Anti-Poaching Clause in Franchise Agreements Is a Big Risk for Franchisors

What is an anti-poaching clause in franchise agreements? U.S. Attorney General Jeff Sessions, now involved in the issue, may have best described it when he stated, “Provisions in a franchise agreement limiting a franchisee’s ability to solicit or hire workers from another franchise.” Basically, it is a limitation on an employer’s right to hire somebody else’s employees.

In a Gray Plant Mooty webinar this month, titled, “New Risks of Anti-Poaching Regulations in Franchise Agreements, franchisor attorneys Carl E. Zwisler and Quentin R. Wittrock presented an overview of the latest developments relating to anti-poaching. They presented what has been involved in cases that have been filed against franchisors, and some of the theories that have been used in the defenses, and what the liabilities are in those claims. The presenters also discussed what franchisors should do and what they should not do in response to everything that is going on with anti-poaching regulations.

Attorney Wittrock, an anti-trust litigator in the firm’s Minneapolis office, explained why there is so much talk about this topic today. He said this is a situation where a lot of people have gotten into the act related to the anti-poaching, which started with the Obama Administration in October 2016. The Office announced that it would be enforcing anti-trust laws through the Department of Justice and the Federal Trade Commission, having to do with the hiring or non-hiring of people pursuant to these kinds of no-poaching or no-hiring clauses in franchise contracts. Wittrock said, as is often the case, when the government speaks plaintiff lawyers listen, and that started class action lawsuits [filed by employees], two being the Deslandes v. McDonald’s and Boutista v. CKE, in Illinois and California respectively, alleging franchisors are suppressing wages of workers with anti-poaching clauses.

An article in the New York Times, Why Aren’t Paychecks Growing: A Burger King Clause Offers a Cluewas a further look into the effect of no-hire clauses or anti-poaching agreements, and then followed by an economics report on anti-poaching agreements, and two more class actions were filed. By Gray Plant Mooty’s account, there are now four ongoing class action lawsuits against franchisors.

In 2018 the risks expanded when the Department of Justice Anti-Trust Chief, now under the Trump Administration, said they are preparing criminal cases to address anti-poaching agreements. That was followed by U.S. Attorney General Jeff Session last month issuing civil investigative demands that franchisors cough up their information regarding how much they use anti-poaching agreements.

Wittrock said as politicians began to get into the act, the Booker-Warren Bill, S2480, introduced by Sen. Corey Booker and Elizabeth Warren, came out just last week “to prohibit agreements between competitors that directly restrict the current or future employment of any employee.” Sponsors Booker and Warren wrote a letter to the Department of Justice Anti-Trust division asking about how the enforcement was progressing, which the DOJ had promised.

Attorney Carl Zwisler, a transactional lawyer in the firm’s Washington D.C. office, explained what the variations are of these types of clauses. They apply to all employees, all store-level managers, during employment and time restrictions for 90 days, six months, twelve months after employment. The scope covers all franchised and company-owned outlets, anywhere, and within ten miles of another outlet. He said they had also found that in some cases it applied to affiliates of the franchisor.

Proscribed conduct applies to recruiting, soliciting, and hiring as an employee, recruiting or hiring as an employee, partner, owner or director. Additional requirements found were that each employee must sign a noncompete and recommend employment applications describing prior employment in franchise network. And, in some clauses franchisees are third party beneficiaries with the right to bring suit.

Remedies for violations were found to be termination, damages and in several class lawsuits the Gray Plant attorneys found one with liquidated damages claiming $50,000 plus attorneys’ fees. According to an economics survey conducted for Krueger and Ashenfelter by Princeton economists, who retained Frandata to conduct the survey, they found that 58 percent of franchisors with 500 or more units had an APA (anti-poaching agreements) each franchisor with restrictions is identified by, a Princeton survey in “Theory and Evidence on Employer Collusion in the Franchise Sector,” Sept. 28, 2017.

Antitrust specialist Quentin Wittrock explained the legal theories that franchisee counsel is using to challenge anti-trust clauses in franchise agreements. The first is the Sherman Act, particularly Section 1 that prohibits competitors from agreeing amongst themselves, or colluding, to restrain trade. He gives three arrangements.

First, a horizontal agreement between three single-unit franchisees, all located in a certain geographic area. The franchisees had some type of meeting, making an agreeing that franchisees would not hire employees from another franchisee.” That would be a violation of the Sherman Act, in the view of plaintiff attorneys. Just like it would be if they were agreeing to fix prices. They would be deemed to be restraining competition in the employment area.

The second is when the franchisor gets involved. The franchisor tells the independent store owners in their franchise agreement that the franchisee “agrees with the franchisor that they will independently agree not hire from the other franchisees in their system.” That is more of a vertical arrangement, which seems less collusive among the franchisees themselves.

The third arrangement is more complicated. Wittrock explains that the “franchisor and franchisee will not hire from each other” or the “franchisee may not hire from the franchisor or other franchisees.” And, the franchisor will not hire away from the franchisee, all in the terms of the franchise agreement. He said, “This now becomes more in the plaintiff lawyer’s eyes a demonstration of collusion” not to hire amongst competitors, and they are competitors in that they are all competing to hire/employ the same people.

The fourth arrangement is even more complicated when there is a fourth store owned by the franchisor. So, when the franchise agreement states the franchisees won’t hire from other stores in the system, the franchisor is also agreeing it will not hire from other franchisees or the franchisor, so then they are deemed to be competitors. Wittrock said this is a situation that historically has been referred to as “dole distribution” where a franchisor or supplier operates at the same level as the franchisees or dealers. He said there is a separate analysis for that and we don’t know how that will play out in this situation.

In the litigation, plaintiffs describe these various arrangements as a “big scheme to reduce wage competition.” Wittrock said that is a cultural hot bottom, that there are the “haves and the haves not.” His review of the current class litigation has found that the ones representing the workers, using very demeaning language toward the employers, the franchisor and the franchisee stores. When you read the lawsuit complaints, Wittock says they are full of “spurious” allegations about the CEO of the company making hundreds of times more than the workers who are being repressed and restrained from competition.

The plaintiffs in the litigation also seem to take great relish in making the argument that this “no joint-employer” language that has found its way into franchise agreements is further evidence that supports the plaintiffs allegations. They assert that franchisors state that franchisees are independent contractors who make their own hiring decisions and employment practices, and that the franchisor is not involved, when in reality that is a falsehood that demonstrates the bad faith of the franchisor.

Gray Plant Mooty states that in the class action lawsuits, defendants’ arguments have been that no court has ruled a no-hire agreement to be illegal. And that franchising by nature is vertical relationship, and that no-hire agreements should be governed by Rule of Reason, rather than per se rule of illegality under Sherman Act.

Since no rulings have been made in these cases, franchisor should be aware of the risks:

Attorney Carl Zwisler said after they scheduled the Gray Plant Mooty webinar for last week, they learned the Attorney General had requested from a number of franchisors the following information:

Zwisler gave the following warnings to franchisors responding to the Attorney General’s demands:

Quentin Wittrock also advised franchisors that they may want to drop or modify anti-switching language in agreements. He asks, is it useful, enforced, necessary? And is it arguably horizontal, or is it overly restrictive?