchisor-franchisee relationship, the franchisor generally holds more money than the franchisee.

As such, if the franchisor is held liable, the plaintiff could collect more money by suing a franchise owner rather than attempting to collect from the franchisee alone. There are also some instances in which the plaintiff could take legal action against both the franchisor and the franchisee.

What Else Should I Know About Agency Relationships and Liability?

It is important to understand that in an agency relationship, an agent has several duties towards the principal, and failure to perform these duties can result in a breach of contract or other tort liability. In general, an agent’s duties to their principal include duties of:

• Loyalty: An agent must only act for the benefit of the principal and should not act for personal gain;
• Performance: The agent must perform for the principal in an acceptable manner, which means that the agent should perform their duties with reasonable skill and responsibility;
• Notification: Also known as the duty to inform, an agent must inform the principal of all matters concerning the subject matter of the agency relationship;
• Obedience: An agent must act as the principal instructs and should not act without the principal’s permission.
  • One important exception would be how if a principal asks the agent to violate the law, the agent can refuse without breaching this duty.
  • Another exception would be that an agent can deviate from a principal’s instructions during emergency situations.

A principal also has duties towards their agent, and failure to perform these duties can result in a breach of contract or tort liability action initiated by the agent. A principal’s general duties include:

• Compensation: Because a principal hires an agent, they are expected to pay the agent in a reasonable manner.
  • A principal must also generally pay any out-of-pocket expenses that an agent incurs while performing their duties for the principal;
• Cooperation: A principal must allow an agent to perform their duties, and a principal must cooperate with and assist an agent as needed; and
• Safe Working Conditions: A principal must provide an agent with safe working conditions.

Do I Need a Lawyer for Issues with Franchisor Liability?

As can be seen, there may be additional exposure for franchisor liability for franchisee conduct as a result of an improperly drafted franchise agreement. Additionally, the concept of vicarious liability of franchisors can be especially complex and can vary considerably from state to state.

As such, if you are facing issues with franchisor liability, it is in your best interests to consult with an experienced business lawyer. An experienced business attorney can help you determine your legal rights and obligations under a franchise agreement or help you create an agreement. Additionally, an attorney will also be able to represent you in court should your issue necessitate legal action.