Federal Trade Commission: Enforcement of the Franchise Rule
(31-JUL-01, GAO-01-776).
In general, franchises are business arrangements that require
payment for the opportunity to sell trademarked goods and
services whereas business opportunity ventures do not involve a
trademark, but require payment for the opportunity to distribute
goods or services with assistance in the form of locations or
accounts. The Federal Trade Commission's (FTC) Trade Regulation
Rule on Franchising and Business Opportunity Ventures (Franchise
Rule) requires franchise and business opportunity sellers to
disclose financial and other information to prospective
purchasers before they pay any money or sign an agreement. In
addition, FTC enforces section 5 of the FTC Act, which addresses
unfair or deceptive acts or practices. Over the past several
years, Congress and others have debated the need for a federal
statute to generally regulate franchises, including issues that
arise between franchisors and franchisees after the franchise
agreement is signed. Much of the debate centers on the relative
bargaining power franchisees have when dealing with their
franchisors over various issues, such as the location of new
franchised outlets or the termination of franchise relationships
without good cause and advance, written notice. This report
reviews FTC's enforcement of its Franchise Rule and discusses
various matters pertaining to franchise relationship issues. GAO
found that FTC has focused most of its Franchise Rule enforcement
resources on business opportunity ventures because, according to
FTC staff, problems in this area have been more pervasive than
problems with franchises. The extent and nature of franchise
relationship problems are unknown because of a lack of readily
available reliable data--that is, the data available are not
systematically gathered or gatherable. Absent such data, opinions
varied as to the need for a federal statute to regulate franchise
relationships. If Congress believes it needs empirical data
before considering franchise relationship legislation, it could
commission a study that would (1) design and implement an
approach for collecting empirical data on the extent and nature
of franchise relationship problems and (2) examine franchisor and
franchisee experiences with existing remedies for resolving
disputes.
-------------------------Indexing Terms-------------------------
REPORTNUM: GAO-01-776
ACCNO: A01300
TITLE: Federal Trade Commission: Enforcement of the Franchise
Rule
DATE: 07/31/2001
SUBJECT: Dispute settlement
Information disclosure
Retail facilities
Corporations
Trade regulation
Statistical data
Data collection
Consumer protection
California
FTC National Rule Enforcement Program
Illinois
Indiana
Maryland
Michigan
Minnesota
South Dakota
Virginia
Washington
******************************************************************
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GAO-01-776
Report to Congressional Requesters
United States General Accounting Office
GAO
July 2001 FEDERAL TRADE COMMISSION
Enforcement of the Franchise Rule
GAO- 01- 776
Page i GAO- 01- 776 FTC's Enforcement of the Franchise Rule Letter 1
Results in Brief 3 Background 5 FTC?s Complaints and Enforcement Activities
Focused Mostly on
Business Opportunities 10 Selected State Officials Have Mixed Views on the
Effectiveness of
FTC?s Communication and Coordination Efforts 18 Statistically Reliable Data
on Franchise Relationship Problems Do
Not Exist 21 Conclusions 28 Matter for Congressional Consideration 29 Agency
Comments and Our Evaluation 29
Appendix I Objectives, Scope, and Methodology 31
Appendix II States With Business Opportunity, Franchise Disclosure, and/ or
Franchise Relationship Laws 37
Appendix III Federal and State Jurisdiction Over Franchise Relationship
Issues 39
Appendix IV Information on FTC?s Investigation Process and Its Criteria for
Opening Investigations and Pursuing Cases 46
Appendix V Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000 49
Appendix VI FTC?s Efforts to Communicate and Coordinate Business Opportunity
and Franchise Enforcement Activities 65 Contents
Page ii GAO- 01- 776 FTC's Enforcement of the Franchise Rule Appendix VII
Views of Officials From Franchise Trade Associations
on the Need for Federal Franchise Legislation 70
Appendix VIII Comments From the Federal Trade Commission 75
Appendix IX Comments From the Small Business Administration 76
Tables
Table 1: Business Opportunity and Franchise Complaints FTC Reported
Receiving Each Year, 1993 through June 1999 11 Table 2: Business Opportunity
and Franchise Investigations FTC
Opened, 1993- 99 13 Table 3: Cases Involving Business Opportunities and
Franchises
Filed in Court by FTC Each Year, 1993- 2000 16 Table 6: Information on the
Franchise and Business Opportunity
Cases (Franchise Rule and/ or Section 5 of the FTC Act), Filed by FTC, 1993-
2000 55 Table 7: Information on FTC- State Coordinated Sweeps, 1995- 2000 66
Table 8: State Business Opportunity Officials? Views of the
Effectiveness of FTC?s Efforts to Communicate and Coordinate Enforcement
Activities During 1998- 2000 68 Table 9: State Franchise Officials? Views of
the Effectiveness of
FTC?s Efforts to Communicate and Coordinate Enforcement Activities During
1998- 2000 69
Abbreviations
AAFD American Association of Franchisees and Dealers AFA American Franchisee
Association DOJ Department of Justice FTC Federal Trade Commission IFA
International Franchise Association ITA International Trade Administration
NASAA North American Securities Administrators Association NFC National
Franchise Council SBA Small Business Administration
Page 1 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
July 31, 2001 The Honorable Thad Cochran The Honorable Susan Collins The
Honorable Charles E. Grassley United States Senate
This report responds to your request that we examine various issues
associated with the regulation of franchises and business opportunity
ventures, which represent large and growing segments of the retail and
service industries in the United States. In general, franchises are business
arrangements that require payment for the opportunity to sell trademarked
goods and services (e. g., fast food establishments), whereas business
opportunity ventures (or business opportunities) do not involve a trademark,
but require payment for the opportunity to distribute goods or services with
assistance in the form of locations or accounts (e. g., vending machine
routes).
The Federal Trade Commission?s (FTC) Trade Regulation Rule on Franchising
and Business Opportunity Ventures (hereafter called the Franchise Rule) 1
requires franchise and business opportunity sellers to disclose financial
and other information to prospective purchasers before they pay any money or
sign an agreement. In addition, FTC enforces section 5 of the FTC Act, which
addresses unfair or deceptive acts or practices. 2 Over the past several
years, Congress and others have debated the need for a federal statute to
generally regulate franchises, including issues that arise between
franchisors and franchisees after the franchise agreement is signed. Much of
the debate centers on the relative bargaining power franchisees have when
dealing with their franchisors over various issues, such as the location of
new franchised outlets or the termination of franchise relationships without
good cause and advance, written notice.
1 FTC?s Trade Regulation Rule, entitled ?Disclosure Requirements and
Prohibitions Concerning Franchising and Business Opportunity Ventures? (16
C. F. R. Part 436), became effective October 21, 1979, and is generally
referred to as the Franchise Rule.
2 Section 5 of the FTC Act is found at 15 U. S. C. sect. 45.
United States General Accounting Office Washington, DC 20548
Page 2 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
As requested, this report builds on our 1993 report that addressed FTC?s
enforcement of its Franchise Rule 3 and discusses various matters pertaining
to franchise relationship issues. For purposes of this report, we refer to
franchise relationship issues or problems as those that arise after the
franchise agreement has been signed (i. e., post- sale). Specifically, our
objectives were to describe (1) FTC?s efforts to enforce its Franchise Rule,
including FTC?s analysis of complaints and actions taken regarding
franchises and business opportunity ventures; (2) FTC?s efforts to
communicate and coordinate its franchise and business opportunity
enforcement activities with selected state regulatory officials; and (3) the
availability of data on the extent and nature of franchise relationship
problems. We are also providing information on the views of FTC staff,
franchise trade association officials, and selected state regulatory agency
officials regarding the need for federal legislation on franchise
relationships.
To meet our objectives, we obtained and analyzed data 4 from and discussed
these issues with FTC staff responsible for enforcing the Franchise Rule;
obtained and analyzed information from franchise and business opportunity
regulatory officials in the nine states that have both franchise and
business opportunity disclosure laws (California, Illinois, Indiana,
Maryland, Michigan, Minnesota, South Dakota, Virginia, and Washington); and
discussed franchise relationship issues with officials from franchise trade
associations. We also discussed franchise relationship issues with officials
from Iowa, as it has been recognized by franchise trade officials as having
the most comprehensive franchise relationship law of all the states. We
conducted our work between August 2000 and June 2001 in accordance with
generally accepted government auditing standards. (App. I discusses our
objectives, scope, and methodology in greater detail.)
3 Federal Trade Commission: Enforcement of the Trade Regulation Rule on
Franchising (GAO/ HRD- 93- 83, July 13, 1993). Among other things, the
report provided information on FTC?s enforcement of the Franchise Rule
during fiscal years 1989 through 1992. We did not compare FTC?s current
efforts to enforce the Rule with information in that report because of the
differences in the scope of our work and changes in the way FTC processes
complaints and conducts investigations.
4 Data on franchise and business opportunity complaints were available
through June 1999 from FTC?s franchise and business opportunity database,
which was drawn from the Consumer Information System, FTC?s general
complaint database. FTC?s investigation data were available for all of 1999,
and case data were available through 2000.
Page 3 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC has focused most of its Franchise Rule enforcement resources on business
opportunity ventures because, according to FTC staff, problems in this area
have been more pervasive than problems with franchises. For example, from
January 1993 through June 1999, FTC reported that it received 3,680 business
opportunity and franchise complaints, 92 percent of which involved business
opportunities and the remaining 8 percent pertained to franchises. From its
analysis of complaints and other case generation activities, FTC opened a
total of 332 investigations from 1993 through 1999, most of which pertained
to business opportunities. Also, from 1993 through 2000, FTC brought 162
cases to court for violations of the Franchise Rule and/ or section 5 of the
FTC Act. Of these, 88 percent involved business opportunities and the
remaining 12 percent pertained to franchises. For each of the 162 cases
brought to court, FTC obtained some type of relief, including injunctions,
civil penalties, or monetary redress for investors. FTC staff told us that
limited resources and other law enforcement priorities prevented FTC from
pursuing every meritorious complaint and investigation involving franchises
and business opportunities. They said that FTC generally pursued those cases
it believed would have the greatest likelihood of financial recovery for
franchise and business opportunity purchasers or the greatest deterrent
effect for potential violators.
We could not determine why FTC closed many of the business opportunity and
franchise investigations it had opened. Our review of the 79 files for
investigations that FTC closed from 1997 through 1999 for which it took no
further legal action showed that, while supervisory approval had been
obtained for closing each investigation, only 2 of the 79 files documented
the reasons why the investigations were closed. FTC staff told us that it is
likely these investigations were closed either because of a lack of
sufficient evidence of wrongdoing or the subject was out of business.
However, FTC staff did not have any documentation to support their
explanation because FTC did not require staff to document why franchise and
business opportunity investigations were closed. Based on our work, FTC has
subsequently revised its procedures to require staff to document the reason(
s) for closing franchise and business opportunity investigations that result
in no further legal action.
FTC uses various means, such as annual law enforcement meetings and periodic
conference calls, to communicate and coordinate its franchise and business
opportunity enforcement activities with the states. Responses to our survey
of regulatory officials in the nine states that have both franchise and
business opportunity disclosure laws indicated that FTC?s current
communication and coordination activities have been primarily focused on
business opportunity issues. The state officials had Results in Brief
Page 4 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
mixed views on the effectiveness of these activities, with business
opportunity officials generally commenting more favorably than franchise
officials.
The extent and nature of franchise relationship problems are unknown because
of a lack of readily available, statistically reliable data- that is, the
data available are not systematically gathered or generalizable. According
to FTC staff, data FTC has collected, while limited, suggest that franchise
relationship problems are isolated occurrences rather than prevalent
practices. Franchise trade association officials pointed to indicators or
anecdotal information to support their views regarding franchise
relationship problems, but they were not aware of any statistically reliable
data on the extent and nature of these problems. Likewise, none of the nine
states we contacted- eight of which have franchise relationship laws- had
readily available, statistically reliable data on the extent and nature of
franchise relationship problems.
Absent such data, opinions varied as to the need for a federal statute to
regulate franchise relationships. FTC staff told us that the data they have
collected are not sufficient to enable them to make an informed opinion
about the need for federal franchise relationship legislation. Franchise
trade association officials had divergent views on the need for a federal
statute. For example, officials from one association that represents
franchisees told us a federal statute is needed to address the franchisees?
lack of bargaining power in the franchise relationship and because existing
laws do not effectively address relationship issues. In contrast, officials
from another franchise association that represents both franchisors and
franchisees told us a federal statute is not needed because franchise
relationship issues are matters of contract law that should continue to be
addressed at the state level and because they believe presale disclosure is
the best way to protect prospective franchisees. We suggest that if Congress
believes it needs empirical data before considering franchise relationship
legislation, it could commission a study that would (1) design and implement
an approach for collecting empirical data on the extent and nature of
franchise relationship problems and (2) examine franchisor and franchisee
experiences with existing remedies for resolving disputes.
The Chairman of the Federal Trade Commission and the Acting Administrator of
the Small Business Administration (SBA) were provided a draft of this report
for comment. FTC concurred with the findings in this report but was silent
about any role it could play in further study of franchise relationship
issues. The SBA Acting Administrator said that SBA has used its limited
resources to perform studies of discreet franchise
Page 5 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
issues in the past, but implied that additional resources would be needed to
gather data and study franchise relationship issues.
Franchises and business opportunity ventures represent large and growing
segments of the retail and service sectors in the United States and are
rapidly replacing more traditional forms of small business ownership in the
U. S. economy. According to the International Franchise Association (IFA),
about 75 industries- such as those involving fast food, service,
maintenance, and lodging- operate within the franchise format to distribute
goods and services to consumers. IFA estimates that there are 1,500
business- format franchises 5 that operate more than 320,000 franchised
units in the United States. IFA estimates that these franchises account for
50 percent of all retail sales and generate $1 trillion in sales annually in
the United States. Data on the number and overall value of business
opportunity ventures were not available, in part, because according to FTC
staff, there is no national association or attorney group that represents
business opportunities.
In 1950, fewer than 100 companies used franchising in their marketing
operations, but with the rapid expansion of franchising in the 1960s,
federal and state governments began to see the need to protect prospective
franchise purchasers. In 1971, FTC announced it would initiate a proceeding
concerning the promulgation of a trade regulation rule on franchise sales
and pre- sale disclosures. Public hearings on franchising commenced in 1972,
and in 1978, FTC issued its final Franchise Rule, which took effect in
October 1979. The Rule, which has the full force and effect of federal law,
was promulgated in response to widespread evidence of unfair or deceptive
acts or practices in connection with the sale of franchises and business
opportunities.
FTC provided the following distinctions, consistent with the Franchise Rule,
between a franchise and a business opportunity:
A franchise requires payment of at least $500 for the opportunity to sell
trademarked goods and services with significant assistance or control of the
franchisor. An example of a franchise is a fast food restaurant chain.
5 According to IFA officials, business- format franchises offer a trademark
and/ or logo as well as a complete system for doing business. IFA did not
have data on other formats of franchising, such as product distribution
arrangements in which the dealer is identified with the manufacturer (e. g.,
automobile). Background
Federal and State Protections for Prospective Franchise and Business
Opportunity Purchasers
Page 6 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
To buy a franchise, the prospective purchaser would pay a required fee for
the opportunity to sell the chain?s products. In turn, the chain would help
the purchaser by (1) arranging for a store location, (2) providing training
on how to prepare the products, and (3) providing advertising, among other
things. The purchaser would agree to abide by the chain?s standards for
cleanliness, quality, uniforms, and so on.
A business opportunity requires payment of at least $500 for the
opportunity to distribute goods and services of the seller with assistance
in the form of locations or accounts. Business opportunities are less
structured than franchises and impose fewer ties between the sellers and
buyers. An example of a business opportunity is the purchase of vending
machine routes, where the purchaser would pay a required fee for the
opportunity to sell the company?s products (e. g., soft drinks, snack foods)
through vending machines. The purchaser would buy the vending machines and
products from the company, and the company would inform the purchaser of
specific stores or locations in which to place them.
The Franchise Rule is designed to enable prospective franchise and business
opportunity owners to protect themselves before investing by providing them
with the information needed to assess potential risks and benefits, make
meaningful comparisons with other investments, and further investigate the
business. This information is contained in detailed disclosure documents
that must be provided to prospective purchasers at least 10 business days
before they pay any money or legally commit to a purchase. The document
includes financial and other information about the seller, the business, and
the business relationship, including
the name, address, and telephone number of other purchasers;
a fully audited financial statement of the seller;
the background and experience of the business? key executives;
the seller?s litigation history;
the cost of starting and maintaining the business; and
the responsibilities the buyer and seller will have to each other once the
franchise or business opportunity is bought, including termination and
renewal rights.
Regarding the latter, the Franchise Rule requires the seller to disclose
basic information about its policies and practices, including matters such
as termination and renewal rights. However, the Franchise Rule does not
prescribe the terms and conditions for carrying out those policies and
practices.
The Franchise Rule requires disclosures only to prospective purchasers.
Franchise and business opportunity sellers do not register or file their
Page 7 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
disclosure documents with FTC, and FTC generally does not review or approve
disclosures, advertising, or agreements. FTC?s Bureau of Consumer Protection
enforces the Franchise Rule. According to FTC staff, during fiscal years
1997 through 1999, the Bureau spent an average of 13 workyears, or about 6
percent of its approximately 221 workyears, on Franchise Rule activities and
enforcement.
In addition to the Franchise Rule, FTC enforces section 5 of the FTC Act,
which declares unlawful unfair or deceptive acts or practices in or
affecting commerce. 6 Section 5 also provides that FTC does not have
authority to declare an act or practice unlawful (FTC?s ?unfairness?
jurisdiction) unless three specific criteria are met: (1) the act or
practice causes or is likely to cause substantial injury to consumers, (2)
the injury is not outweighed by countervailing benefits to consumers or to
competition, and (3) the act or practice is not reasonably avoidable by
consumers. According to FTC staff, in exercising its authority, FTC brings
?deception? cases in many consumer protection fields, including the sale of
franchises and business opportunities.
In general, only FTC, not private parties, can enforce violations of the
Franchise Rule or FTC Act. The FTC Act provides FTC with a broad range of
remedies for violations, including injunctions, civil penalties, and refund
of money to franchise and business opportunity purchasers. Also, in 1998, in
conjunction with the National Franchise Council (NFC), 7 FTC approved, on a
trial basis, an Alternative Rule Enforcement Program to resolve technical or
minor violations of the Franchise Rule that otherwise would be referred to
the Department of Justice for civil penalty action. Franchisors FTC refers
to the program are trained in Franchise Rule compliance and are monitored
for a period of years. Moreover, potentially injured consumers are notified
about the Franchise Rule violation and have the opportunity to resolve any
claim, and possibly seek redress, against the franchisor through mediation.
Violations involving fraud or unfair or deceptive business practices are not
candidates for the program. As of April 2001, nine companies had been
referred to the Alternative Rule Enforcement Program.
6 Section 5 of the FTC Act also declares unlawful unfair methods of
competition in or affecting commerce (FTC?s antitrust jurisdiction). Our
review did not include FTC?s involvement in this area.
7 NFC- a nonprofit organization of major national franchise systems-
administers the Alternative Rule Enforcement Program, including training and
monitoring activities. The CPR Institute for Dispute Resolution conducts
mediations related to the program.
Page 8 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
States also have a role in regulating the sale of franchises and business
opportunities. California passed the first franchise disclosure law in 1970.
Today, 15 states have specific franchise disclosure laws and 24 states have
specific business opportunity disclosure laws that are designed to protect
prospective purchasers. Like the federal Franchise Rule, these state laws
require franchise and business opportunity sellers to provide each
prospective purchaser with a pre- sale disclosure document containing
financial and other information. Unlike the Franchise Rule, some of these
state laws require franchisors and business opportunities to file their
disclosure documents with a designated state agency to review for accuracy
and/ or completeness.
In 1995, as part of its continuing review of trade regulation rules, FTC
announced that it was beginning to explore the need to revise the Franchise
Rule. In October 1999, FTC published proposed revisions to the Rule, which
focus exclusively on the sale of franchises. According to FTC, the proposed
revisions would reduce inconsistencies in federal and state disclosure
requirements governing franchise sales, address changes in the marketing of
franchises- such as the sale of franchises through the Internet- and provide
expanded disclosures concerning franchise relationships. FTC intends to
conduct a separate rulemaking proceeding for business opportunities once it
has completed the Franchise Rule review process because FTC views business
opportunities as distinct business arrangements that require separate
disclosure requirements. For example, FTC staff noted that many of the
current Franchise Rule?s presale disclosures do not apply to the sale of
most business opportunities, which typically involve fairly simple contracts
or purchase agreements. Because of pending comment periods and subsequent
FTC review and approval activities, FTC staff told us they could not provide
specific information on when the revised Rule would be issued.
