On September 8, 2020, a U.S. District Court in New York struck down key provisions of a U.S. Department of Labor (the DOL) rule (the Rule) that interpreted vertical joint employment in a way that would have shielded many franchisors from joint employer liability arising from claims of franchisees’ employees. The Rule, adopted by the DOL in March 2020, materially narrowed the joint employer test for vertical joint employment to a consideration of four factors – all focused on the control actually exerted by the potential joint employer (a franchisor, for example) over indirect employees (a franchisee’s employees, for example).

The result:  if a franchisor did not:

1. hire or fire its franchisee’s employees;
2. supervise their work schedule or conditions of employment;
3. determine their compensation rate; or
4. maintain records of their employment

(with each factor being given the appropriate weight depending on how it suggests “control” in a given case) it would likely not be considered a joint employer of its franchisees’ employees, at least for purposes of the Fair Labor Standards Act (the FLSA) which is administered by the DOL. Seventeen states and the District of Columbia sought to block the DOL’s implementation of the Rule in State of New York, et al v. Eugene Scalia.

In its ruling on a motion for summary judgement, the Court held the Rule to be “arbitrary and capricious,” finding that the DOL’s adoption of the Rule was procedurally flawed, that the Rule conflicted with the FLSA by ignoring the statute’s broad definitions of “employer” (noting that the tests for “employment” and “joint employment” must be the same), and that the DOL failed to adequately justify its departure from prior interpretations of the FLSA.

The Court’s decision essentially puts us back in a “right to control” vs “actual control” paradigm when looking at vertical joint employment risks.

As this highly politicized issue continues to unfold, franchisors will need to stay tuned to see where the ball bounces next and continue to assess, on an on-going basis, whether their franchise systems are susceptible to such claims – the safest position being to minimize those areas where they reserve the right to control their franchisee’s employees.  A good first step is to review the franchise operations manual. Franchisors should also check whether their insurance policy covers such claims. Lastly, it may be worth considering sending out a system-wide communication clarifying the franchisor’s role with respect to its franchisee’s employees.