FTC?s Franchise Rule only addresses how a franchise or business opportunity
is sold to a prospective purchaser. It generally does not regulate the
nature of the agreement a prospective franchise or business opportunity
venture purchaser may sign or changes in the relationship after the initial
contract has been signed. FTC staff told us that FTC generally lacks the
authority to intervene in private franchise contracts and related
relationship issues. 8 Rather, these issues are generally
8 According to FTC staff, post- sale relationship issues generally do not
pertain to business opportunities because business opportunity problems
predominately involve pre- sale rather than post- sale issues. Federal and
State
Protections Over Franchise Relationships
Page 9 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
considered matters of contract law that traditionally have been governed at
the state level. Currently, 17 states have enacted franchise relationship
laws of general applicability to govern the franchise relationship after the
agreement has been signed. 9 These laws vary in their scope, with Iowa?s
relationship law recognized as the most comprehensive.
State franchise relationship laws generally provide for a private right of
action that permits franchisees to bring lawsuits for violations under their
respective state?s particular law. States that do not have specific
disclosure or relationship laws have other laws to protect consumers, such
as general consumer protection or fraud statutes. These other laws give
parties the right to file a lawsuit directly in state court. (App. II lists
the states that have business opportunity disclosure, franchise disclosure,
and/ or franchise relationship laws.)
Currently, federal laws governing franchise relationships are specifically
limited to the automobile and petroleum industries. Under the Automobile
Dealers Day in Court Act of 1956, a franchise automobile dealer can bring an
action in U. S. District Court against its automobile manufacturer to
recover damages caused by the manufacturer?s failure to act in good faith in
(1) performing or complying with any of the terms or provisions of the
franchise agreement or (2) terminating, canceling, or not renewing the
franchise. 10 Under the Petroleum Marketing Practices Act of 1978, a
franchisor engaged in the sale or distribution of motor fuel is prohibited
from terminating a franchise during the term of the franchise agreement
unless the termination or nonrenewal is based on grounds specified in the
law. 11 The act mandates a 90- day advance notice of the termination or
nonrenewal, unless under the circumstances, it would be unreasonable to
provide 90 days? notice. The act also provides for franchisees to file a
lawsuit against franchisors in U. S. District Court for failure to comply
with the act?s requirements. The legislative histories of both acts
indicated that they were needed to remedy the disparity of power between the
franchisor and the franchisee.
9 In addition to the 17 states with general franchise relationship laws, all
50 states have enacted franchise relationship laws covering specific
industries, such as motor vehicles, farm equipment, and alcoholic beverages.
10 15 U. S. C. sect.sect. 1221- 1225. 11 The act contains three titles and is found
at 15 U. S. C. sect. 2801 et seq. For this report, we focused on the title I
franchise relationship provisions found at 15 U. S. C. sect.sect. 2801- 2806.
Page 10 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
As mentioned earlier, Congress and others have debated whether a federal
statute is needed to generally regulate franchising, particularly in regard
to franchise relationship issues. Much of the debate has centered on the
relative bargaining power franchisees have when dealing with their
franchisors over various issues, such as the location of new franchise
outlets or the termination of franchise relationships without good cause and
advance, written notice. Various bills have been introduced in Congress that
would have statutorily applied federal regulation to franchises in general.
Among other things, these proposals would have expanded federal jurisdiction
to include issues involving the relationship between franchisees and
franchisors after the franchise agreement is signed. One bill, H. R. 3308,
the Small Business Franchise Act of 1999, would have ?established minimum
standards of fair conduct in franchise sales and franchise business
relationships.? According to the bill, the purpose of the act would be ?to
promote fair and equitable franchise agreements, to establish uniform
standards of conduct in franchise relationships and to create uniform
private Federal remedies for violations of Federal Law.? (App. III provides
additional information on federal and state laws and regulations related to
franchise relationship issues.)
FTC has focused most of its franchise and business opportunity enforcement
activities on business opportunity ventures because, according to FTC staff,
problems such as fraud and other types of misrepresentation are much more
prevalent with business opportunities than with franchises. In fact,
complaints about business opportunity ventures, including those about
fraudulent activity, have been much more common than those about franchises.
FTC also focused most of its franchise and business opportunity
investigations and court cases on business opportunities. From 1993 through
1999, FTC opened 332 investigations, most of which entailed business
opportunity issues. From 1993 through 2000, FTC filed 142 business
opportunity and 20 franchise cases in court and obtained some sort of relief
in all of them. Although FTC has been successful with the cases it has
pursued, we could not determine why FTC closed some of the business
opportunity and franchise investigations it had opened because FTC did not
require its staff to document why investigations are closed.
From January 1993 through June 1999, FTC reported that it received 3, 680
business opportunity and franchise complaints, of which 3,392 (92 percent)
pertained to business opportunities and 288 (8 percent) pertained FTC?s
Complaints and
Enforcement Activities Focused Mostly on Business Opportunities
Most Complaints Pertained to Business Opportunities
Page 11 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
to franchises. 12 According to FTC staff, although the complaint data in its
database are the most comprehensive available, they do not necessarily
provide a complete picture of all complaints that came to FTC from 1993
through June 1999. The FTC staff added that, for many reasons, complete data
for earlier years (especially 1993 and 1994) do not exist. As a result, the
FTC staff said that they would be reluctant to extrapolate from the
complaint data that complaints have increased significantly since 1993. They
added that more complete data for determining trends would be complaints
filed in 1997 and beyond. Table 1 shows all of the business opportunity and
franchise complaints FTC reported it received each year from 1993 through
June 1999.
Table 1: Business Opportunity and Franchise Complaints FTC Reported
Receiving Each Year, 1993 through June 1999 Complaint 1993 a 1994 a 1995 a
1996 a 1997 1998 1999 b Total
Business opportunity 30 79 570 277 759 1,089 588 3,392 Franchise 5 2 9
953108102288
Total 35 81 579 286 812 1,197 690 3,680
a According to FTC staff, data for these years were not complete and FTC
would be reluctant to extrapolate from the data that complaints have
increased since these years. b As of May 2001, FTC- analyzed business
opportunity and franchise complaint data were available
only through June 30, 1999. Source: FTC.
According to FTC staff, the growth in the number of complaints documented
during 1997 through June 1999 could be attributable to a number of things,
including changes in the way FTC collects and compiles complaint data. For
example, in 1998, FTC established a toll- free hotline and published a Web-
based on- line complaint form, which allow consumers to report problems and
allegations about such factors as abuses related to the Franchise Rule. In
addition, FTC has received more complaints in recent years because it now
has agreements with many groups- such as state Attorney General Offices and
regional Better Business Bureaus- that collect and refer complaints for
input into FTC?s Consumer Sentinel complaint database.
12 In addition to the 3,680 franchise and business opportunity complaints,
the FTC franchise and business opportunity complaint database contained 832
other complaints FTC classified as ?miscellaneous? because they could not be
clearly determined to relate to either franchises or business opportunities.
Page 12 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC staff provided us with the results of FTC?s analysis of the 288
franchise complaints it received from January 1993 through June 1999. FTC?s
analysis showed that 134 of the 288 franchise complaints did not contain
sufficient information to determine the specific allegation that was being
made. Of the remaining 154 complaints, FTC?s analysis showed that
13 alleged problems involving pre- sale disclosure issues covered by the
Franchise Rule, such as failure to provide disclosure documents;
96 contained allegations pertaining exclusively to post- sale issues that
are not covered by the Franchise Rule, such as threats to terminate a
franchise relationship or failure to provide a promised franchise location;
and
45 contained allegations involving both pre- sale disclosure issues
covered by the Rule and post- sale issues not covered by the Rule.
According to FTC?s Franchise Rule Coordinator, FTC has reviewed franchise
and business opportunity complaints on a regular basis and has used more
sophisticated methods as they have become available. From 1993 through 1997,
for example, the Franchise Rule Coordinator said he manually prepared
detailed monthly and annual reports of complaints and enforcement activities
for distribution throughout FTC. In 1998, when FTC improved its data
reporting and retrieval capabilities via its Consumer Response Center, the
Franchise Rule Coordinator stopped preparing formal reports. Instead, he
said he reviewed database files on a regular basis to identify potential
investigations and trends, while other FTC staff also reviewed complaint
data for investigative potential, especially in connection with law
enforcement sweeps. 13
The Franchise Rule Coordinator said that, beginning in January 2000, he
requested monthly reports to aid him in reviewing franchise complaints.
Consequently, since March 2000, FTC has generated monthly reports of all
franchise complaints, which the Coordinator said he personally reviews for
investigative potential. FTC has not analyzed each of the individual
business opportunity complaints it has received, but FTC staff said that
they believe that almost all of the business opportunity complaints
represent pre- sale concerns about either fraud or misrepresentation- such
as false or unsubstantiated earnings claims- that fall under FTC?s
jurisdiction. The Franchise Rule Coordinator told us that FTC uses other
means to evaluate business opportunity complaints. For example, he said that
(1) staff from the Consumer Response Center review the business opportunity
complaint data to look for patterns and practices of violations,
13 Sweeps are focused law enforcement efforts that target a specific law
violation or problem industry.
Page 13 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
(2) analysts in FTC?s Division of Planning and Information review complaint
data for trends, and (3) federal and state enforcement officials discuss
complaints during periodic conference calls with FTC staff.
Since 1993, FTC focused most of its franchise and business opportunity
investigations and court cases on business opportunities. According to FTC
staff, these enforcement efforts were directed more heavily on business
opportunities than franchises because FTC received more complaints on
business opportunities and because fraud and other types of
misrepresentation are much more likely to occur with business opportunities.
FTC data showed that, from 1993 through 1999, FTC opened a total of 332
franchise and business opportunity investigations, of which 109 (33 percent)
clearly involved business opportunities and 59 (18 percent) involved
franchises. According to FTC?s Franchise Rule Coordinator, the remaining 164
(49 percent) investigations could not be clearly categorized from the
information FTC had available because the investigating attorney did not
note or was not able to determine whether the business was a franchise or a
business opportunity. He also told us that although it is likely that more
than 90 percent of these 164 investigations involved business opportunities,
he could not provide exact numbers because FTC?s focus is on whether or not
some type of violation occurred, not the type of business. Table 2 provides
information on the number of franchise and business opportunity
investigations FTC opened during 1993 through 1999.
Table 2: Business Opportunity and Franchise Investigations FTC Opened, 1993-
99 Investigation 1993- 94 1995- 99 Total
Business opportunity 20 89 109 Franchise 43 16 59 Not categorized a 46 228
164
Total 109 223 332
a According to FTC?s Franchise Rule Coordinator, FTC could not categorize
some of the investigations as relating to either franchises or business
opportunities because attorneys did not note or were unable to determine the
type of business on FTC records or could not determine the type of business
under investigation. However, he said that it is likely that more than 90
percent of these investigations involved business opportunities.
Source: FTC.
In regard to the fluctuations in the number of investigations FTC has opened
from 1993 through 1999, FTC staff noted that the number of franchise
investigations FTC opened decreased from 43 during 1993- 94, to Most
Investigations and
Court Cases Focused on Business Opportunities
Investigations
Page 14 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
16 during 1995- 99. The FTC staff stated that the reasons for the decrease
include the following.
Between late 1994 and early 1995, FTC recognized that business
opportunities represented a much larger problem than franchises. As a
result, FTC began to focus its enforcement efforts on business
opportunities.
Franchise cases are much more complex than business opportunity matters
and consume a significant amount of law enforcement resources. There are
practical limits to the number of franchise investigations that staff can
pursue at any one time because they are resource- intensive.
FTC staff told us that the number of business opportunity and franchise
investigations opened do not directly correlate with the number of
complaints because (1) investigations are opened as a result of sweeps and
other internal case generation activities, such as reviews of the Internet
and newspapers, that are not necessarily complaint- based and (2) not all
complaints get investigated. Regarding the latter, FTC staff explained that
many complaints do not result in an investigation because they do not meet
FTC?s criteria for opening an investigation. For example, depending on the
type of problem alleged, the complaint may involve issues outside FTC?s
jurisdiction. Also, FTC examines such things as the level of consumer injury
and the number of consumers affected to determine whether it is in the
public interest to open an investigation. Regarding the latter, FTC staff
said that individual complaints may not show that a company has engaged in a
pattern or practice of illegal conduct that would warrant opening an
investigation. According to FTC?s analyses of the complaints it has
received, the vast majority are isolated matters involving single complaints
against companies. Based on these factors, most complaints FTC receives are
not investigated. In addition, FTC staff told us that limited resources and
other law enforcement priorities prevented FTC from pursuing every
meritorious complaint it received involving franchises and business
opportunities. (App. IV provides further information on the investigations
process and the criteria FTC uses for deciding when to open investigations.)
To better understand how FTC used its resources to carry out franchise and
business opportunity investigations, we attempted to determine how long it
took FTC staff to process and close investigations using the number of hours
they billed for each of the 332 investigations opened from 1993 through
1999. However, information on hours billed was available for only 217 (65
percent) of the 332 investigations FTC opened throughout the period. The 217
investigations included 125 that were closed with no further legal action
and 92 that resulted in cases being filed. For the 125
Page 15 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
investigations that FTC closed with no further legal action, FTC staff
billed from 1 to 3,367 hours, with an average time of 228 hours and a median
time of 64 hours. For the 92 investigations for which FTC filed cases, FTC
staff billed from 2 to 5,738 hours, with an average time of 887 hours and a
median time of 628 hours.
According to FTC staff, the overwhelming majority of the investigations for
which no or few hours were billed involved business opportunities. The staff
added that the reasons why staff may not have charged any or few hours
include that (1) staff determined that the company was out of business, (2)
a state or other law enforcement agency was already looking into the matter,
(3) staff may not have billed for the time spent on the investigation, or
(4) staff may have billed hours to projects that combined investigations (i.
e., sweeps) rather than to individual investigations.
FTC staff told us that FTC does not have specific written criteria or
standards to measure whether it carried out its investigations in a timely
manner. According to FTC staff, the amount of time it takes FTC staff to
complete an investigation depends on several factors, including the facts
and complexity of the case, the degree of cooperation obtained from the
target of the investigation, and the competing demands of the staff
responsible for the investigation. The staff told us that FTC?s associate
directors receive regular updates from staff on pending investigations and
that the bureau director also receives this information in regular meetings
with the associate directors.
Similar to its complaint and investigation data, most of the cases FTC filed
in court for violations of the Franchise Rule and/ or section 5 of the FTC
Act involved business opportunities. From 1993 through 2000, FTC filed 162
cases in court for violations of the Franchise Rule and/ or section 5 of the
FTC Act- 142 (88 percent) involved business opportunities and 20 (12
percent) involved franchises. 14 Table 3 shows the distribution of business
opportunity and franchise cases filed in court from 1993 through 2000 that
involved the Franchise Rule and/ or section 5 of the FTC Act.
14 Data provided by FTC show that an additional five cases were filed during
this time period, but the data did not classify whether these cases
pertained to franchises or business opportunities. Court Filings
Page 16 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Table 3: Cases Involving Business Opportunities and Franchises Filed in
Court by FTC Each Year, 1993- 2000 Violation 1993 1994 1995 1996 1997 1998
1999 2000 Total Business opportunity
Franchise R ule 0 023 5 2 2 02254 FTC A ct, sec. 5 1 6 1 9 1 4 3 833 Both 3
512 9 710 2 755
Subtotal 4 11 36 23 10 16537142
Franchise
Franchise R ule 3 2 1 0 0 0 0 0 6 FTC A ct, sec. 5 0 0 0 0 0 0 0 0 0 Both 4
2 4 3 0 0 0 114
Subtotal 7 4 5 3 0 0 0 120
Total 11 15 41 26 10 16 5 38 162
Note: In addition to these cases, FTC also referred eight matters to NFC?s
Alternative Rule Enforcement Program during the period 1998 through 2000. As
of April 2001, FTC had referred one additional matter to this program. As
mentioned earlier, FTC approved this program on a trial basis in 1998 to
resolve technical or minor violations of the Franchise Rule that otherwise
would be referred to the Department of Justice for civil penalty action.
Franchisors referred to the program are trained in Franchise Rule compliance
and are monitored for a period of years. Also, potentially injured consumers
are notified about the Franchise Rule violation and have the opportunity to
resolve any claim, and possibly seek redress, against the franchisor through
mediation.
Source: FTC.
Not all of the investigations that FTC opened resulted in cases being filed
in court. According to FTC staff, limited resources and other law
enforcement priorities prevented FTC from pursuing every meritorious
investigation involving franchises and business opportunities. The staff
added that FTC generally pursues those court cases that it believes have the
greatest likelihood of financial recovery for franchise and business
opportunity purchasers or have the greatest deterrent effect for potential
violators. Among the other criteria FTC uses to decide which cases to pursue
are whether (1) the problem is an isolated event or part of a pattern or
practice; (2) there is a viable, meaningful remedy; or (3) there are
alternatives to federal intervention. (See app. IV for further information
on FTC?s case selection criteria.) All litigated cases have resulted in such
relief as court injunctions, civil penalties against franchisors, or
monetary redress for investors. (App. V provides information on each case
involving franchises and business opportunities that FTC filed in court from
1993 through 2000.)
We reviewed a sample of files for business opportunity and franchise
investigations FTC closed without taking further legal action to determine
why FTC closed those investigations. We reviewed all 79 files for
investigations FTC closed from 1997 through 1999 for which it took no
Unclear Why FTC Closed
Investigations Without Further Action
Page 17 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
further legal action. Specifically, we attempted to gather information on
(1) the date the investigation was opened, (2) the reasons for closing the
investigation, and (3) the date the investigation was closed. We reviewed
all documentation in the file, including the Matter Initiation Notice,
Matter Update Notice, and Matter Profile. 15
Our results showed that, while supervisory approval had been obtained for
the opening and subsequent closing of each of the investigations, only 2 of
the 79 files contained documents showing the reasons why the investigations
were closed. Thus, it was not clear why FTC did not take further legal
action on the other 77 business opportunity and franchise investigations
that it closed during the period. FTC staff told us that it is likely these
investigations were closed either because of a lack of sufficient evidence
of wrongdoing or the subject was out of business. However, the FTC staff did
not have any documentation to support their explanation. According to the
Comptroller General?s Standards for Internal Control in the Federal
Government, 16 all transactions and other
?significant? events need to be clearly documented, and the documentation
should be readily available for examination.
During our review, we informed FTC staff that our report would likely
contain a recommendation that FTC develop and implement procedures to
require FTC staff to document the reasons why franchise and business
opportunity investigations are closed. At that time, FTC staff told us that
there was little, if any, historical value in reviewing past closed
investigations of this type. The staff added that FTC staff has always been
required to justify a recommendation to close an investigation in oral
discussions with the assistant or associate directors who have
responsibility for approving such requests. However, after further
consideration, FTC staff determined that documenting the oral discussions
was not unreasonable. Accordingly, in June 2001, the Associate Director for
the Bureau of Consumer Protection?s Division of Marketing Practices issued a
memorandum to all Marketing Practices staff to inform them of revised
procedures related to franchise and business opportunity investigations that
are closed without filing an action in court. More specifically, the revised
procedures specify that each and every Matter Update Notice closing a
franchise or business opportunity investigation must state the reason( s)
why the investigation is being closed. FTC also
15 These forms are used by FTC staff to document information regarding
investigations and are generally found in the investigation files. 16 See
GAO/ AIMD- 00- 21. 3. 1 (Nov. 1999).
Page 18 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
modified its Matter Update Notice to include check boxes setting forth the
most common reasons for closure.
FTC uses various means, such as law enforcement summits and conference
calls, to communicate and coordinate its franchise and business opportunity
enforcement activities with the states. Regulatory officials from the nine
states with franchise and business opportunity disclosure laws had mixed
views about the effectiveness of FTC?s efforts. Generally, state business
opportunity regulatory officials viewed FTC?s communication and coordination
efforts as being more effective than did the state franchise regulatory
officials we contacted. This may be due, in large part, to the fact that
FTC?s communication and coordination efforts with state regulatory agencies
during 1998 through 2000 have been primarily focused on business opportunity
issues.
In its 1998 annual report, FTC commented
?The Commission works closely with other federal agencies, states, and local
authorities in a variety of coordinated law enforcement efforts and task
forces, including individual cases involving fraud and deceptive
advertising, efforts to boost industry compliance with rules and
regulations, and consumer and law enforcement training programs.? 17
FTC also reported that by sharing information and resources, joint efforts
effectively target issues that have direct impact on consumers. According to
FTC?s Franchise Rule Coordinator, FTC staff regularly communicate and
coordinate business opportunity and franchise enforcement activities with
state business opportunity and franchise regulatory officials through
various means, including annual law enforcement summits, joint FTC- state
enforcement actions, monthly telephone conference calls, and the Consumer
Sentinel complaint database.
We surveyed the eight business opportunity and nine franchise regulatory
officials in the nine states that have both business opportunity and
franchise disclosure laws to obtain their views on the effectiveness of
FTC?s efforts to communicate and coordinate enforcement activities in their
states, and we received responses from all of them. 18 From our
17 ?Annual Report of the Federal Trade Commission for Fiscal Year Ended
September 30, 1998.? 18 Only eight state business opportunity regulatory
officials were contacted because Virginia has not designated an agency to
enforce its business opportunity law. Selected State
Officials Have Mixed Views on the Effectiveness of FTC?s Communication and
Coordination Efforts
Page 19 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
survey, 13 of the 17 state regulatory officials reported that, overall,
FTC?s efforts to communicate and coordinate enforcement activities during
calendar years 1998 through 2000 were either ?very effective? or
?somewhat effective.? All eight business opportunity regulatory officials
who responded reported that FTC?s overall communication and enforcement
coordination efforts in 1998 through 2000 were effective. Specifically, five
officials reported that FTC?s efforts were ?very effective,? and the other
three officials reported that FTC?s efforts were ?somewhat effective.? One
state business opportunity regulatory official commented that informal
communication and joint enforcement actions have been highly useful in
promoting effective communication and networking opportunities. The majority
of the state business opportunity regulatory officials we contacted have
participated in annual law enforcement summits, monthly conference calls,
and joint FTC- state law enforcement actions- all of which facilitate
communication and coordination.
In comparison with the state business opportunity regulatory officials,
state franchise regulatory officials viewed FTC?s communication and
coordination efforts as being less effective. Specifically, five of the nine
state franchise regulatory officials we contacted viewed FTC?s communication
and coordination efforts as being ?somewhat effective,? and the remaining
four viewed FTC?s efforts as being ?not effective? because of their limited
interaction with FTC on franchise issues. One franchise regulatory official
commented that since annual summits and monthly conference calls focus
primarily on business opportunity issues, they are generally not effective
in assisting officials that enforce state franchise laws. In general, the
survey indicated that state franchise regulatory officials are interested in
more interaction with FTC, and among the suggestions were for FTC to (1)
provide better feedback on the inquiries made and complaints referred by
states, (2) take more franchise enforcement actions, and (3) promote more
interaction through an electronic mail list. According to FTC?s Franchise
Rule Coordinator, FTC has recently begun to work with state franchise
regulators to develop an electronic mail list.
Appendix VI provides further information on (1) the various means FTC uses
to communicate information and coordinate business opportunity and franchise
enforcement activities with state regulatory officials and (2) state
regulatory officials? views of the effectiveness of specific FTC efforts to
communicate and coordinate enforcement activities during calendar years 1998
through 2000.
Page 20 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Our survey of state regulatory officials showed that support for FTC to
perform reviews of disclosure documents is mixed. While a majority of the
business opportunity officials who responded to our survey would like to see
FTC take on this responsibility, a majority of the state franchise
regulatory officials who responded did not see a need for FTC to review
disclosure documents.
Specifically, we asked state business opportunity and franchise regulatory
officials in the nine states that have both business opportunity and
franchise disclosure laws whether FTC should review all or a random sample
of disclosure documents for accuracy and/ or completeness. 19 Our survey
results showed that, of the eight state business opportunity regulatory
officials who responded to our survey, five responded that FTC should
perform such reviews, two responded that disclosure document reviews should
be left to state agencies, and the remaining official expressed no opinion.
Of the nine state franchise regulatory officials who responded to our
survey, two responded that FTC should perform such reviews, five responded
that disclosure document reviews should be left to state agencies, and the
remaining two officials expressed no opinion.
According to FTC staff, FTC does not have a mandate nor the resources to
review randomly selected or all disclosure documents. FTC staff further
stated that because selected states already review disclosure documents,
requiring FTC to perform such reviews would be costly and consume resources
that could be better spent on other law enforcement activities. An official
representing the North American Securities Administrators Association
(NASAA) commented that state governments are generally better prepared to
perform disclosure document reviews than is the federal government (i. e.,
FTC).
In 2000, NASAA implemented a project to coordinate and streamline the
franchise disclosure registration and review process. Eleven of the 12
states that require registration of disclosure documents and perform
disclosure document reviews are part of the coordinated review project. 20
The project is designed so that franchisors can register their disclosure
documents in some or all registration states at one time; it is not
19 Of the nine states included in our survey, eight states perform reviews
of franchise disclosure documents and seven states perform reviews of
business opportunity disclosure documents.
20 The 11 states participating are Hawaii, Illinois, Indiana, Maryland,
Minnesota, New York, North Dakota, Rhode Island, South Dakota, Virginia, and
Washington. California is the only state that reviews disclosure documents
that is not participating. Views Are Mixed on the Need
for FTC Reviews of Disclosure Documents
Implementation of the Coordinated Review Project
Page 21 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
mandatory, rather the franchisor must opt for it. The project is based on
the premise that most franchisors do not mind responding to state franchise
examiners? comments regarding disclosure documents, but they want assurances
that a disclosure document approved in one state will be approved in
another. 21 Disclosure documents approved through the review process are
deemed to be in compliance with franchise disclosure laws in the states
conducting the coordinated reviews. Therefore, except for California (the
only review state not participating in the process), NASAA would deem the
approved disclosure documents suitable for submission to franchisees
nationwide. This would include all states that do not have a franchise
disclosure law.
The extent and nature of franchise relationship problems are unknown because
neither FTC, franchise trade associations, nor state regulatory agencies
have readily available, statistically reliable data- that is, the data
available are not systematically gathered or generalizable- that would
indicate the full scope of these problems. Based on the data it has
collected, FTC recognizes that some franchisees experience franchise
relationship problems or are otherwise dissatisfied with their franchise
purchase. FTC staff maintain, however, that the data FTC has compiled, while
not comprehensive, suggest that franchise relationship problems are isolated
incidents and are not prevalent across all franchises. Various franchise
trade association officials pointed to indicators or anecdotal information
to support their views regarding franchise relationship problems, but none
had any statistically reliable data on the extent and nature of these
problems. Further, selected state regulatory officials did not have readily
available, statistically reliable data on the extent and nature of franchise
relationship problems. It may be possible to collect empirical data on the
extent and nature of franchise relationship problems through a study of
franchisors and franchisees- but there could be limitations to obtaining
such data, as well as cost and time considerations. Nonetheless, such data
might provide valuable insights as to whether a federal statute is needed to
generally regulate franchise relationships.
21 According to a NASAA official, the most common complaint franchisors have
is that state franchise registration requirements are not uniform and that
the disclosure guidelines are interpreted differently from state to state.
Statistically Reliable
Data on Franchise Relationship Problems Do Not Exist
Page 22 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
The data FTC has obtained to date, including franchisees? complaints and
comments it received during its process for revising the Franchise Rule,
indicate that franchise relationship problems occur. However, according to
FTC staff, these data tend to suggest that they are isolated incidents that
are not prevalent across all franchises. For example, FTC complaint data
showed that, from January 1993 through June 1999, FTC received 141 franchise
complaints that contained allegations involving one or more franchise post-
sale issues. Moreover, FTC data showed that few franchisors received more
than one complaint in that the 141 complaints involved 102 separate
franchisors, and that only 23 of the 102 franchisors received more than one
complaint.
FTC?s current assessment that franchise relationship complaints are likely
isolated incidents seems to contradict an earlier statement made by FTC in
its 1999 Notice of Proposed Rulemaking. 22 In the notice, FTC stated that
there were a ?significant? number of complaints from franchisees pertaining
to franchise relationship issues. FTC staff told us, however, that FTC?s
characterization of complaints as ?significant? pertained strictly to
comments and concerns FTC received during the rulemaking process and are not
comparable to the franchisee complaints contained in FTC?s complaint
database. The staff noted that, based on the information it had at that
time, FTC believed that the franchisees? comments and concerns were
?significant.? The staff added, however, that FTC?s subsequent analysis of
the rulemaking record tends to confirm that franchise relationship concerns
are isolated events involving a few franchisors.
The FTC staff explained that since the Franchise Rule review process began
in 1995, FTC has received comments or statements for the record from a total
of 96 individual franchisees or trademark- specific franchisee associations.
FTC staff noted that nearly half of the 96 submitted comments were identical
form letters that discussed their general support for broader franchise
relationship controls, but shed little, if any, light on their specific
experiences. FTC staff also told us that more than half of the 96 comments
raised issues involving only three franchisors. Moreover, the FTC staff told
us that there was little consistency among the remaining individual
comments, which covered a wide range of franchise relationship issues, such
as concerns about franchise renewals, lack of performance, and lack of
disclosure to existing franchisees.
22 Federal Trade Commission, Notice of Proposed Rulemaking, 64 Fed. Reg. 57,
294, 57, 296 (1999). FTC Data Do Not Reveal
Full Extent and Nature of Franchise Relationship Problems
Page 23 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC staff said that, based on the information compiled during the process
for revising the Franchise Rule, it was clear that some existing franchisees
experience various franchise relationship problems or are otherwise
dissatisfied with their franchise purchase. However, while FTC staff told us
that FTC data suggest that franchise relationship problems are not
widespread, they did not know the extent to which franchisees used other
avenues- such as mediation, arbitration, or litigation- to address their
concerns. As a result, FTC staff stated that FTC?s data are not sufficient
to assess the overall extent of franchise relationship problems.
FTC staff also stated that the isolated instances of franchise relationship
problems do not justify FTC conducting a more widespread investigation of
relationship issues or developing a new rule that addresses the terms and
conditions of franchise contracts. The FTC staff told us that absent
evidence of widespread franchise relationship abuses, the prudent approach
is to continue to investigate instances of such abuses, where they occur,
under FTC?s current unfairness authority (i. e., section 5 of the FTC Act).
FTC staff noted, however, that FTC?s unfairness authority generally does not
apply to franchise relationship issues. In fact, to date, FTC has conducted
only two franchise investigations that were based solely on FTC?s unfairness
jurisdiction. 23 Both investigations were ultimately closed because FTC
determined there was insufficient evidence to satisfy the section 5
unfairness criteria. 24
FTC staff view pre- sale disclosure as the best available vehicle, within
FTC?s statutory authority, to address franchise relationship issues. As
such, FTC?s 1999 Notice of Proposed Rulemaking proposes to enhance the
Franchise Rule?s disclosure requirements to provide prospective franchisees
with additional information regarding the relationship before they commit to
buying a franchise. 25 FTC staff told us that this is consistent with FTC?s
long- held view that free and informed choice is the best regulator of the
market. According to FTC staff, proposed revisions to the Franchise Rule
would, among other things, increase (1) franchisors?
23 FTC staff told us that FTC is currently pursuing allegations of unfair or
deceptive acts or practices in one franchise system, but that specific
unfairness investigations have not been pursued to date. FTC added that its
staff may have also explored unfairness as one of many issues in other
franchise investigations.
24 Appendix III contains additional information about FTC?s unfairness
jurisdiction. 25 According to FTC staff, there are several more steps before
such a proposal could become a final rule. The next step in the rulemaking
process is a staff report to the Commission that will be subject to notice
and comment.
Page 24 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
disclosures about prior litigation with franchisees; (2) the information
available to prospective franchisees concerning source of supply
restrictions and the ability to use alternative goods; (3) the disclosures
about how sites are selected and the nature of any training programs; and
(4) information available about renewals, terminations, and transfers. The
proposed revisions to the Rule would not address any issue that arises after
franchise agreements have been signed. That is, the changes would relate to
pre- sale disclosure, but would provide no additional post- sale
protections.
Finally, FTC staff told us that FTC?s analysis of complaints and other
evidence it has collected is not sufficient to enable them to assess the
need for new federal franchise relationship legislation. Rather, FTC staff
said that the various franchise trade associations that represent
franchisors and franchisees may be in a better position than FTC to explain
the competing views on the need for legislation, as well as the consequences
flowing from each, and would have the best statistics and policy analyses
related to any proposed legislation.
Officials from the four franchise trade associations we contacted- the
American Franchisee Association (AFA), the American Association of
Franchisees and Dealers (AAFD), the International Franchise Association
(IFA), and the National Franchise Council (NFC)- told us that they were not
aware of any statistically reliable data that quantify the extent and nature
of franchise relationship problems. 26 Absent such data, the officials
provided indicators or anecdotal evidence that supported their particular
positions about franchise relationship problems.
For example, the president of AFA- a group that supports a federal statute
to generally regulate franchises- said that at the organization?s annual
Franchisee Leadership Summit in April 2001, the 25 franchisee leaders of
independent associations that attended reached consensus that the top
concerns were (1) encroachment (the franchisor placing additional franchise
locations in close proximity to an existing franchisee); (2) sourcing of
supplies (where franchisees are required to buy all products used in their
businesses from the franchisor or someone it designates, often at above-
market prices); (3) equity/ transfer/ renewal issues (where franchisees
cannot sell the business they own or, upon transfer or resale,
26 In general, AAFD and AFA represent franchisees? interests, IFA represents
the interests of both franchisors and franchisees, and NFC represents
franchisors? interests. Appendix I contains additional information on the
four franchise trade associations. Franchise Trade
Associations Lack Statistically Reliable Data on Franchise Relationship
Problems
Page 25 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
franchisees have to offer the then- current contract with materially
different terms); and (4) system compliance, including franchisors? ability
to arbitrarily make material changes to the franchise system. AFA did not,
however, have any data on the extent to which these problems occur.
In contrast, the senior vice president for government relations and chief
counsel of IFA- a group that opposes a federal statute to generally regulate
franchises- told us that all ?reliable? indicators, such as FTC enforcement
data and complaints brought alleging violations of the IFA Code of Ethics,
show that there are relatively few franchise relationship problems. The
official added that if the more than 1,000 franchises represented by IFA had
serious problems, these problems would have surfaced by now. The IFA
official told us that while litigation between franchisors and franchisees
is relatively infrequent, on balance, termination appears to be the issue
more likely to result in litigation than other issues. The official added
that other types of issues that arise during the course of the franchise
relationship- such as encroachment, transfer, or the general conduct of the
parties- are much more likely to be resolved using other dispute resolution
processes, such as internal dispute resolution, mediation, or arbitration.
IFA did not, however, have any statistically reliable data on the extent to
which these types of problems occur.
Some of the franchise trade association officials we contacted told us that
one way to assess the extent and nature of franchise relationship problems
would be to conduct an extensive review of franchise litigation, such as
cases reported in court records, franchisor disclosure documents, or in the
Commerce Clearinghouse Business Franchise Guide. However, such a review
would be costly and time- consuming and because each case is unique and is
based on different facts, issues, and circumstances and involves the
application of different state laws, the results of such a review would not
be generalizable. Moreover, we were informed that such a review would not
provide a sound basis from which to draw conclusions regarding the extent of
franchise relationship problems because not all franchise relationship
disputes are litigated. Some disputes are resolved through arbitration,
mediation, or other dispute resolution processes. Our work, including
discussions with officials from the American Arbitration Association and the
National Franchise Mediation Program, revealed no statistically reliable
data on the extent to which arbitration and mediation are used to resolve
franchise relationship disputes.
Absent statistically reliable data on the extent and nature of franchise
relationship problems, the four franchise trade associations we contacted
provided divergent views on franchise relationship problems and the need
Page 26 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
for federal franchise relationship legislation. On one hand, in general, AFA
and AAFD officials maintain that an imbalance of power exists between
franchisors and franchisees, and they contend that franchise contracts are
oppressive. They also maintain that current federal and state pre- sale
disclosure laws and state franchise relationship laws are ineffective in
addressing franchise relationship issues. AFA is a proponent of
comprehensive federal franchise relationship legislation, whereas AAFD would
prefer legislation that encourages negotiated franchise relationships. 27
On the other hand, IFA and NFC officials maintain that franchise
relationship issues are matters of contract law that should be addressed at
the state level, and they contend that franchisees can obtain relief from
problems under well- established common- law doctrines. They also maintain
that pre- sale disclosure is the best way to protect prospective
franchisees. IFA and NFC are opponents of federal legislation that would
regulate franchise relationships. (App. VII contains additional information
on franchise trade associations? views on the need for federal franchise
relationship legislation.)
Franchise regulatory officials in seven of our nine selected states told us
their states did not maintain data on franchise relationship problems.
Officials in the other two states told us that, while their state had some
data on post- sale complaints, the data were either not representative of
all such complaints or were not readily available. More specifically, one of
the two officials told us that since the state?s franchise disclosure law
generally does not regulate relationship issues, the complaints received are
not representative of all post- sale complaints. The other official told us
that the number of post- sale complaints is not readily available because
such complaints are not differentiated from pre- sale complaints.
The same officials had mixed views on the need for a federal statute that
would regulate franchise relationships. Of the nine officials, three
reported that federal legislation is needed, two reported that legislation
is not needed, three did not specifically comment on the need for
legislation, and one noted that it is a ?philosophical? question that
depends on the relative bargaining position and strength of the parties
involved. Of the three officials who responded that federal legislation is
needed, two noted the
27 In June 1996, AAFD issued Fair Franchising Standards, which according to
AAFD, are designed to promote franchise agreements that address the
legitimate business interests of both franchisors and franchisees. State
Regulatory Agencies
Generally Do Not Collect Data on Franchise Relationship Problems
Page 27 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
need to deter franchisor abuses or to provide additional franchisee
protections in several areas, while the third official noted the need to
level the playing field between franchisees and franchisors. Of the two
officials who responded that federal legislation is not needed, one noted
that franchise relationships are contractual issues under which franchisees
currently have a private right of action (to file a lawsuit directly in
state court), while the other official did not provide reasons.
Our work revealed that empirical data on the extent and nature of franchise
relationship problems could be gathered through a study of franchisors and
franchisees. While there could be barriers or limitations to obtaining such
data, as well as cost and time considerations, such a study could provide
valuable insights on the need for a federal statute that covers franchise
relationships. In addition to gathering empirical data on the extent and
nature of franchise relationship problems, a study could be used to obtain
data on franchisor and franchisee experiences with existing remedies for
resolving disputes, such as judicial remedies or other dispute resolution
processes. When designing a study of this nature, one would have to consider
that the results may not be generalizable to the universe of current
franchisors and franchisees because of the difficulty in identifying and
locating them, especially those in states that do not require franchisors to
file their disclosure documents with a state agency. According to FTC staff
and trade association officials, there is no comprehensive information on
the number and location of franchisors and franchisees. Furthermore, in
doing such a study, FTC staff suggested that it may be important to consider
the views and experiences of former franchisees- a group that, according to
FTC staff, may be difficult to locate.
We also explored which federal agency or agencies have the expertise and
would be willing to conduct or oversee a future study on franchise
relationship issues. FTC staff told us that FTC lacks the expertise and
resources to perform this type of research, and suggested that we contact
the Department of Commerce and SBA. An official with the Department of
Commerce?s International Trade Administration (ITA) told us that, in the
1980s, ITA had prepared an annual report on franchising in the economy.
However, the official said that ITA no longer does research on domestic
franchise issues and is no longer positioned to conduct this type of
research. The official added that a study of domestic franchise relationship
issues generally would not be within ITA?s core mission, and further noted
that ITA does not have the in- house expertise, structure, or resources to
conduct or oversee such a study. Further Study of Franchise
Relationship Issues Could Provide Insights Into Extent and Nature of
Problems
Page 28 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
In contrast, SBA?s Acting Chief Counsel for Advocacy said that, if properly
funded, SBA?s Office of Economic Research within the Office of Advocacy
would be able to contract out and oversee a study of franchise relationship
issues. According to SBA, the Office of Advocacy?s mission is to study the
role of small business in the American economy and to work for policies and
programs that will create an environment to foster small business growth and
development. SBA?s Acting Chief Counsel for Advocacy and the Acting Director
of the Office of Economic Research said that SBA has the capability and
expertise to develop a Request for Proposal, solicit and evaluate proposals,
award and oversee a contract, and review and publish results. The officials
added that the Office of Advocacy has contracted for other studies on
franchising during the 1990s. 28
During our review, we found that FTC did not require its staff to document
the reasons for closing franchise and business opportunity investigations
that resulted in no further legal action. Our review of all 79 files for
investigations FTC closed from 1997 through 1999 for which it took no
further legal action showed that, while supervisory approval had been
obtained for closing each investigation, only 2 of the 79 files documented
the reasons why the investigations were closed. FTC?s failure to document
the reasons for closing investigations represented an internal control
weakness as defined by the Comptroller General?s Standards for Internal
Control in the Federal Government. Given the number of hours FTC staff
billed, on average, for investigations that FTC later closed and took no
further action, closing an investigation is a significant event, and as
such, federal internal control standards require that the reasons for such
decisions be documented and readily available for examination. Based on our
work and subsequent discussions with FTC staff, FTC revised its procedures
to require staff to document the reason( s) for closing franchise and
business opportunity investigations that result in no further legal action.
Over the past several years, Congress and others have debated the need for a
federal statute to regulate franchises and address problems that can arise
after the sale of a franchise. Our work revealed no readily available,
28 Other studies contracted for by the Office of Advocacy during the 1990s
include ?Survival
Patterns Among Franchise and Nonfranchise Firms Started in 1986 and 1987,?
(Dr. Timothy Bates, Wayne State University, 1996); ?Differences Between
Successful and Unsuccessful Franchisors,? (Dr. Scott Shane, Georgia
Institute of Technology, 1995); and ?Franchising?s
Growing Role in the U. S. Economy, 1975- 2000,? (James Trutko, John Trutko,
and Andrew Kostecka for James Bell Associates, Inc., 1993). Conclusions
Page 29 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
statistically reliable data on the overall extent and nature of these
problems. The absence of such data makes it difficult to determine the
nature of any problems and the extent to which they occur, or whether a
federal statute is warranted to resolve such problems. Although Congress can
consider franchise relationship legislation without this information, a
study on the extent and nature of franchise relationship problems- as well
as an examination of franchisor and franchisee experiences with existing
remedies for resolving disputes, such as judicial remedies or other dispute
resolution processes- could provide lawmakers with a better framework or
basis for considering whether there is a need for a federal statute that
would generally regulate franchise relationships. Such a study could be led
by SBA?s Office of Advocacy, FTC, or another federal entity, with work
performed by an independent research organization. However, potential data
limitations, as well as cost and time considerations, are factors that
should be considered when weighing the pros and cons of conducting such a
study.
If Congress believes that it needs empirical data before considering
franchise relationship legislation, it could commission and fund a study
that would (1) design and implement an approach for collecting empirical
data on the extent and nature of franchise relationship problems and (2)
examine franchisor and franchisee experiences with existing remedies for
resolving disputes.
We requested comments on a draft of this report from the FTC Chairman and
the SBA Acting Administrator. In a letter dated July 16, 2001, which is
reprinted in appendix VIII, the FTC Chairman said that our report correctly
recognized the nature, focus, and jurisdiction of FTC's enforcement
activities relating to the Franchise Rule. He also noted that based on
comments we provided during the course of our review, FTC has revised its
procedures to document the reasons for closing franchise and business
opportunity investigations that result in no further legal action. The FTC
Chairman was silent on FTC's potential involvement in the study mentioned in
the Matter for Congressional Consideration.
In a letter dated July 16, 2001, which is reprinted in appendix IX, the SBA
Acting Administrator said that SBA has a longstanding record of assisting
franchisees through financial assistance, technical assistance, and business
counseling. He stated that SBA's Office of Advocacy has conducted studies on
franchising activity and noted that, as discussed in our draft, the Office
of Advocacy is mentioned as being able to conduct such a study if additional
funds were appropriated for this purpose. Matter for
Congressional Consideration
Agency Comments and Our Evaluation
Page 30 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
However, he also pointed out that the franchise data necessary to support
such a study does not presently exist- the data are either dated or limited
in scope- and would need to be created before a study could be conducted.
We recognize that there could be barriers or limitations to obtaining data
on the extent and nature of franchise relationship problems, as well as cost
and time considerations. These are factors that should be considered when
weighing the pros and cons of conducting such a study. We also recognize
that federal agency involvement in this study will likely require that
additional funds be appropriated. However, such a study could provide a
better framework for considering whether there is a need for federal
franchise relationship legislation, especially since the absence of such
data makes it difficult to determine the extent and nature of franchise
relationship problems.
In addition to the above comments, FTC provided technical comments, which we
incorporated in this report, where appropriate. We also contacted officials
with the various trade associations to verify the information they provided
and incorporated their comments, where appropriate.
We are providing copies of this report to the Chairman and Ranking Minority
Member, Senate Committee on Commerce, Science, and Transportation; Chairman
and Ranking Minority Member, Senate Committee on Small Business; Chairman
and Ranking Minority Member, House Committee on Energy and Commerce; and the
Chairman and Ranking Minority Member, House Committee on Small Business. We
are also sending copies of this report to the Chairman of the Federal Trade
Commission and the Administrator of the Small Business Administration. We
will also make copies available to other interested parties upon request.
Please contact me or John Mortin on (202) 512- 8777 if you or your staff
have any questions. Other key contributors to this report were Nelsie
Alcoser, Christopher Conrad, Eric Erdman, Susan Michal- Smith, and Gregory
Wilmoth.
Richard M. Stana Director, Justice Issues
Appendix I: Objectives, Scope, and Methodology
Page 31 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Our objectives were to describe (1) FTC?s efforts to enforce its Franchise
Rule, including FTC?s analysis of complaints and actions taken regarding
franchises and business opportunity ventures; (2) FTC?s efforts to
communicate and coordinate its franchise and business opportunity
enforcement activities with selected state regulatory officials; and (3) the
availability of data on the extent and nature of franchise relationship
problems. We also obtained information on the views of FTC staff, franchise
trade association officials, and selected state regulatory agency officials
regarding the need for federal legislation on franchise relationships.
To address these objectives, we performed our work primarily at FTC
headquarters in Washington, D. C. and with franchise trade association and
regulatory officials in Washington, D. C., Chicago, IL, and Baltimore, MD.
We also contacted franchise and business opportunity regulatory officials in
the nine states that have both franchise disclosure and business opportunity
disclosure laws (California, Illinois, Indiana, Maryland, Michigan,
Minnesota, South Dakota, Virginia, and Washington).
We discussed franchise relationship issues with officials from various
associations that represent or deal with franchisors and/ or franchisees-
the American Arbitration Association, the American Association of
Franchisees and Dealers (AAFD), the American Bar Association?s Forum on
Franchising, the American Franchisee Association (AFA), FRANDATA Corporation
(a supplier of information to and about franchises), the International
Franchise Association (IFA), the International Society of Franchising, the
North American Securities Administrators Association (NASAA), the National
Franchise Council (NFC), and the National Franchise Mediation Program. We
also discussed franchise relationship issues with state legislative
officials and attorneys representing franchisors and franchisees in Iowa
since Iowa has been recognized by franchise trade officials as having the
most comprehensive franchise relationship law of all the states.
To address the first objective concerning FTC?s efforts to enforce its
Franchise Rule, including FTC?s analysis of complaints and the actions it
took regarding franchises and business opportunities, we met with staff from
FTC?s Division of Marketing Practices in the Bureau of Consumer Protection
and its Office of the General Counsel. Specifically, we gathered and
analyzed information and documentation on FTC?s regulatory practices,
enforcement, and oversight of franchises and business opportunity ventures.
We also obtained and reviewed applicable laws, regulations, and FTC
documents pertaining to the history of FTC?s efforts to promulgate, revise,
and enforce compliance with its Franchise Rule. Appendix I: Objectives,
Scope, and
Methodology
Appendix I: Objectives, Scope, and Methodology
Page 32 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Further, we reviewed FTC?s Operating Manual to determine FTC?s policies and
procedures for initiating and carrying out Franchise Rule investigations.
As agreed with your staffs, we focused on the business opportunity and
franchise complaints FTC received and investigations and court cases FTC
initiated from 1993 through the most recent date available 1 and
differentiated, where possible, between (1) franchises and business
opportunities and (2) pre- sale disclosure and post- sale relationship
issues. In regard to complaints, we analyzed the business opportunity and
franchise complaints FTC received from January 1993 through June 1999, 2 to
determine the number of business opportunity and franchise complaints FTC
received, as well as whether the individual franchise complaints involved a
pre- sale disclosure or a post- sale relationship issue. 3 Our analyses of
the complaint data relied on FTC?s separation of the franchise complaints
from the business opportunity complaints. We did not independently verify
the accuracy of FTC?s categorization of the complaints or the completeness
of the complaint data FTC provided. However, we did verify that the
complaint data FTC provided during our review was consistent with data
published in a June 2001 FTC report entitled, Franchise and Business
Opportunity Program Review 1993- 2000: A Review of Complaint Data, Law
Enforcement and Consumer Education.
According to FTC staff, this report was prepared as part of FTC?s efforts to
conduct a separate rulemaking proceeding for business opportunities once it
has completed the Franchise Rule review process.
Regarding FTC?s investigation and case activities, we reviewed the criteria
FTC uses to determine when to act on complaints it receives, and in general,
the reasons why FTC does or does not open an investigation based on
complaints. We also determined the number, type, and outcomes
1 Data on franchise and business opportunity complaints were available
through June 1999 from FTC?s franchise and business opportunity database,
which was drawn from the Consumer Information System, FTC?s general
complaint database. FTC?s investigation data were available for all of 1999,
and case data were available through 2000.
2 According to FTC staff, the complaint information in its database
represents the most comprehensive business opportunity and franchise
complaint information that is available, but may not necessarily be a
complete picture of all complaints FTC received. For various reasons,
complete data are not available for earlier years, and data were not
captured consistently across all years.
3 FTC had not individually analyzed each business opportunity complaint, but
FTC staff stated that most business opportunity complaints represent pre-
sale concerns about either fraud or misrepresentation.
Appendix I: Objectives, Scope, and Methodology
Page 33 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
of the business opportunity and franchise investigations FTC initiated each
year from 1993 through 1999; the criteria FTC uses to decide which
investigations to open and which court cases to file; and the reasons why
FTC did or did not take action on closed investigations. We also obtained
information on the number, type, and outcomes of the business opportunity
and franchise cases that FTC filed in court each year during 1993 through
2000. However, we did not independently verify FTC?s process for deciding
which cases to investigate and which to pursue in the courts and, therefore,
do not know whether FTC took action on the most appropriate and promising
cases. Finally, we sought to determine the extent to which FTC documented
the reasons for closing the investigations, by examining the 79
investigation files for those business opportunity and franchise
investigations closed from 1997 through 1999 for which FTC took no further
legal action. Specifically, we used a structured data collection instrument
to gather information from each of the 79 investigation files on (1) the
date the investigation was opened, (2) the source of the investigation (i.
e., sweep, consumer complaint, etc.), (3) the potential problem or violation
being investigated, (4) the reason( s) for closing the investigation, and
(5) the date the investigation was closed. As part of our review, we
reviewed all documentation in the file, including the Matter Initiation
Notice, Matter Update Notice, and Matter Profile.
We did not compare the complaint data provided by FTC with the complaint
data reported in our 1993 report 4 primarily because, according to FTC
staff, they had not analyzed the individual franchise complaints cited in
the 1993 report to remove inquiries from actual complaints, and the 1993
report did not differentiate between business opportunity and franchise
complaints. Furthermore, we did not compare the data collected from FTC on
FTC Franchise Rule investigations with the results of our 1993 report
because the 1993 report did not differentiate between franchise and business
opportunity investigations. In addition, FTC no longer carries out
investigations the way it did in 1993. For example, FTC used to distinguish
between initial phase and full phase investigations, but it no longer makes
that distinction.
To address the second objective concerning FTC?s efforts to communicate and
coordinate its franchise and business opportunity enforcement activities
with selected state regulatory officials, we interviewed FTC staff to
identify FTC efforts to assist states in enforcing franchise and business
opportunity laws. Then, using a structured data collection instrument, we
4 See GAO/ HRD- 93- 83, (July 1993).
Appendix I: Objectives, Scope, and Methodology
Page 34 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
contacted business opportunity and franchise regulatory officials in the
nine states that have enacted both franchise disclosure and business
opportunity laws. Specifically, we contacted cognizant officials 5 from the
following agencies within each of the states:
California. Office of the Attorney General, Consumer Law Section; and the
Business, Transportation and Housing Agency, Department of Corporations;
Illinois. Office of the Attorney General, Franchise Bureau; and the Office
of the Secretary of State, Securities Department;
Indiana. Office of the Attorney General; and the Office of the Secretary
of State, Securities Division;
Maryland. Office of the Attorney General, Securities Division;
Michigan. Office of the Attorney General, Consumer Protection Division;
Minnesota. Department of Commerce, Enforcement Division;
South Dakota. Department of Commerce and Regulation, Securities Division;
Virginia. State Corporation Commission, Division of Securities and Retail
Franchising; and
Washington. Department of Financial Institutions, Securities Division. The
views of state regulatory officials from these agencies are not
generalizable to other states.
As part of our audit work addressing FTC?s coordination efforts, we also
explored the issue of whether FTC should perform reviews of franchise and
business opportunity disclosure documents- a function FTC does not currently
perform. To address this issue, we contacted business opportunity and
franchise regulatory officials from the nine states listed above, as well as
from NASAA. Further, we discussed the feasibility of FTC performing such
reviews with staff in FTC?s Division of Marketing Practices within the
Bureau of Consumer Protection and in its Office of the General Counsel.
To address the third objective concerning the availability of data on the
extent and nature of franchise relationship problems, we interviewed staff
from FTC?s Division of Marketing Practices within the Bureau of Consumer
Protection and its Office of the General Counsel. We also
5 We specified that the data collection instrument should be completed by
the person most knowledgeable about their agency?s relationship with FTC
concerning business opportunity or franchise issues.
Appendix I: Objectives, Scope, and Methodology
Page 35 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
interviewed officials from four franchise trade associations (AAFD, AFA,
IFA, and NFC), whose membership, in general, consists of the following.
AAFD primarily represents the rights and interests of franchisees. AAFD
has about 6,000 members, including franchisees who own and operate more than
14,000 franchised outlets.
AFA primarily represents the rights and interests of small business
franchisees. AFA represents about 14,000 small business owners of more than
30,000 franchised outlets.
IFA primarily represents the rights and interests of franchisors and
franchisees. IFA represents about 800 franchisor members, 2,000 individual
franchisee members, and 30 franchisee associations and councils representing
another 30,000 franchised outlets.
NFC primarily represents the rights and interests of large franchisors (i.
e., companies with franchise systems of more than 200 units that have been
operating for at least 5 years in compliance with applicable franchise laws,
rules, and regulations). NFC represents 16 companies that operate over 40
national franchise systems.
Further, we contacted officials from franchise regulatory agencies in the
nine selected states, as well as officials from various franchise
associations, including the American Arbitration Association, the American
Bar Association?s Forum on Franchising, FRANDATA Corporation, the
International Society of Franchising, NASAA?s Franchise and Business
Opportunity Project Group, and the National Franchise Mediation Program. We
also contacted cognizant FTC staff and officials from franchise trade
associations and selected states to gather their views on the need for
federal franchise legislation. Moreover, we interviewed FTC staff, an
official from the Department of Commerce?s International Trade
Administration, and officials from the Small Business Administration?s
Office of Advocacy to determine if their agency has the expertise and would
be willing to conduct or oversee a future study on franchise relationship
issues.
Finally, we researched FTC?s role in addressing post- sale relationship
issues, including the scope and applicability of section 5 of the FTC Act,
and interviewed FTC staff about their role regarding these issues. We also
reviewed the legislative histories of federal franchise laws covering the
automobile and petroleum industries and reviewed the 17 state franchise
relationship laws of general applicability that were identified in the
Commerce Clearinghouse Business Franchise Guide. We did not, however,
compare the laws or analyze their appropriateness. Further, we reviewed the
transcript from a congressional hearing on franchise relationship issues,
and we reviewed the Small Business Franchise Act of 1999 (H. R.
Appendix I: Objectives, Scope, and Methodology
Page 36 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
3308), as introduced in the 106th Congress, which, if passed, would have
established federal jurisdiction over franchise relationship issues. In
addition, we interviewed the state senator from Iowa who was involved in
passing Iowa?s franchise relationship law and franchise attorneys who
lobbied for and against it.
We conducted our work between August 2000 and June 2001 in accordance with
generally accepted government auditing standards. We discussed the results
of our work with responsible FTC staff and SBA officials and have
incorporated their comments, where appropriate. We also contacted officials
at AAFD, AFA, IFA, and NFC to verify information they provided and
incorporated their comments, where appropriate.
Appendix II: States With Business Opportunity, Franchise Disclosure, and/ or
Franchise Relationship Laws
Page 37 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Table 4: Listing of States With Business Opportunity, Franchise Disclosure,
and/ or Franchise Relationship Laws
Appendix II: States With Business Opportunity, Franchise Disclosure, and/ or
Franchise Relationship Laws
Business opportunity law Franchise
disclosure law Franchise relationship law
Arkansas California Connecticut Delaware Florida Georgia Hawaii Illinois
Indiana Iowa Kentucky Louisiana Maine Maryland Michigan Minnesota
Mississippi Missouri Nebraska New Hampshire New Jersey New York North
Carolina North Dakota Ohio Oklahoma Oregon Rhode Island South Carolina South
Dakota Texas
State
Utah Virginia Washington Wisconsin
Total 24 15 17
a a a
a a
a a
a a
a a a
Shaded states have business opportunity, franchise disclosure, and franchise
relationship laws.
Appendix II: States With Business Opportunity, Franchise Disclosure, and/ or
Franchise Relationship Laws
Page 38 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
a These 12 states require registration of disclosure documents and have
staff that review documents. Source: GAO?s analysis of the state regulations
listed in the Commerce Clearinghouse Business Franchise Guide and documents
from FTC.
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 39 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Franchising is a form of business relationship based on a contract. Except
for the automobile and petroleum industries, federal laws do not address the
franchisor- franchisee relationship. During the 1990s, Congress considered
several proposals for federal legislation on franchise relationships, but
none became law. FTC traditionally does not regulate or set the terms of
private contracts in franchising or in any other economic sector. Absent
specific federal franchise statutes or regulation, franchise relationships
are generally considered matters of contract law that traditionally have
been regulated at the state level.
Federal legislation on franchise relationships has been enacted for two
specific industries- the automobile and petroleum industries. The Automobile
Dealers Day in Court Act was enacted in 1956. 1 The act gives a franchise
automobile dealer the right to bring an action in U. S. District Court
against its automobile manufacturer to recover damages caused by the
manufacturer?s failure to act in good faith in (1) performing or complying
with any of the terms or provisions of the franchise agreement or (2)
terminating, canceling, or not renewing the franchise. The legislative
history of the act noted that the concentration of economic power in the
automobile industry was so great that legislation was needed to remedy the
disparity for franchise dealers to bargain with the manufacturers. More
specifically, the legislative history stated the following:
?Hearings conducted by Congress contained numerous instances of automobile
manufacturers coercing and intimidating their franchised dealers. A primary
source of the manufacturers power over their dealers stems from the
unilateral nature of the franchise agreements. Automobile dealers have been
subjected to economic duress and intimidation and have been unable to obtain
redress in the courts. The bill assures the dealer an opportunity to secure
a judicial determination in the courts regardless of the contract terms as
to whether the automobile manufacturer has failed to act in good faith in
performing or complying with any of the provisions of his franchise or in
terminating, canceling or not renewing his franchise.? 2
After the oil crisis of 1973, Congress began looking at regulating the
franchise relationship between petroleum manufacturers and dealers and, in
1978, enacted the Petroleum Marketing Practices Act. 3 The act prohibits
1 15 U. S. C. sect.sect. 1221- 1225. 2 H. R. Rep. No. 2850, 84th Cong. (1956). 3 The
act contains three titles and is found at 15 U. S. C. sect. 2801 et. seq. For
this report, we focused on the title I franchise relationship provisions
found at 15 U. S. C. sect.sect. 2801- 2806. Appendix III: Federal and State
Jurisdiction
Over Franchise Relationship Issues Federal Legislation on Franchise
Relationships
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 40 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
a franchisor engaged in the sale or distribution of motor fuel from
terminating a franchise during the term of the franchise agreement unless
the termination or nonrenewal is based on grounds specified in the law. The
act mandates a 90- day advance notice of the termination or nonrenewal,
unless under the circumstances, it would be unreasonable to provide 90 days?
notice. The act provides for franchisees to file a lawsuit against
franchisors in U. S. District Court for failure to comply with the act?s
requirements. Like the Automobile Dealers Day in Court Act, the legislative
history of the petroleum marketing act noted a disparity of bargaining power
between the franchisor and the franchisee. 4 More specifically, the
legislative history stated the following:
?In recent years the friction between franchisors and franchisees in
marketing of motor fuels has become so great that it had threatened adverse
impacts upon the Nation?s motor fuel distribution and marketing system.
Numerous states have initiated various legislative actions to address these
petroleum product franchising problems. These actions have unfortunately
resulted in an uneven patch work of rules governing franchise relationships
which differ from State to State. Needed is a single, uniform set of rules
governing the grounds for termination and non- renewal of motor fuel
marketing franchises and the notice which franchisors must provide
franchisees prior to termination of a franchise or nonrenewal of a franchise
relationship.?
Since 1992, several separate proposals for additional franchise relationship
legislation have been introduced in Congress, none of which became law. 5
For example, the Small Business Franchise Act of 1999 (H. R. 3308),
proposed, among other things, a comprehensive scheme for regulating the
franchise relationship and included provisions on contract terminations, and
transfers; encroachment; the purchase of goods or services from designated
sources of supply; and franchisees? rights to associate with other
franchisees. The bill also provided franchisees with the right to file a
lawsuit against franchisors for violations of the act.
As previously mentioned, FTC?s Franchise Rule only addresses how a franchise
is sold to a prospective purchaser. It generally does not regulate the
nature of the agreement a prospective franchise purchaser may sign or
changes in the relationship after the initial contract has been signed. FTC
4 S. Rep. No. 95- 731, 95th Cong. (1978). 5 Federal franchise relationship
legislation introduced in Congress since 1992 includes H. R. 5233, 102nd
Cong. (1992); H. R. 2593 and H. R. 1316, 103rd Cong. (1993); H. R. 1717,
104th Cong. (1995); H. R. 2954, 105th Cong. (1997); H. R. 4841, 105th Cong.
(1998); and H. R. 3308, 106th Cong. (1999). FTC?s Jurisdiction Related
to Franchise Relationship Issues
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 41 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
staff told us that FTC generally lacks the authority to intervene in private
franchise contracts and related relationship issues.
FTC generally does not have specific statutory authority to intervene in or
regulate private contractual matters, including franchise contracts.
According to FTC, the only relevant authority it has that could possibly
relate to franchise relationships is section 5 of the FTC Act, which
declares unlawful unfair or deceptive acts or practices in or affecting
commerce. 6 Section 5 also provides that for FTC to declare an unfair act or
practice unlawful (known as FTC?s ?unfairness? jurisdiction), three specific
criteria must be met: (1) the act or practice causes or is likely to cause
substantial injury to consumers, (2) the injury is not outweighed by
countervailing benefits to consumers or to competition, and (3) the act or
practice is not reasonably avoidable by consumers. 7 According to FTC, given
these criteria, its unfairness jurisdiction generally does not give FTC
authority to reach the substantive provisions of franchise contracts or
otherwise intervene in franchise relationship issues. FTC staff provided
further information on FTC?s unfairness jurisdiction criteria as discussed
below.
Substantial injury. According to FTC staff, in order for FTC to exercise
its unfairness jurisdiction over the terms and conditions of franchise
contracts, there must be evidence of substantial injury. Complaints alleging
oppressive contract terms and conditions generally assert that they cause or
threaten to cause significant monetary injury to the complainant. FTC staff,
added, however, that they seldom see more than a few atypical complaints of
this nature about any particular franchise system. Thus, according to FTC
staff, in many cases, the ?substantial?
injury element of the unfairness criteria cannot be met.
Countervailing benefits. According to FTC staff, a more difficult issue is
countervailing benefits. Franchise systems, like all businesses, are
influenced by market forces. Consumer tastes change, and competition may
arise unexpectedly. Accordingly, franchisors may desire to create contracts
that maximize their ability to respond quickly to market forces. For that
reason, a franchisor, for example, may wish to reserve the right to offer
franchises on a nonexclusive basis or to reserve the right to sell goods and
services through alternative channels of distribution. This
6 15 U. S. C. sect. 45( a)( 1). 7 15 U. S. C. sect. 45( n). According to FTC,
?unfairness? is a term of art that has a specific legal meaning that has
developed over time. FTC?s unfairness jurisdiction was codified by Congress,
with some revisions, in the 1994 amendments to the FTC Act.
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 42 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
enables the franchisor to move quickly to meet the competition if a new
territory opens or distribution method arises. Other terms and conditions
are designed to ensure system uniformity, which consumers often expect from
a franchise system. Therefore, in many instances, a franchisor?s choice of
contract terms and conditions are based upon some economic rationale that is
designed to benefit consumers and/ or the system?s existing franchisees.
According to FTC staff, the benefits flowing from these contractual terms
may, in some cases, outweigh the allegations of
?oppression? by complainant franchisees.
Unavoidability. According to FTC staff, when considering the substantive
terms and conditions of franchise contracts, unavoidability is the most
difficult standard to satisfy. Franchises are discretionary purchases. That
is, no aspiring entrepreneur is forced to purchase a franchise in order to
be in business. Moreover, franchising is only one method of entering into a
business. Franchising also covers a wide variety of economic sectors, and
for the most part, there is competition in each sector. Therefore, the
market offers many choices for anyone wishing to operate a business.
According to FTC staff, under these circumstances, existing franchisees
would be hard- pressed to establish that contractual provisions they
voluntarily read, agreed to, and signed were somehow unavoidable. The FTC
staff added that proving this is an even more daunting task, because
prospective franchisees are required to receive a disclosure document at
least 10 business days before they sign the franchise agreement or pay any
fee. Presumably, every prospective franchisee has the opportunity to (1)
review the disclosure document before signing the contract; (2) seek legal,
accounting, or marketing counsel; and (3) speak to both former and current
system franchisees. 8 In short, according to FTC staff, it is not FTC?s role
to second- guess a prospective franchisee?s wisdom in signing a particular
franchise agreement, as long as the prospective franchisee is forewarned
about the legal consequences of his or her actions.
According to FTC staff, isolated instances of miscellaneous relationship
issues cannot justify a more widespread investigation of relationship
issues, let alone substantive rulemaking that addresses franchise contracts.
The staff added that before FTC could consider developing a rule that
addresses the substantive terms of private franchise contracts, it would
need not only evidence of substantial injury, but also sufficient
information that would enable FTC to weigh the alleged injury against any
countervailing benefits to the public at large or to competition. In
addition,
8 FTC staff told us it is much more likely to find unavoidability when it
comes to a particularly vulnerable group, such as children.
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 43 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC staff noted that FTC would need evidence showing that franchisees cannot
reasonably avoid the alleged injury. The staff further stated that while
franchisees and their advocates suggest that economic harm to individual
franchisees may result from some franchisor practices, they have not shown
to date that such injury is substantial and not outweighed by countervailing
benefits. Further, FTC staff told us that in at least some instances,
prospective franchisees could avoid injury by comparison shopping for a
franchise system that offers more favorable terms and conditions and by
considering alternatives to franchising as a means of business ownership.
Absent evidence on widespread franchise relationship abuses, FTC believes
the prudent approach is to continue to investigate instances of such abuses,
where they occur, under FTC?s current unfairness authority.
According to FTC staff, application of FTC?s unfairness jurisdiction in a
franchise matter is most likely to occur in a situation in which a
franchisor attempts to unilaterally modify a contract or breach a contract
with franchisees. They noted that in most instances, such conduct is
unavoidable. Nonetheless, for FTC to find unfairness, there still must be
substantial injury that is not outweighed by countervailing benefits. To
date, FTC has conducted only two franchise investigations that were based
solely on FTC?s unfairness jurisdiction, both involving an allegation of a
franchisor?s breach of contract. 9 Both investigations were ultimately
closed because FTC determined there was insufficient evidence to satisfy the
section 5 unfairness criteria.
As previously mentioned, franchise relationships are generally considered
matters of contract law that traditionally have been governed at the state
level. We identified 17 states that have enacted general franchise
relationship laws that specifically regulate certain aspects of the
relationship after the initial contract has been signed. 10 While these laws
vary in their scope, all of them address the termination of a franchise
9 FTC staff told us that staff are currently reviewing allegations of
deceptive and unfair practices in one franchise system, but that no specific
unfairness investigations have been pursued to date. They added that FTC
staff may have also explored unfairness as one of many issues in other
franchise investigations.
10 The 17 states with general franchise relationship laws are Arkansas,
California, Connecticut, Delaware, Hawaii, Illinois, Indiana, Iowa,
Michigan, Minnesota, Mississippi, Missouri, Nebraska, New Jersey, Virginia,
Washington, and Wisconsin. In addition, all 50 states have enacted franchise
relationship laws covering specific industries, such as motor vehicles, farm
equipment, and alcoholic beverages. State Jurisdiction
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 44 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
agreement, and all but one (Virginia) address contract renewal. Other areas
covered to varying degrees include the transfer of a franchise,
encroachment, the purchase of goods or services from designated sources of
supply, franchisees? right to associate with other franchisees, and forum
selection. Regardless of whether or not a state has a law that specifically
covers the franchise relationship, franchisees always have the right to file
a civil lawsuit against a franchisor for any contractual disputes. Many
states have a ?little FTC Act? (modeled after the FTC Act) or some type of
general consumer protection or fraud statute that franchisees can use to
address contractual disputes. These statutes are referred to in different
states, for example, as consumer protection acts, consumer sales acts,
deceptive trade practices acts, and consumer fraud acts. The states?
franchise relationship laws and other consumer protection or fraud statutes
generally allow franchisees to file lawsuits in state court against
franchisors for violations of these state laws.
To gain a better understanding of franchise relationship issues at the state
level, we reviewed Iowa?s franchise relationship law and interviewed Iowa
officials involved in enacting the law. Iowa?s law is recognized by
franchise trade officials as being the most comprehensive of all the states.
Iowa?s franchise relationship law includes provisions that prohibit
franchisors from
terminating a franchise without good cause and at least 30 days prior
written notice;
refusing to renew a franchise unless the franchisor has provided 6 months
written notice of nonrenewal and either good cause exists or certain
circumstances exist, such as the franchisor completely withdraws from the
market served by the franchisee;
rejecting a proposed transfer of a franchise unless the proposed
transferee fails to meet the franchisor?s reasonable current qualifications
for new franchisees and such rejection is not arbitrary or capricious; and
requiring that franchisees purchase goods or supplies exclusively from the
franchisor or designated sources when goods and supplies of comparable
quality are available from other sources.
According to officials we met with in Iowa, the most contentious part of
Iowa?s franchise relationship law relates to encroachment. In general, the
law provides franchisees a cause of action to recover monetary damages if a
franchisor (1) develops, or grants a franchisee the right to develop, a new
franchise outlet in unreasonable proximity to the existing franchisee?s
outlet and (2) the new outlet has an adverse effect on the gross sales of
the existing franchisee?s outlet. Iowa?s Franchise Relationship
Law
Appendix III: Federal and State Jurisdiction Over Franchise Relationship
Issues
Page 45 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
An Iowa state senator who played a key role in enacting Iowa?s franchise
relationship law told us he was unaware of any data on the extent of
franchise relationship problems in Iowa. Rather, he noted that Iowa?s law
was initially passed following an Iowa legislature study of franchise
regulation, which included testimony and other statements made by proponents
and opponents of franchise legislation. The senator added that the primary
reason why Iowa got involved in regulating franchise relationship issues was
because of a provision in franchise agreements requiring franchisees
operating in Iowa to settle disputes and file lawsuits outside of Iowa.
Under Iowa?s law, a provision in a franchise agreement requiring franchisees
who are located in Iowa to go to other states to settle disputes and file
lawsuits is unenforceable.
Appendix IV: Information on FTC?s Investigation Process and Its Criteria for
Opening Investigations and Pursuing Cases
Page 46 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
The investigative process under FTC?s Franchise Rule involves four major
phases: (1) receiving complaints and inquiries about franchisor actions, (2)
performing preliminary screens of complaints, (3) conducting investigations,
and (4) taking legal actions against franchisors 1 or closing the
investigations without taking any legal actions against the franchisors. FTC
may begin investigations based on information from external sources, such as
consumer complaints, or from internal actions, such as FTCinitiated
inquiries. Investigations may result in such actions as FTC filing, through
the Department of Justice (DOJ), a consent decree or a complaint in court
that may lead to an eventual judicial action against a franchisor or closing
the investigation without taking any further action.
FTC typically considers a number of factors to determine whether it will
open an investigation. According to FTC staff, many investigations stem from
business opportunity sweeps, reviews of newspaper advertisements, Internet
research, or other internal FTC case generation activities. On the basis of
these factors, as well as application of its criteria for screening
complaints, most complaints FTC receives are not investigated. According to
FTC staff, the factors FTC consider are as follows:
The type of problem alleged. In reviewing a business opportunity or
franchise complaint, FTC typically determines first whether the complaint
alleges violation of a law enforced by FTC. Many complaints do not
constitute violations of any laws enforced by FTC. For example, (1) the
franchisor has breached its franchise agreement, (2) the franchisee is
dissatisfied with the quality of goods offered for sale, or (3) the
franchisee is dissatisfied with the investment and wants to seek a refund.
Generally, these problems do not constitute federal law violations, and
enforcement by FTC is not warranted.
The level of consumer injury and the number of consumers affected. Because
FTC?s resources are limited, it seeks to focus on those complaints that will
?accomplish the greatest good for the greatest number of consumers.?
Accordingly, as a matter of policy, FTC generally does not pursue individual
consumer complaints or intervene in disputes between individual franchisees
and franchisors. Rather, FTC focuses on those companies that exhibit a
pattern or practice of violations nationwide.
The likelihood of preventing future unlawful conduct. FTC may also
consider the likelihood that any enforcement action will prevent future
1 In lieu of formal legal action, FTC staff may refer a violation to NFC?s
Alternative Rule Enforcement Program. Appendix IV: Information on FTC?s
Investigation Process and Its Criteria for Opening Investigations and
Pursuing Cases
FTC?s Investigation Process
FTC?s Criteria for Opening Investigations
Appendix IV: Information on FTC?s Investigation Process and Its Criteria for
Opening Investigations and Pursuing Cases
Page 47 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
unlawful conduct. For example, where would- be defendants are out-
ofbusiness, enforcement of the law would be futile.
The likelihood of securing redress or other relief. FTC typically
considers whether a law enforcement action will result in securing redress
or other relief. In this regard, FTC considers the viability of law
enforcement action, 2 the financial status of the business opportunity
seller or franchisor, and any potential injury to existing franchisees.
Additional law enforcement considerations. FTC may consider several
additional factors, such as whether (1) the problem can be addressed at the
state level, (2) individuals can remedy the problem on their own under
existing state laws, and (3) there are serious law violations that can
result in substantial consumer injury.
FTC typically considers a number of factors to determine which cases it will
pursue through the courts. Some of these criteria are the same factors FTC
uses in deciding to open an investigation. For example, among the factors
FTC first determines are whether (1) there is an allegation of a violation
of law enforced by FTC, (2) the alleged violation is within the applicable
statute of limitations, and (3) there is a pattern or practice of such
problems. If these factors can be established, FTC can then apply more
specific case selection criteria, which include the following:
The viability of law enforcement action. FTC considers such factors as
whether (1) the alleged violations are close to the statute of limitations;
(2) witnesses can be located, and if so, how cooperative they will be; and
(3) evidence is available and sufficient to demonstrate that a law violation
occurred.
The viability of a meaningful remedy. FTC considers such factors as (1)
whether the company has any assets that could be used to compensate those
harmed or pay civil penalties and (2) what the deterrent effect on the
company would be.
Alternatives to federal intervention. FTC considers such factors as
whether (1) the franchisee( s) can sue under state law and (2) the matter is
2 In assessing the viability of a case, FTC determines whether the evidence
is sufficient to prove a law violation, including the availability of
witnesses, the preservation of documents, and any applicable statute of
limitations. FTC?s Criteria for
Deciding Which Cases to Pursue
Appendix IV: Information on FTC?s Investigation Process and Its Criteria for
Opening Investigations and Pursuing Cases
Page 48 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
appropriate for referral to state authorities or to the NFC?s Alternative
Rule Enforcement Program.
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 49 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Table 5: Summary of Outcomes for the Franchise and Business Opportunity
Cases (Franchise Rule and/ or Section 5 of the FTC Act) Filed by FTC, 1993-
2000
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Franchise
U. S. v. Building Inspector of America, Inc. U. S. v. Coverall North
America, Inc. U. S. v. Direct Distributors, Inc. U. S. v. Gingiss
International, Inc. U. S. v. Hillary?s Gourmet Ice Cream U. S. v. Jani- King
International, Inc.
Business opportunity
U. S. v. 21st Century Systems, Inc. U. S. v. Acme Vending Co. FTC v. Ad- Com
International, Inc U. S. v. All Snax, Inc. U. S. v. American Coin- Op
Services, Inc. U. S. v. American Vending Group, Inc. U. S. v. America's
Radio Transmitter, Ltd. U. S. v. Astratel, Inc. U. S. v. Automatic
Merchandising Corp. FTC v. Bureau 2000 U. S. v. Cigar Factory Outlet, Inc.
U. S. v. Cigar Manufacturers Outlet, Inc. U. S. v. Delta Distributors Co.,
Inc. U. S. v. Discount Manufacturing, Inc. U. S. v. Elite Business Designs,
Inc. U. S. v. Emily Water & Beverage Co., Inc.
Court injunction
Asset freeze Civil penalty Monetary
redress Other remedy
Rule allegations only
Sought Obtained U. S. v. Firstlight Entertainment, Inc. U. S. v. Galaxies,
Inc. U. S. v. Global Gumballs, Inc. U. S. v. Global Toys Distributors, Inc.
U. S. v. Great Pacific Vending Corp. FTC v. Greenhorse Communications, Inc.
U. S. v. Greeting Card Depot, Inc. U. S. v. Health Wave, Inc. U. S. v.
International Champions, Inc. U. S. v. Island Automated Medical Services,
Inc.
10,000 40,000
0 $35,000
100,000 25,000
25,000 0 25,000
100,000 0 0 a
0 0
0 20,000
10,000 0 0 10,000
50,000 Recission of contracts or refunds Pending
Pending Pending
Pending Amount
Pending Pending
Amount Other
Yes No
Yes No
Yes No
Yes No
Yes No
Yes No
Case name
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 50 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Court injunction
Yes No
Pending Yes
No Pending
Yes No
Pending Yes
No Pending Asset freeze Civil
penalty Monetary redress Other
remedy Sought Obtained U. S. v. North American Marketing Systems, Inc.
U. S. v. Nu- Idea Technologies, Inc. U. S. v. Old Dominican Tobaccos, Inc.
FTC v. Pioneer Communications of Nevada, Inc.
U. S. v. Protocol, Inc. U. S. v. PVI, Inc. U. S. v. Quartercall
Communications, Inc. U. S. v. Software Concepts, Inc. U. S. v. Summit
Communications, Inc.
U. S. v. Surface Science Corp. U. S. v. Toys Unlimited International, Inc.
U. S. v. United Payphones of America, Inc. U. S. v. Vending Communications,
Inc. U. S. v. Worldwide Coffee, Inc. U. S. v World Wide Vending Corp. U. S.
v. Pro- Plastic Design & Marketing, Inc.
Other
In the Matter of Blenheim Expositions, Inc. (IFA Expo)
Amount Yes
No Pending
Yes No
Pending Amount
Other U. S. v. Entrepreneur Media, Inc. U. S. v. Shulman Promotions, Inc.
25,000 10,000 Consumer
education 11,000
10,000 10,000 15,000 22,000
0 0
0 0
Consumer education
Case name
U. S. v. Modern Management Systems, Inc. U. S. v. National Marketing, Inc.
U. S. v. National Tech Systems, Inc. U. S. v. National Vending Consultants,
Inc. U. S. v. Nibblers, Inc.
20,000 297,000
0 0
0 0
Consumer education FTC v. J. P. Meyers Company, Inc.
U. S. v. Jumping Java Coffee, Inc. U. S. v. Kato Makiko (Infinity Corp.) U.
S. v. K. V. Hill (Southeastern Photo Supply, Inc.)
U. S. v. Life Systems Associates, Inc. U. S. v. Li'l Snacks, Inc. U. S. v.
Douglas C. McGlothin (International Cigar Consortium)
0 72,422 15,000
10,000 10,000
7,000
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 51 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Court injunction
Yes No
Pending Yes
No Pending
Yes No
Pending Yes
No Pending
Yes No
Pending Yes
No Pending Asset freeze Civil
penalty Monetary redress Other
remedy Sought Obtained FTC v. Precision Communications Administrations, Inc.
45,008
40,000 FTC v. Rapaport Corp. (Holiday Magic) In re Robert Serviss (Excel
Communications)
Amount Amount
FTC v. Star Publishing Group, Inc. In re Starr Communications, Inc.
100,000 FTC v. Summit Photographix, Inc. In re William E. Taylor (Sandcastle
Creations) 536,000
(510,000 suspended)
Bond Bond
Disgorgement (1,225,000)
1,000,000 1,000,000
1,200,000 3,594,824
20,000 16,000,000
1,900,000 (suspended) FTC v. Innovative Telemedia
In re LS Enterprises FTC v. Mediworks, Inc. FTC v. Richard C. Neiswonger
(Medical Recovery Service, Inc.)
In re New Mexico Custom Designs, Inc. In re Nu -Skin International FTC v.
Orion Products Corporation In re Russell J. Osborn (The Hairbow Company)
FTC v. Pace Corp FTC v. Para - Link International, Inc.
500,000 1,000,000
0 0 27,647 b 1,040,000 (suspended)
2,500,000 (1,400,000 suspended)
0 c Bond
Recission Recission and ban Ban FTC v. 2Xtreme Performance
FTC v. AmeraPress, Inc. FTC v. AMP Publications, Inc. FTC v. Ed Boehlke
(Advantage Marketing) FTC v. Data Medical Capital, Inc. In re DMC Publishing
Group FTC v. Edward P. Epstein (Electronic Filing Associates; Electronic
Filing Academy)
FTC v. Financial Freedom Report, Inc. FTC v. FutureNet, Inc. FTC v. Home
Professions, Inc. In re Homespun Products International (Polk)
FTC v. Innovative Productions Other
d
Case name
(suspended)
Section 5 allegations only Business opportunity Franchise
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 52 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Court injunction
Yes No
Pending Yes
No Pending
Yes No
Pending Yes
No Pending Asset freeze Civil
penalty Monetary redress Other
remedy Sought Obtained Amount
No Pending
Yes No
Pending Amount
Other Yes
Case name Business opportunity
FTC v. Advanced Public Communications Corp.
0 0
191,737 40,000
FTC v. American Universal Vending Corp. FTC v. Ameritel Payphone
Distributors, Inc. FTC v. Business Opportunity Center, Inc. FTC v. Carousel
of Toys FTC v. Allstate Business Consultants
Group, Inc. Ban, Bond FTC v. Comtel Communications Global Network, Inc.
FTC v. Creative Technology International, Inc. (Georgia Int?l Export Co.)
0 0 FTC v. Fresh- O- Matic Corp FTC v. Genesis One Corp. (Bureau One) FTC v.
Hart Marketing Enterprises Ltd., Inc.
100,000 872,882 6,100,000 U. S. v. Visions Group of America, Inc.
FTC v. Vaughn Williams, III (Encore Networking Services)
FTC v. Ronald Way (Hawthorne Communications)
Rule & section 5 allegations Franchise
FTC v. Car Checkers of America, Inc. FTC v. Car Wash Guys International,
Inc. FTC v. Communidyne, Inc. U. S. v. J. C. Pro Wear, Inc. FTC v.
Independent Travel Agencies of America Association, Inc.
FTC v. Richard L. Levinger (Senor Salsa's Gourmet Mexican restaurants)
FTC v. Majors Medical Supply, Inc. FTC v. Minuteman Press International,
Inc. FTC v. Mortgage Service Associates, Inc. FTC v. Robbins Research
International, Inc.
FTC v. Sage Seminars, Inc. U. S. v. Snelling and Snelling FTC v. Tower
Cleaning Systems, Inc. U. S. v. Tutor Time ChildCare Systems, Inc.
22,000 25,000
0 65,000
220,000 0
0 0 0 5,000,000 (suspended)
0 3,470,000
221,260 Refunds
100,000 50,000
Ban Ban
Ban Bond
Bond Ban Repurchase
of kits e FTC v. United States Business Bureau, Inc. 11,000
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 53 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Ban 0 FTC v. James L. Roche (Allied Snax) FTC v. Steve Shelton (Electronic
Healthcare Products)
FTC v. Showcase Distributing, Inc. Bond
Bond 180,000
3,900,000 0
FTC v. Southeast Necessities, Inc. (Dr. ?s Choice)
360,000 FTC v. Silver Shots, Inc., (Second Income)
465,000 5,749,832 Ban 9,165,567 Ban, bond
613,000 146,750 (settlement)
3,253,000 (default)
15,000 90,000 100,000
0 0
20,000 12,072,900 Ban
Ban 6,248,414 Ban, bond
2,368,938 Ban 4,000,000 Ban (suspended)
3,991,359 Bond
Ban 4,000,000
340,000 Ban 281,737 Ban 1,555,729 Ban
FTC v. Jordan Ashley FTC v. Joseph Hayes (Retail Sales & Marketing, Inc)
FTC v. Licensed Products U. S. A., Inc. FTC v. Thomas Maher (Internet
Business Broadcasting)
FTC v. Marketing and Vending Concepts FTC v. Marquette, Inc.
FTC v. MegaKing, Inc. U. S. v. Megatrend Telecommunications FTC v. MII
Investment Corp. FTC v. Mini Snacks, Inc. FTC v. Mini- TV USA, Inc. FTC v.
National Consulting Group, Inc. U. S. v. Robert M. Oliver (U. S. Consumer
Protection Agency)
FTC v. O?Rourke (Andrisani Family) FTC v. Panoramic Multimedia, Inc. FTC v.
Parade of Toys, Inc. FTC v. P. M. C. S., Inc. (" Physicians Medical Claims
Service")
FTC v. Public Telco Corp U. S. v. QX International, Inc. FTC v. Hi Tech Mint
Systems, Inc.
FTC v. iMall, Inc. FTC v. Inetintl. com, Inc. (Inet International) FTC v.
Infinity Multimedia, Inc. FTC v. International Computer Concepts FTC v.
Douglas J. Irvine (Comtel)
Court injunction
Yes No
Pending Yes
No Pending
Yes No
Pending Yes
No Pending Asset freeze Civil
penalty Monetary redress Other
remedy Sought Obtained Amount
No Pending
Yes No
Pending Amount
Other Yes
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 54 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Legend Y = Yes N = No P = Pending
Note: Case information is current as of April 2001. a The Commission may
agree to accept no civil penalty or redress where the defendant?s financial
statement shows an inability to pay. In such instances, the final order
permits the Commission to reopen the matter to impose a civil penalty award
or redress if the defendant misrepresented his or her financial condition. b
The defendants would be required to pay $2.9 million in the event they are
found to have made
omissions or misrepresentations about their financial condition. c The
defendants would be required to pay $194,000 in the event they are found to
have made
omissions or misrepresentations about their financial condition. d Company
out of business.
e The stipulated judgment and order also provided that Ameritel Payphnone
would be required to pay $8 million if they are found to have made omissions
or misrepresentations about their financial condition.
Source: FTC. FTC v. Stillwater Vending, Limited
FTC v. Target Vending Systems FTC v. Telecard Dispensing Corp
4,000,000 28,172
0 Ban, bond FTC v. Touchnet, Inc. FTC v. Transworld Enterprises, Inc. FTC v.
Raymond Urso FTC v. Vendall Marketing Corp
360,000 3,950,000 Ban, bond
140,000 Ban 17,500
Recission of contracts
FTC v. Vendors Financial Services, Inc. FTC v. Marvin Wolf
FTC v. X. Clusiv Vending, Inc. 0 515,000 Ban
31,362,576 Bond 1,400,000 Bond
Other cases
FTC v. William Szabo (Gold Leaf Publishing) FTC v. TeleCommunications of
America, Inc. FTC v. Unitel Systems, Inc. (Universe of Toys)
FTC v. Worldwide Marketing and Distributing Co., Inc.
FTC v. Success Motivation Institute (" SMI/ USA") U. S. v. Kenneth Sterling
(Southern Coffee Inc.)
0 Ban 350,000 Criminal indictment Court
injunction Yes
No Pending
Yes No
Pending Yes
No Pending
Yes No
Pending Asset freeze Civil
penalty Monetary redress Other
remedy Sought Obtained Amount
No Pending
Yes No
Pending Amount
Other Yes
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 55 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Table 6: Information on the Franchise and Business Opportunity Cases
(Franchise Rule and/ or Section 5 of the FTC Act) Filed by FTC, 1993- 2000
Case name and date FTC filed Description of alleged violations Investors
affected
Rule allegations only a Franchise b
U. S. v. Building Inspector of America, Inc.; April 13, 1993 Failure to
disclose current officers and background information, litigation
history, and bankruptcy history, failure to comply with Rule?s earnings
claims requirements 80 U. S. v. Coverall North America, Inc.; February 25,
1994 Rule compliance; failure to disclose franchisee information; failure to
provide
earnings claims document and to comply with Rule?s earnings claims
requirements 2,591 U. S. v. Direct Distributors, Inc.; July 13, 1993 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements 290 U. S. v. Gingiss International,
Inc.; May 7, 1993 Making of earnings claims without a reasonable basis
209 U. S. v. Hillary?s Gourmet Ice Cream (Hillary?s Services, Inc.); April
13, 1994 Rule compliance; failure to provide earnings claims document
Unknown U. S. v. Jani- King International, Inc.; July 20, 1995 Failure to
disclose litigation history, and names, addresses, and telephone
numbers of existing franchisees; failure to provide an earnings claims
document 900
Business opportunity
U. S. v. 21st Century Systems, Inc.; February 2, 2000 Rule compliance;
failure to provide disclosure document and comply with
Rule?s earnings claims requirements Unknown U. S. v. Acme Vending Co.; July
10, 1995 Rule compliance; failure to provide an earnings claim document and
to
comply with Rule?s earnings claims requirements 250 FTC v. Ad- Com
International, Inc.; March 1, 1996 Rule compliance; failure to provide
earnings claims document; violation of
FTC?s 900 Number Rule 120 U. S. v. All Snax, Inc.; September 27, 1996
Failure to disclose required information, including the business experience
of
directors and executive officers, litigation, names and addresses of
franchisees, and statistical information about franchisees; failure to
provide an earnings claim document and to comply with Rule?s earnings claims
requirements 177 U. S. v. American Coin- Op Services, Inc.; February 7, 2000
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. American Vending
Group, Inc.; July 10, 1995 Rule compliance; failure to furnish an earnings
claims document and to
comply with Rule?s earnings claims substantiation requirements 100 U. S. v.
America?s Radio Transmitter, Ltd.; July 10, 1995 Rule compliance; failure to
provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Astratel, Inc.;
February 14, 2000 Rule compliance; failure to provide earnings claims
document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Automatic
Merchandising Corp.; February 14, 2000 Rule compliance; failure to provide
earnings claims document and to comply
with Rule?s earnings claims requirements Unknown FTC v. Bureau 2000
International (Malibu Media); March 1, 1996 Rule compliance; failure to
provide earnings claims documents
500 U. S. v. Cigar Factory Outlet, Inc.; February 11, 2000 Rule compliance;
failure to provide earnings claims document and to comply
with Rule ?s earnings claims requirements Unknown U. S. v. Cigar
Manufacturers Outlet, Inc.; February 11, 2000 Rule compliance; failure to
provide earnings claims and to comply with Rule?s
earnings claims requirements Unknown U. S. v. Delta Distributors Co., Inc.;
July 10, 1995 Rule compliance; failure to provide earnings claims document
and to comply
with Rule?s earnings claims requirements 20
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 56 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
U. S. v. Discount Manufacturing, Inc.; February 11, 2000 Rule compliance;
failure to provide an earnings claims document and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Elite
Business Designs, Inc.; February 7, 2000 Rule compliance; failure to provide
earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Emily Water
& Beverage Co., Inc.; February 7, 2000 Rule compliance; failure to provide
earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Firstlight
Entertainment, Inc.; July 11, 1995 Rule compliance; failure to provide
earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Galaxies,
Inc.; February 7, 2000 Rule compliance; failure to provide earnings claims
documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Global
Gumballs, Inc.; July 10, 1995 Rule compliance; failure to provide earnings
claims documents and to
comply with Rule?s earnings claims requirements 1, 200 U. S. v. Global Toys
Distributors, Inc; July 30, 1997 Rule compliance; failure to provide an
earnings claims document
Unknown U. S. v. Great Pacific Vending Corp.; February 14, 2000 Rule
compliance; failure to provide earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown FTC v. Greenhorse
Communications, Inc.; April 20, 1998 Rule compliance; failure to provide an
earnings claims document
1 U. S. v Greeting Card Depot, Inc.; February 22, 2000 Rule compliance;
failure to provide earnings claims documents and to
comply with Rule? s earnings claims requirements Unknown U. S. v. Health
Wave Inc.; July 11, 1995 Rule compliance; failure to provide earnings claims
documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v.
International Champions, Inc.; July 10, 1995 Rule compliance; failure to
provide earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Island
Automated Medical Services, Inc.( Diversified Data Services; Med Star USA;
Star Funding Group); July 11, 1995
Rule disclosure; failing to provide an earnings claim document and to comply
with Rule?s earnings claims requirements
1,300 FTC v. J. P. Meyers Company, Inc.; March 4, 1996 Rule disclosure,
failure to provide earnings claims document
100 U. S. v. Jumping Java Coffee, Inc.; February 11, 2000 Rule compliance;
failure to provide earnings claims documents and to
comply with Rule ?s earnings claims requirements Unknown U. S. v. Kato
Makiko (Infinity Corp.); July 21, 1995 Rule compliance; failure to provide
an earnings claims document and to
comply with Rule?s earnings claims requirements Unknown U. S. v. K. V. Hill
(Southeastern Photo Supply, Inc.); February 7, 2000 Rule compliance; failure
to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Life Systems
Associates, Inc.; July 10, 1995 Rule compliance; failure to provide an
earnings claim document and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Li?l
Snacks, Inc.; July 10, 1995 Rule compliance; failure to provide an earnings
claims document and to
comply with Rule?s earnings claims requirements 17 U. S. v. Douglas C.
McGlothin, (International Cigar Consortium); February 9, 2000
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements
Unknown U. S. v. Modern Management Systems, Inc.; July 10, 1995 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. National
Marketing, Inc.; July 10, 1995 Rule compliance; failure to provide earnings
claims document and to comply
with Rule?s earnings claims requirements 100 U. S. v. National Tech Systems,
Inc.; July 10, 1995 Rule compliance; failure to provide earnings claims
document and to comply
with Rule?s earnings claims requirements Unknown
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 57 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
U. S. v. National Vending Consultants, Inc.; February 7, 2000 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Nibblers, Inc.;
July 10, 1995 Rule compliance; failure to provide earnings claims document
and to comply
with Rule?s earnings claims requirements Unknown U. S. v. North American
Marketing Systems, Inc.; February 11, 2000 Rule compliance; failure to
provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Nu- Idea
Technologies, Inc.; July 10, 1995 Rule compliance; failure to provide
earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Old Dominican
Tobaccos, Inc.; February 14, 2000 Rule compliance; failure to provide
earnings claims document and to comply
with Rule?s earnings claims requirements Unknown FTC v. Pioneer
Communications of Nevada, Inc.; March 1, 1996 Rule compliance; failure to
provide an earnings claims document
100 U. S. v. Pro- Plastic Design & Marketing, Inc.; July 10, 1995 Rule
compliance; failure to provide earnings claims documents and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Protocol,
Inc.; July 10, 1995 Rule compliance; failure to provide earnings claims
document and to comply
with Rule?s earnings claims requirements 500 U. S. v. PVI, Inc. (Photo Vend
Intl); September 1, 1998 Rule compliance; failure to provide earnings claims
document
Unknown U. S. v. Quartercall Communications, Inc.; July 10, 1995 Rule
compliance; failure to provide an earnings claim document and to
comply with Rule?s earnings claims requirements Unknown U. S. v. Software
Concepts, Inc.; April 18, 1995 Rule compliance; failure to provide
identifying information about existing
franchisees; failure to provide an earnings claims document 300 U. S. v.
Summit Communications Inc.; July 11, 1995 Rule compliance; failure to
provide identifying information about existing
franchisees; failure to provide an earnings claims document Unknown U. S. v.
Surface Science Corp.; July 17, 1995 Rule compliance; failure to provide
identifying information about existing
franchisees; failure to provide an earnings claims document Unknown U. S. v.
Toys Unlimited International, Inc.; July 29, 1997 Rule compliance; failure
to provide earnings claims document
100 U. S. v. United Payphones of America, Inc.; February 14, 2000 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v. Vending
Communications, Inc.; (Interactive Communications Services, Inc.); February
14, 2000
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements
Unknown U. S. v. Worldwide Coffee, Inc.; February 11, 2000 Rule compliance;
failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements Unknown U. S. v World Wide Vending
Corp.; February 14, 2000 Rule compliance; failure to provide earnings claims
document and to comply
with Rule?s earnings claims requirements Unknown
Other
In the Matter of Blenheim Expositions, Inc. (IFA Expo); December 22, 1994
Misrepresentations about results of Gallup Poll on franchisee success
Unknown U. S. v. Entrepreneur Media, Inc.; December 21, 1994 Rule
compliance; failure to provide earnings claims document
Unknown U. S. v. Shulman Promotions, Inc,( Own Your Own Business Shows);
December 21, 1994
Rule compliance; failure to provide earnings claims document Unknown
Section 5 allegations only Franchise Business Opportunity
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 58 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. 2Xtreme Performance International (Polk; Usasurance Group, Inc.;
Akahi Corp.; AKAHI. COM, CORP.; Afew, Inc.); December 9, 1999
Misrepresentations about potential earnings 50,000 FTC v. AmeraPress, Inc.
(Voxcom Sales, LLC; The Home Business Group); February 17, 1998
Misrepresentations about potential earnings 25,000 FTC v. AMP Publications,
Inc. (Computer & Web Publications, Inc., Nationwide Financial Publications,
Inc.); February 1, 2000
Misrepresentations about potential earnings; availability of work from
companies with an established business; availability of refunds
Unknown FTC v. Ed Boehlke (Advantage Marketing); November 4, 1996
Misrepresentations about potential earnings, availability of jobs
50,000 FTC v. Data Medical Capital, Inc. (Medco); October 14, 1999
Misrepresentations about potential earnings; availability of work
12,000 In re Timothy R. Bean (? DMC Publishing Group?); June 10, 1996
Misrepresentations about potential earnings
Unknown FTC v. Edward P. Epstein (Electronic Filing Associates; Electronic
Filing Academy.); January 12, 1998
Misrepresentations about potential earnings 650 FTC v. Financial Freedom
Report, Inc. (FreeCom Communications, Inc.; Elevaa, Inc.; Silent Salesforce,
Inc.; American Home Business Association, Inc.; FFR Marketing, Inc.); June
4, 1996
Misrepresentations about earnings potential, testimonials, and references
150,000 FTC v. FutureNet, Inc. (FutureNet Online, Inc.); February 17, 1998
Misrepresentations about earnings potential
40,000 FTC v. Home Professions, Inc. (Nationwide Medical Billing;
Telesalescenter. com; Home Professions and ProClaim Software); February 1,
2000
Misrepresentations about potential earnings; nature of software purchased;
availability of work; refund policy
10,000 In re Homespun Products; March 17, 1994 Misrepresentations about
potential earnings
26,000 FTC v. Innovative Productions; February 10, 2000 Misrepresentations
about potential earnings; commissions paid; refund policy
10,000 FTC v. Innovative Telemedia; March 4, 1996 Misrepresentations about
potential earnings
600 In re LS Enterprises (Freepromo. com; Enterprise Publications; LRS
Publications; Internet Promotions, LLC; Cyberpromoters. com); July 13, 1999
Misrepresentations about potential earnings, no reasonable basis for
earnings claims
Unknown FTC v. Mediworks, Inc.( United Medical Associates; United Legal &
Medical Associates; Medipros); February 1, 2000
Misrepresentations about potential earnings; availability of clients; refund
policy
30,000 FTC v. Richard C. Neiswonger (Marketing Systems; S& K Group, Inc.;
Medical Recovery Service, Inc).; November 13 1996
Misrepresentations about potential earnings; profit sharing; references
1,200 In re New Mexico Custom Designs, Inc.; March 17, 1994
Misrepresentations about potential earnings
40,000
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 59 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
In re Nu- Skin International; April 7, 1994 Misrepresentations about
potential earnings Unknown FTC v. Orion Products Corporation (Natural
Choice- USA; Antares Corporation); July 19, 1996
Misrepresentations about potential earnings and references 6,000 In re
Russell J. Osborn (The Hairbow Company); March 17, 1994 Misrepresentations
about potential earnings
50,000 FTC v. Pase Corp; June 13, 1994 Misrepresentations about potential
earnings, level of necessary effort 195,000 FTC v. Para- Link International,
Inc. (AAA Family Centers, Inc., The Liberty Group of America, Inc.); October
16, 2000
Misrepresentations about potential earnings, availability of referrals-
clients; omissions about unauthorized practice of law, limited passage rate
on qualifying tests Unknown FTC v. Precision Communications Administrations,
Inc.; November 5, 1996 Misrepresentations about potential earnings, support
services
50 FTC v. Rapaport Corp. (Holiday Magic; National Information Bureau;
Mayfair Gift Company); November 12, 1993
Misrepresentations about potential earnings, demand for products Unknown FTC
v. Robert Serviss (Excel Communications); June 12, 1996 Misrepresentations
about potential earnings
Unknown FTC v. Star Publishing Group, Inc. (National Consumer Services);
February 2, 2000
Misrepresentations about potential earnings; affiliation with U. S.
government; refund policy; nature of program
85,000 FTC v. Starr Communications, Inc.; June 12, 1996 Misrepresentations
about potential earnings
Unknown FTC v. Summit Photographix, Inc.; February 19, 1998
Misrepresentations about potential earnings and exclusive territories
3,000 In re William E. Taylor (Sandcastle Creations); March 17, 1994
Misrepresentations about potential earnings
15,000 FTC v. United States Business Bureau, Inc.; July 10, 1995
Misrepresentations about independence and reliability of reports provided to
prospective franchisees 40 U. S. v. Visions Group of America, Inc.( Soho
Technologies, Inc.); October 18, 2000
Misrepresentations about potential earnings; violations of Cooling Off Rule
Unknown FTC v. Vaughn Williams, III (Encore Networking Services; Warner
Communications Systems & Co); February 1, 2000
Misrepresentations about potential earnings; availability of work; refund
policy
Unknown FTC v. Ronald Way (? Hawthorne Communications?); January 27, 1997
Misrepresentations about false earnings, success, and testimonials
20,000
Rule and section 5 allegations Franchise
FTC v. Car Checkers of America, Inc. (Auto Checkers of America, Inc.);
February 8, 1993
Failure to disclose truthful information about existing franchisees; failure
to provide earnings claims documents; making inconsistent statements;
misrepresentations about references, potential earnings, prior success,
advertising expenses, necessary experience, omissions about use of services
and licensing requirements
35 FTC v. Car Wash Guys International, Inc. (Wash Guy. Com, Inc.); July 31,
2000
Rule compliance; failure to provide an earnings claims document;
misrepresentations about potential earnings; that purchasers would receive a
?turn- key? business with initial and ongoing support Unknown FTC v.
Communidyne, Inc.; October 4, 1993 Rule compliance; failure to provide
earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about product
reliability and benefits (insurance discounts) 192
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 60 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. Independent Travel Agencies of America Association, Inc. (Travel
Industry Council); February 14, 1995
Rule compliance; failure to provide earnings claims document;
Misrepresentations about potential earnings, access to and support from
suppliers, licensing, and benefits 7,000 U. S. v. J. C. Pro Wear, Inc.;
March 21, 1994 Rule compliance; failure to provide an earnings claims
document and to
comply with Rule? s earnings claims requirements; misrepresentations about
compliance with FTC requirements 180 FTC v. Richard L. Levinger (Pizza Chef;
Senor Salsa?s Gourmet Mexican restaurants; Blazers All American Barbeque);
May 9, 1994
Failure to disclose financial condition, litigation history, refund policy,
franchisee names and addresses and franchisee statistics; failure to provide
earnings claims document; failure to make refunds; making contradictory
statements; misrepresentations about potential earnings, initial investment,
and refund policy 450 FTC v. Majors Medical Supply, Inc.; November 14, 1996
Rule disclosure; failure to provide earnings claims document;
Misrepresentations about initial startup costs and earnings 100 FTC v.
Minuteman Press International, Inc. (Speedy Sign* a * Rama USA); June 4,
1993
Failure to disclose transfer fee; failure to provide an earnings claims
document; making inconsistent statements; misrepresentations about profits
and earnings projections 1,700 FTC v. Mortgage Service Associates, Inc. (MSA
Nationwide Field Services, Inc.; J. D. Raffone Associates, Inc.); July 11,
1995
Failure to disclose litigation history, names and addresses of franchisees
and statistical data; failure to provide an earnings claims document;
misrepresentations about potential earnings and commissions; making
contradictory statements Unknown FTC v. Robbins Research International,
Inc.; May 6, 1995 Rule compliance; failure to provide earnings claims
document;
misrepresentations about potential earnings 50 FTC v. Sage Seminars, Inc.;
August 9, 1995 Rule compliance; failure to provide earnings claims document;
misrepresentations about investment recovery, potential earnings, and
support and assistance Unknown U. S. v. Snelling and Snelling; May 12, 1993
Failure to provide earnings claims document; misrepresentations about
potential earnings 180 FTC v. Tower Cleaning Systems, Inc.; August 16, 1996
Rule compliance; failure to disclose terminations, reacquisitions,
nonrenewals, and cancellations; failure to provide an earnings claims
document; failure to return deposits; misrepresentations about potential
earnings 900 U. S. v. Tutor Time Child Care Systems, Inc.; July 22, 1996
Failure to disclose litigation, criminal and other background information;
misrepresentations about potential earnings, delivery date, and site
selection Unknown
Business opportunity
FTC v. Advanced Public Communications Corp.; February 7, 2000
Rule compliance; failure to provide an earnings claim document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings; profitable locations; and delivery date Unknown FTC v. Allstate
Business Consultants Group, Inc.; July 10, 1995 Failure to provide an
earnings claims document and to comply with Rule?s
earnings claims requirements; misrepresentations about potential earnings
claims and references 200 FTC v. American Universal Vending Corp.( Universal
Vending, Inc.; Universal Payphone Systems, Inc.); February 14, 2000
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings and profitability of locations
Unknown FTC v. Ameritel Payphone Distributors, Inc.; February 10, 2000 Rule
compliance; failure to provide earnings claim document and to comply
with Rule?s earnings claims requirements; Misrepresentations about potential
earnings and profitability of locations 900 FTC v. Business Opportunity
Center, Inc.; July 10, 1995 Failure to disclose the names and addresses of
existing franchisees; failure
to provide an earnings claims documents; unsubstantiated earnings claims;
misrepresentations about FDA approval or recognition and product efficacy
claims Unknown
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 61 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. Carousel of Toys; July 29, 1997 Rule compliance; failure to give an
earnings claims document; misrepresentations about potential earnings;
omissions about costs 80 FTC v. Comtel Communications Global Network, Inc.;
November 4, 1996 Rule compliance; failure to provide earnings claim
document;
misrepresentations about potential earnings 600 FTC v. Creative Technology
International, Inc. (Georgia International Export Co., Inc.; L& S
Manufacturing, Inc.; System One Telecom); November 4, 1996
Rule compliance; failure to provide earnings claims document;
misrepresentations about potential earnings, references, locators? success,
and location replacement policy
30 FTC v. Fresh- O- Matic Corp; February 14, 1996 Rule compliance; failure
to provide earnings claims document;
Misrepresentations about potential income and site location assistance. 2,
000 FTC v. Genesis One Corp. (Bureau One); March 4, 1996 Rule compliance;
failure to provide earnings claims document;
misrepresentations about potential income 5,900 FTC v. Hart Marketing
Enterprises Ltd., Inc. (G. M. and Associates); February 3, 1998
Rule compliance, failure to furnish earnings claims document;
misrepresentations about potential earnings; profitable locations; and
references 70 FTC v. Hi Tech Mint Systems, Inc.; August 18, 1998 Rule
compliance; failure to provide earnings claims document;
misrepresentations about potential earnings; sources of income; success of
locators; profitable locations 700 FTC v. iMall, Inc.; April 5, 1999 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings Unknown FTC v. Inetintl. com, Inc. (Inet International); March 25,
1998 Rule compliance; failure to provide an earnings claims document;
misrepresentations about potential earnings and company references 300 FTC
v. Infinity Multimedia, Inc.( Quality Marketing Associates, Inc.); June 24,
1996
Rule compliance; failure to provide an earnings claims document;
misrepresentations about potential earnings, recovery of investment,
profitability of prior purchasers, references, and locators? success 300 FTC
v. International Computer Concepts; August 17, 1994 Rule compliance; failure
to provide an earnings claims document;
misrepresentations about potential earnings, references, exclusive
territories, locations, assistance, training, and ongoing support, and
refund policy 135 FTC v. Douglas J. Irvine (D. J. I. Manufacturing; Comtel
Data Systems, The Comtel Group); April 12, 1994
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings, references, locators, failure rates, and prior litigation 645 FTC
v. Jordan Ashley (Jordan Ashley Galleries; Jordan Ashley Publishing;
American Heartbeats; and American Celebrations; Gold Coast Developers, Inc.;
and National Vending Systems, LTD., Inc.); November 16, 1993
Rule compliance; failure to provide an earnings claims document and to
comply with Rule?s earnings claims requirements; misrepresentations about
potential earnings, initial investment, exclusive territories, availability
of locations and replacement policy, and references
1,000 FTC v. Joseph Hayes (Retail Sales & Marketing, Inc.; Automated Guest
Directories, Inc.); November 4, 1996
Rule compliance; failure to provide earnings claims document;
Misrepresentations about potential earnings, nature of business, locations,
and assistance 70 FTC v. Licensed Products U. S. A., Inc. (Equipment
Wholesalers of America, Inc.; Sports Centers of America, Inc.; American
Marketing Systems, Inc.); July 30, 1997
Rule compliance; failure to provide an earnings claims document;
misrepresentations about potential earnings and profitable locations
100 FTC v. Thomas Maher (Internet Business Broadcasting); February 19, 1998
Rule compliance, failure to provide an earnings claims document;
misrepresentations about potential earnings and refund policy
100
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 62 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. Marketing and Vending Concepts; February 15, 2000 Rule compliance;
failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings and profitability of locations Unknown FTC v. Marquette, Inc.; July
12, 1995 Rule compliance; failure to provide earnings claims document;
misrepresentations about earnings potential, company services, references,
and exclusive territories that purchasers will receive exclusive territories
600 FTC v. MegaKing, Inc. (Bizz Ad Advertising, Inc.); February 7, 2000 Rule
compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings; profitability of locations 150 U. S. v. Megatrend
Telecommunications (Tri- Star Marketing Corp.); November 5, 1993
Rule compliance; failure to provide an earnings claims document and to
comply with Rule?s earnings claims requirements; misrepresentations about
market, locations, ease of replacement, and assistance 300 FTC v. MII
Investment Corp.; September 1, 1998 Rule compliance; failure to provide an
earnings claims document;
misrepresentations about potential sales and earnings 18 FTC v. Mini Snacks,
Inc.; April 17, 1995 Rule compliance; failure to provide earnings claims
documents;
Misrepresentations about investment recovery and earnings, locations,
maintenance and repair, locators? success, delivery times 900 FTC v. Mini-
TV USA, Inc.; July 25, 1995 Rule compliance; failure to provide an earnings
claims document;
misrepresentations about potential earnings and locations 100 FTC v.
National Consulting Group, Inc.; January 12, 1998 Rule compliance, failure
to furnish an earnings claims document;
misrepresentations about potential earnings, selling requirements, and
assistance 1,000 U. S. v. Robert M. Oliver (U. S. Consumer Protection
Agency; Consumer Protection Agency of Bay County); June 8, 1998
Rule compliance; failure to provide an earnings claims document;
misrepresenting that the defendants are agencies of the United States or
state or local governments Unknown FTC v. O?Rourke (Andrisani Family) c June
22, 1993 Rule compliance; failure to provide earnings claims document and to
comply
with Rule?s earning claims requirements; misrepresentations about potential
earnings, exclusive territories, profitable locations, references, and
assistance and training 3,000 FTC v. Panoramic Multimedia, Inc. (Mackie
Services, Inc.); July 10, 1995 Rule compliance; failure to provide earnings
claims document;
Misrepresentations about potential earnings, value of goods sold, and
references 300 FTC v. Parade of Toys, Inc.; July 25, 1997 Rule compliance;
failure to provide an earnings claims document;
misrepresentations about potential earnings; omission of cost information 1,
000 FTC v. P. M. C. S., Inc. (? Physicians Medical Claims Service?);
November 5, 1996
Rule compliance; failure to provide earnings claims document;
misrepresentations about potential earnings, availability of accounts, and
assistance 600 FTC v. Public Telco Corp; July 10, 1995 Rule compliance;
failure to provide earnings claims document,
misrepresentations about potential earnings, references, locations, location
replacement policy, cancellation policy, and assistance 300 U. S. v. QX
International, Inc.; February 20, 1999 Rule compliance; failure to provide
earnings claims document;
misrepresentations about potential earnings, references, exclusive
territories, locators? success, and advertising assistance 400 FTC v. James
L. Roche (Allied Snax); May 21, 1996 Rule compliance; failure to provide
earnings claims document;
misrepresentations about potential earnings, assistance and training,
account generation 100 FTC v. Steve Shelton (Electronic Healthcare Products;
National Electronic Healthcare Corp; Medi- Bill Systems); December 17, 1997
Failure to disclose names and addresses of purchasers and purchaser
statistics; failure to provide an earnings claims document;
misrepresentations about potential earnings
1,200
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 63 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. Showcase Distributing, Inc.; July 10, 1995 Rule compliance; failure
to provide earnings claims document;
misrepresentations about potential earnings, references, locators? success,
and location costs 400 FTC v. Silver Shots, Inc., (Second Income); July 11,
1995 Rule compliance; failure to provide earnings claims documents;
misrepresentations about potential earnings, locators ? success,
availability of locations, and compliance with applicable state laws 424 FTC
v. Southeast Necessities, Inc. (Dr. ?s
Choice; Allstate Locating, Inc.); September 7, 1994
Rule compliance; failure to provide earnings claims document;
Misrepresentations about potential earnings, references, locations and
replacement policy 300 FTC v. Stillwater Vending, Limited (Global Locating
Services); August 7, 1997
Rule compliance; misrepresentations about potential earnings, references,
profitable locations, quality of vending machines, delivery dates, initial
inventory Unknown FTC v. William Szabo (Gold Leaf Publishing); March 1, 1996
Rule compliance; failure to provide earnings claims document;
misrepresentations about potential earnings 50 FTC v. Target Vending Systems
(East West Vending Systems, Inc.); February 8, 2000
Rule compliance; failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings and profitability of locations Unknown FTC v. Telecard Dispensing
Corp; September 29, 1998 Rule compliance; failure to furnish earnings claims
document;
misrepresentations about potential earnings, exclusive territories, and
profitable locations 3,000 FTC v. TeleCommunications of America, Inc.; July
10, 1995 Rule compliance; failure to provide earnings claims document;
misrepresentations about potential earnings, references, locators? success,
and start- up costs 400 FTC v. Touchnet, Inc (Touchtone Telecommunications &
Advertising, Inc.); February 11, 1998
Rule compliance; failure to provide earnings claims document;
misrepresentations concerning potential earnings
500 FTC v. Transworld Enterprises, Inc. (ATM International); February 15,
2000 Rule compliance; failure to provide an earnings claims document and to
comply with Rule?s earnings claims requirements; misrepresentations about
potential earnings, profitable locations, and availability of support 201
FTC v. Unitel Systems, Inc. (Universe of Toys); August 1, 1997 Rule
compliance; failure to provide earnings claims document;
misrepresentations about potential earnings and references 180 FTC v.
Raymond Urso (Bridgeport & Associates; Prestige Advertising, Inc.; Maria K.
Associates; National Better Business Bureau); August 18, 1997
Rule compliance; failure to furnish an earnings claims document;
misrepresentations about potential earnings, references, and profitable
locations
500 FTC v. Vendall Marketing Corp. (Vendall Manufacturing; Vendall Corp.);
January 10, 1994
Rule compliance, failure to provide earnings claims document and to comply
with Rule?s earnings claims requirements; misrepresentations about potential
earnings, locations, locators? services, maintenance and repair; delivery,
complaint resolution history 3, 500 FTC v. Vendors Financial Services, Inc.
(T& H Management, Inc.); August 24, 1998
Rule compliance, failure to provide an earnings claims document;
misrepresentations about potential earnings, exclusive territories,
references, and profitable locations 300 FTC v. Marvin Wolf d March 3, 1994
Rule compliance; failure to provide earnings claims document;
misrepresentations about potential earnings, exclusive territories,
locations, references, and assistance 3, 189
Appendix V: Information on Business Opportunity and Franchise Court Cases
Filed by FTC During 1993- 2000
Page 64 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Case name and date FTC filed Description of alleged violations Investors
affected
FTC v. Worldwide Marketing and Distributing Co., Inc.( Tital Management
Corp.; Mammoth Holding Co.; Remote Assembly Corp.; Popcorn Supply Co.;
Popcorn Flavors, Int?l; Royal Imperial Ltd., Int?l; Popcorn Distributors,
Inc.; Maize Vending Associates); July 10, 1995
Rule compliance; failure to furnish an earnings claims document;
misrepresentations about potential earnings; maintenance requirements; and
references
650 FTC v. X. Clusiv Vending, Inc.; August 7, 1995 Rule compliance; failure
to provide earnings claims document;
Misrepresentations about potential earnings, locators? success, discount
prices, and exclusive territories 350
Other cases
FTC v. Success Motivation Institute (? SMI/ USA?); October 22, 1993
Violations of previous court order; unsubstantiated earnings claims; failure
to
disclose turnover rate information. 2,500 U. S. v. Kenneth Sterling
(Southern Coffee Inc.); May 18, 1999 Criminal contempt for violating court
order prohibition Rule violations and
section 5 Unknown Note: Case information is current as of April 2001. a Rule
violation cases, which seek civil penalties, are generally filed by the
Department of Justice on
behalf of FTC. b During 1998- 2000, eight Franchise Rule matters were
referred to NFC?s Alternative Rule
Enforcement Program. c C& B Products, Inc.; Gourmet Mini Cookies, Inc.;
Intimate Apparel; Lipo Reduction Systems, Inc.( formerly Career Dynamics,
Inc.); Lockheart Advertising Agency, Inc.; Rainbow Polishing & Appearance
Systems, Inc.; Security Products International, Inc.; A & Q Enterprises,
Inc.; C & A Industries, Inc.; C & C Advertising, Inc.; J. C. P., Inc.;
Karma?s Skin Systems, Inc.; Rain Forest Natural Products, Inc.; American
Beverage Corporate; Broscorp, Inc.; Grocery Shopping Association of America,
Inc.; Interstate Locators, Inc.; Yardpro, Inc. d Action Games Technologies,
Inc.; Allstates Leasing, Inc.; American Manufacturing Industries, Inc.;
Burger Quik, Inc.; Coin Management, Inc.; Corporate Travel Services, Inc.;
DBJ I, Inc.; DLW Distributors; Entertainment Enterprises, Inc.; GBC
Enterprises, Inc.; E- Z Vend; Kick Start; Multi Vend; Research America;
Snack Vending USA; Sun & Fun Vacation Club; Vend- A- Nutt; Honor America,
Inc.; Indoor Amusement Games, Inc.; Jameson & Adams, Inc.; Magnum Vending
Corp.; North American Pharmaceutical, Inc.; TV Ventures; Northwest
Marketing, Inc.; Cascade Vending and/ or Quick Vend; Novelty Plush, Inc.;
Debbie?s Amusements; Prizes Unlimited; Olympic Entertainment, Inc.; Olympic
Games International; Omni Investors Group, Inc.; Omni Marketing Group, Inc.;
Outreach America, Inc.; Juice De Lite; Raks- 4- Kids; Pizza King, Inc.;
Family Entertainment; Pizza Royale, Inc.; Project America, Inc.; R& J
Vending, Inc.; S& M Manufacturing Corporation; S& M Industries, Inc.; Treat
Vendor, Inc.; U- Vend, Inc.; Boca Amusements; United Capital, Inc.
Source: FTC.
Appendix VI: FTC?s Efforts to Communicate and Coordinate Business
Opportunity and Franchise Enforcement Activities
Page 65 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC communicates information and coordinates enforcement activities with
state business opportunity and franchise regulatory officials through
various means, including annual law enforcement summits, joint FTC- state
enforcement actions, monthly telephone conference calls, and the Consumer
Sentinel complaint database. FTC staff commented that by sharing information
and resources, joint efforts effectively target issues that have direct
impact on consumers. To gather information on the effectiveness of FTC?s
efforts to communicate information and coordinate enforcement activities
with state regulatory officials from calendar year 1998 through 2000, we
contacted the eight business opportunity and nine franchise regulatory
officials in the nine states that have both business opportunity and
franchise disclosure laws to obtain their views on the effectiveness of
FTC?s efforts to communicate and coordinate enforcement activities in their
states, and we received responses from all of them. 1 The survey results
showed that state business opportunity regulatory officials tended to view
FTC?s communication and coordination efforts as being more effective than
did the state franchise regulatory officials.
FTC communicates information and coordinates enforcement activities with
state business opportunity and franchise regulatory officials through
various means. The sections that follow provide information on the means of
communication FTC has used in recent years.
Since 1995, FTC and NASAA have jointly sponsored annual franchise and
business opportunity law enforcement summits. According to FTC staff, the
summits provide a vehicle for FTC and state business opportunity and
franchise regulatory officials to communicate and coordinate law enforcement
priorities for the coming year. Summit participants have included
representatives from state agencies responsible for business opportunity and
franchise issues, including Offices of State Securities Commissioners,
Attorneys General, and other law enforcement agencies. These summits cover
such issues as improving FTC- state working relationships, trends in the
business opportunity and franchising industries, and planning joint FTC-
state enforcement actions.
1 Only eight state business opportunity regulatory officials were contacted
because Virginia has not designated an agency to enforce its business
opportunity law. Appendix VI: FTC?s Efforts to Communicate
and Coordinate Business Opportunity and Franchise Enforcement Activities
FTC?s Communication and Coordination Efforts
Annual Law Enforcement Summits
Appendix VI: FTC?s Efforts to Communicate and Coordinate Business
Opportunity and Franchise Enforcement Activities
Page 66 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC periodically conducts joint investigations and sweeps with state and
federal law enforcement officials. From 1995 through 2000, FTC conducted
five joint sweeps that included participants from the Department of Justice,
as well as selected state agencies responsible for business opportunity and
franchise enforcement issues. These five sweeps resulted in 45 FTC cases
filed, 44 DOJ cases filed, and 163 state enforcement actions. 2 All five
sweeps involved business opportunities. According to FTC staff, the types of
problems found with franchises- such as the lack of proper disclosure- do
not generally lend themselves to sweeps. Table 7 provides further
information on the five FTC- state coordinated sweeps conducted from 1995
through 2000.
Table 7: Information on FTC- State Coordinated Sweeps, 1995- 2000 Sweep
Industry targeted Participants involved Actions taken
Project ?Telesweep?
(1995) Business opportunities (e. g., vending machines, amusement
games, pay telephones, and display racks)
FTC, DOJ, and 20 state agencies Court cases filed by FTC DOJ State agencies
11 21 59 Operation ?Missed
Fortune? (1996) Business opportunities, workat- home schemes, and pyramid
schemes FTC and 25 state agencies Court cases filed by
FTC State agencies a
11 23 Project ?Trade Name Games? (1997) Business opportunities (e. g., in
store carousel racks) FTC and 8 state agencies Court cases filed by
FTC State agencies
6 12 Operation
?Vend Up Broke? (1998) Business opportunities (e. g., vending machines) FTC,
DOJ, and 10 state agencies FTC
DOJ State agencies a
4 1 36
Project
?Biz- illion$? (1999- 2000) Business opportunities (e. g., vending
machines), work- at
home schemes, and pyramid schemes
FTC, DOJ, and 29 state agencies Court cases filed by FTC DOJ State agencies
a
13 22 33 a May include court and administrative actions, e. g., requests for
injunctions filed in state courts,
investigative subpoenas, cease and desist orders, violations of anti- fraud
statutes, failure to file disclosure documents, and failure to register a
business opportunity venture.
Source: GAO analysis of FTC press releases on sweeps.
Since 1995, FTC has held monthly telephone conference calls with various
state business opportunity and franchise regulatory officials to exchange
information and discuss ongoing and prospective enforcement actions.
2 State enforcement actions may include court and administrative actions.
Joint FTC- State Law
Enforcement Actions Monthly Telephone Conference Calls
Appendix VI: FTC?s Efforts to Communicate and Coordinate Business
Opportunity and Franchise Enforcement Activities
Page 67 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
FTC staff said that 25 to 30 state agencies usually participate in these
conference calls. According to FTC staff, the conference calls focus on
improper patterns or practices that the participants have uncovered in
performing their enforcement functions. The FTC staff added that since most
of the complaints and problems that are brought to the attention of the
participants involve business opportunities, the conference calls generally
do not involve discussions of franchise enforcement issues.
Consumer Sentinel is an on- line central repository for consumer complaints
relating to consumer and Internet fraud and identity theft, maintained by
FTC?s Division of Planning and Information. According to FTC staff, Consumer
Sentinel is also a vehicle for sharing information with state law
enforcement agencies concerning business opportunity and franchise
complaints, investigations, and court cases. More than 250 federal, state,
local, and international law enforcement agencies have direct online access
to Consumer Sentinel data; however, FTC cannot easily determine the extent
to which state agencies actually use this resource.
FTC staff commented that Consumer Sentinel capabilities enhance their
ability to promote communication and joint enforcement actions with
agencies. For example, Consumer Sentinel users can be alerted if other users
have information on a company or type of scheme by submitting an on- line
?alert? form. Consumer Sentinel also allows users to receive periodic
updates, based on their specific search criteria, and also obtain contact
information on any Consumer Sentinel law enforcement member.
In addition to its own sponsored events, FTC participates in NASAA?s
Franchise and Business Opportunity Project Group throughout the year. The
project group focuses on improving franchise disclosure requirements and
improving communication among states and FTC concerning franchise and
business opportunity enforcement actions. The project group consists of
FTC?s Franchise Rule Coordinator and state regulatory officials who serve on
a rotating basis. 3 The project group provides an electronic mail service
for NASAA members to exchange information on complaints and investigation
matters. The chair of the project group stated that by working together with
FTC, member states have the opportunity to participate in more (and more
creative) actions than the states would
3 The 2000 Project Group consisted of state officials from Maryland, New
York, Rhode Island, Virginia, and Washington. On- line Access to FTC
Complaint and Enforcement Data
Franchise and Business Opportunity Project Group
Appendix VI: FTC?s Efforts to Communicate and Coordinate Business
Opportunity and Franchise Enforcement Activities
Page 68 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
normally have the resources to undertake. The chair added that FTC?s
involvement in the project group has been an important tool for discussing
franchise issues since FTC?s monthly telephone calls primarily focus on
business opportunity issues.
Our survey of business opportunity and franchise regulatory officials in
those states that have both franchise and business opportunity disclosure
laws showed that state business opportunity regulatory officials tended to
view FTC?s communication and coordination efforts as being more effective
than did the state franchise regulatory officials.
State business opportunity officials generally believed that FTC?s
communication and coordination efforts were effective. The state officials
found the joint FTC- state enforcement actions (e. g., sweeps and
investigations) and informal communication (e. g., electronic mail,
telephone calls, and faxes) to be the most effective. Table 8 provides
further information on the eight state business opportunity officials? views
of the effectiveness of FTC?s various communication and coordination efforts
from 1998 through 2000.
Table 8: State Business Opportunity Officials? Views of the Effectiveness of
FTC?s Efforts to Communicate and Coordinate Enforcement Activities During
1998- 2000
FTC efforts Very effective Somewhat
effective Not effective Not
applicable a
Overall view of the effectiveness of FTC?s efforts to communicate and
coordinate enforcement activities
5 3 0 0 Annual FTC- NASAA law enforcement summits 4 2 0 2 FTC regional
meetings, working groups, and other meetings 1 1 0 6 Monthly or periodic FTC
conference calls 4 3 0 1 Joint FTC- state enforcement actions (e. g., sweeps
and investigations)
6 2 0 0 Online access to FTC complaint and enforcement data 3 3 0 2 Informal
communication (e. g., electronic mail, telephone calls, and faxes)
6 2 0 0 a The state agency did not participate in the event or use the FTC
database. Source: GAO analysis of comments provided by eight state business
opportunity regulatory officials.
State Regulatory Officials? Views on the Effectiveness of FTC?s Efforts
State Business Opportunity Officials? Views
Appendix VI: FTC?s Efforts to Communicate and Coordinate Business
Opportunity and Franchise Enforcement Activities
Page 69 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
State franchise regulatory officials generally believed that FTC?s
communication and coordination efforts were less effective than their
business opportunity counterparts. The difference in opinion may be due, at
least in part, to the fact that many of the state franchise officials had
not participated in many of the events or used FTC?s database. The state
officials found the annual law enforcement summits to be the most effective
communication and coordination activity used by FTC. Table 9 provides
further information on the nine state franchise officials? views of the
effectiveness of FTC?s communication and coordination efforts from 1998
through 2000.
Table 9: State Franchise Officials? Views of the Effectiveness of FTC?s
Efforts to Communicate and Coordinate Enforcement Activities During 1998-
2000
FTC efforts Very effective Somewhat
effective Not effective Not
applicable a
Overall view of the effectiveness of FTC?s efforts to communicate and
coordinate enforcement activities
0 5 4 0 Annual FTC- NASAA law enforcement summits 1 5 1 2 FTC regional
meetings, working groups, and other meetings 0 1 1 7 Monthly or periodic FTC
conference calls 0 2 1 6 Joint FTC- state enforcement actions (e. g., sweeps
and investigations)
0 3 1 5 Online access to FTC complaint and enforcement data 1 1 0 7 Informal
communication (e. g., electronic mail, telephone calls, and faxes)
2 3 0 4 a The state agency did not participate in the event or use the FTC
database. Source: GAO analysis of comments provided by nine state franchise
regulatory officials.
State Franchise Officials? Views
Appendix VII: Views of Officials From Franchise Trade Associations on the
Need for Federal Franchise Legislation
Page 70 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
The franchise trade associations we contacted provided divergent views on
the need for federal legislation on franchise relationships. Proponents of
federal legislation maintain, among other things, that legislation is needed
to address the franchisees? relative lack of bargaining power in the
franchise relationship and contend that current federal and state pre- sale
disclosure laws and state franchise relationship laws are ineffective in
addressing franchise relationship issues. Opponents, however, maintain that
franchise relationships are matters of contract law that should be addressed
at the state level and contend that pre- sale disclosure is the best way to
protect prospective franchisees. The following sections provide more
specific information on the views of the American Franchise Association
(AFA)- a leading proponent of federal franchise relationship legislation-
and the International Franchise Association (IFA)- a leading opponent of
such legislation.
According to AFA officials, the gross disparity in financial strength and
legal power between franchisors and franchisees has led to increasingly
onerous contracts and problems in franchise relationships. The officials
explained that it is their view that franchise contracts are increasingly
heavy- handed and oppressive to the degree that they would not be seen as
commercially reasonable in any other context. The officials believe that
these contracts are, in fact, creating a barrier to small business
entrepreneurs entering retail businesses.
AFA officials told us that the biggest problem with franchise contracts is
that franchisors reserve to themselves absolute decision- making power over
a wide variety of matters during the entire term of the contract. The
officials explained that a prospective franchisee may do his or her due
diligence, investigate the system, talk to franchisees, and be comfortable
in signing the current franchise agreement. The officials noted, however,
that most franchise agreements allow the franchisor to materially and
unilaterally make changes to the franchise relationship, which can
significantly alter the economic conditions for franchisees. They stated
that these wholesale changes are made during the term of the franchise
agreement through the prevalent use of operations manuals that franchisors
reserve the right to amend at any time. The officials added that even more
extensive changes are made when the agreement is up for renewal or when the
franchise business is being sold.
According to AFA officials, common examples of contract provisions that give
rise to such changes are the franchisor?s Appendix VII: Views of Officials
From
Franchise Trade Associations on the Need for Federal Franchise Legislation
AFA Views on Why Federal Franchise Legislation Is Needed
Appendix VII: Views of Officials From Franchise Trade Associations on the
Need for Federal Franchise Legislation
Page 71 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
reserving the right to increase advertising or royalty fees or impose
assessments;
ability to change the operating policy manual, which can encompass
fundamental financial and capital requirements and with which the franchise
agreement obligates the franchisee to comply;
ability to place additional locations in close proximity to an existing
franchisee (encroachment);
ability to distribute products and services through alternative modes of
distribution (e. g., direct- shipping of products through catalogues, the
Internet, and alternate retailers) and/ or another brand name;
reserving the right to be the sole supplier of goods and services used or
sold from the franchisee?s business, often charging above- market prices to
their captive franchisees; and
option to purchase the business when the franchise agreement has expired
or is terminated with the provision that the sale price will not be fair
market value, but the depreciated value of assets or other such formulas
that wholly deny the franchisee the ability to enjoy the fruits or his/ her
labor.
AFA officials told us that, while these types of unilateral actions may
increase a franchisor?s overall revenues, they can significantly impact a
franchisee?s profitability and the value of the business. The officials
added that some of the unilateral changes to franchise relationships involve
issues that no franchisee could have anticipated upon the initial signing of
the contract. In other words, they said that a franchisee may be bound by
changes to the relationship that, had they known, they never would have
signed the agreement in the first place. AFA officials also told us that
some franchise agreements do not allow for contract renewal at all, and if
they do, provide that it will be ?according to the then current and
materially different terms and conditions.? They added that there is nothing
in these provisions that say these terms and conditions will be
?commercially
reasonable? or any other provision for basic fairness. Further, the
officials noted that the ?patchwork quilt? of federal and state pre- sale
disclosure laws and state franchise relationship laws does not effectively
address problems in the franchise relationship. According to AFA officials,
since FTC staff maintain that FTC generally lacks the authority to intervene
in private franchise contracts and related relationship issues, AFA members
feel they have no alternative but to seek a legislative solution to their
problems.
AFA believes that federal franchise relationship legislation is needed to
address what they consider to be the franchisors? pervasive misuse of power
and to alleviate the inconsistent treatment of franchisees within the
states. As such, AFA was a primary proponent of the Small Business
Appendix VII: Views of Officials From Franchise Trade Associations on the
Need for Federal Franchise Legislation
Page 72 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Franchise Act of 1999 (H. R. 3308), as introduced in the 106th Congress,
which (1) proposed minimum standards of conduct in franchise business
relationships 1 and (2) addressed other aspects of the franchise
relationship, including contract renewals, terminations, and transfers; the
location of new franchises in relation to existing franchises; the purchase
of goods or services from sources other than the franchisor; and
franchisees? rights to associate with other franchisees. The bill also
provided franchisees with the right to file private civil lawsuits for
violations of the act. AFA officials maintain that even if most or many
franchisors do not abuse their position and power, effective federal
standards are still needed to discourage franchise abuses.
According to IFA officials, franchising works because entrepreneurs benefit
from the flexibility to structure franchise relationships in the manner that
works best for their product, service, or industry. The officials noted that
franchise agreements must reserve to the franchisor effective rights to
impose discipline on the network in order to (1) ensure a uniform look and
quality for the product or service offered by the franchise, (2) maintain
system standards for the benefit and value of both the franchisor and the
great majority of its franchisees who voluntarily comply with such
standards, and (3) protect the consumer from unsafe or otherwise substandard
outlets.
IFA officials also told us that franchisor- imposed changes to the franchise
relationship are in the nature of fine- tuning- such as adding a new menu
item, initiating a new safety procedure, upgrading software, and the like-
and do not affect the terms and conditions of the franchise agreement. In
short, IFA officials said that while franchisors reserve decision- making
power over a wide variety of matters during the course of the franchise
relationship, that control is what creates value in the form of a uniform
brand, market penetration, and customer loyalty- reasons why franchisees
invest in the first place. The officials added that the franchisor?s control
over network operations is addressed in the disclosure document that is
provided to prospective franchisees before they enter into the franchise
relationship.
IFA officials told us that current pre- sale disclosure requirements strike
the right balance between legitimate consumer protection and
1 Minimum standards of conduct included in the proposed legislation
consisted of a duty of good faith, a duty of due care (or competency), and a
fiduciary duty on the part of the franchisor with respect to accounting and
advertising programs. IFA Views on Why
Federal Franchise Legislation Is Not Needed
Appendix VII: Views of Officials From Franchise Trade Associations on the
Need for Federal Franchise Legislation
Page 73 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
overregulation. The officials noted that pre- sale disclosure laws are the
most effective means by which to ensure productive and successful franchise
relationships. In particular, they believe that disclosures of (1) current
and past litigation involving the franchise system and (2) the names and
addresses of both current franchisees, as well as those franchisees who have
left the system within the past fiscal year, should provide any franchise
investor with the resources necessary to ascertain the prevalence of
relationship issues in a particular franchise system.
According to IFA officials, three primary concerns have guided members of
the association in their decision to oppose federal and state franchise
relationship legislation.
Many duties and obligations contained in franchise relationship
legislative proposals are undefined or ambiguous, which would create
confusion and uncertainty in franchise relationships and touch off an
unprecedented increase in litigation. 2 This would result in increased
operating costs for franchise companies, the majority of which are small
businesses that are not in a position to absorb these additional costs.
Franchising is a source of economic opportunity and empowerment for women,
minorities, and future generations of small- business owners. Franchise
relationship legislation would discourage franchise growth and, as a result,
have a disproportionate impact on these groups.
It is virtually impossible to craft a ?one size fits all? solution to the
wide variety of franchise business practices involving companies operating
in about 75 different industries. There is no common ?relationship?
legislation that can practically and predictably apply to these many
different industries, operating in many different geographical markets, and
at many different levels of system maturity and market penetration.
Regarding the latter, IFA officials explained that because franchising is
not an industry- but rather a method of distributing goods and services that
is utilized by about 75 different industries-? one size fits all?
legislation such as the Small Business Franchise Act of 1999 (H. R. 3308)
and similar franchise relationship proposals are impractical and unworkable.
The officials noted that such legislation contemplates that all franchised
concepts and all franchise relationships can be regulated with a uniform
law. The officials added that this view of franchising is flawed because it
fails to recognize the fundamental difference between business format
2 According to IFA officials, undefined or ambiguous duties and obligations
include
?unreasonable proximity,? ?skill or knowledge,? ?material provision,? ?due
care,? and
?legitimate business reason.?
Appendix VII: Views of Officials From Franchise Trade Associations on the
Need for Federal Franchise Legislation
Page 74 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
franchising- a concept that is employed by many heterogeneous businesses
operating in a wide variety of dissimilar industries- and other forms of
product distribution that are utilized by a very few homogeneous businesses
operating in a single industry (such as automobile dealers or petroleum
marketers). For these reasons, among others, IFA officials believe that it
is inappropriate to make comparisons between proposals to regulate business
format franchising and laws that govern manufacturing and distribution
relationships such as the Automobile Dealers Day in Court Act or the
Petroleum Marketing Practices Act. The officials added that there are
virtually no barriers to entry to creating a franchised business, and with
very few exceptions, business format franchises do not manufacture products
for redistribution by their franchisees. As a result, the franchise
relationship is very different from manufacturer- dealer or distributor
relationships.
IFA officials told us that federal legislative proposals, such as the Small
Business Franchise Act of 1999, cede too much power to the government and
the courts to alter the intent of the parties that have entered into a
contract. The officials added that allowing interference in the contract
process would severely impair the interpretation of those agreements. The
officials also told us that the ?minimum standards of fair conduct?
contained in legislative proposals would materially alter provisions of
existing state law and reverse numerous decisions establishing common law
rights and obligations. IFA officials believe that to the extent there are
differences between parties in franchising, those differences should be
resolved through expanded forms of self- regulation, such as the IFA
Ombudsman program, the National Franchise Mediation Program, the IFA?s
Franchise Basics and Franchise Sales Compliance educational programs, and
the IFA Code of Ethics and enforcement mechanism.
Appendix VIII: Comments From the Federal Trade Commission
Page 75 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Appendix VIII: Comments From the Federal Trade Commission
Appendix IX: Comments From the Small Business Administration
Page 76 GAO- 01- 776 FTC's Enforcement of the Franchise Rule
Appendix IX: Comments From the Small Business Administration
(182104)
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