California is rightly the envy of all for its commitment to public education, consumer protection and sophisticated agribusiness.

However, the current legal franchise model allows franchisors to either deliberately or inadvertently skirt their civic responsibilities.

First, Franchising needs to return to its roots, in which the franchisor set quality control standards for a reason and not just to trap the franchisee into paying for high fees to the preferred suppliers, who then kickback  money to the franchisors.

The standards which protect the food supply chain are too important to leave to the federal government to enforce.  We need the unintended good consequences of brands maintaining quality control and funding the appropriate training and education.  

We don't need, however, a kickback economy.

Second, the current legal franchise model has an unbalanced picture when it comes to information: there is no legal balance between what the franchisor markets the benefits of the system and what the franchisor is contractually obligated to perform.

Private Brand Standards and Public Safety

To understand the first benefit of Bill AB 2305, we have to return to 1950-1970, when McDonald's enforcement of private brand standards were of assistance to the public good and helped maintained a safe food supply chain.

Ray Kroc's franchise model - complete with Hamburger University and passing on volume pricing rebates to the operators- had quality control standard which had a beneficial and unintended good consequence. Kroc's enforcement of private standards produced a safer food supply chain for the public. Sadly, Kroc's vision is not upheld by many modern franchisors.

To see how Kroc's system worked, we have to pay attention to some details.

In the 1970's, Kroc and McDonald's set quality control standards and operating standards. But, the operators purchased food from local sources.

Here is just one clever example of how the private brand's standards had a public benefit. Kroc shipped hamburger buns in package containing enough to make 100 hamburgers. The operating standard was that an operator should go through 100 patties for each package of buns. If the operator went through more, say 110 patties, then:

"Either his meat man was shorting him or someone else was stealing from him."

A meat man who would cheat on weights and measurements is a risk to public safety.  Kroc would have the meat man dead to rights, if he was found to be cheating.  

Today, we have more difficult contamination problems to detect and solve.

But, today many brands set standards for a different reason.  They require the operators to purchase from preferred vendors. Many of these preferred vendors are simply competing on cost - how much money they can rebate to the franchisor? There is no legal requirement for the vendors to compete on value and safety.

To understand why the modern franchise standards don't produce a public good, we have to understand how legal kickbacks work in the franchise industry.

Current Brands - The Kickback Problem

The franchisors you hear from today will tell you how strong their standards are. But, what they will not tell you is is the reason for these strong standards.

Many franchisors have used the current legal model to primarily obtain kickbacks or commercial bribes from their suppliers. The franchisor mandates that the franchisees purchase supplies, at an artificially high price.  The supplier then splits all or some of this extra price with the franchisor. This is perfectly legal as long as it is adequately disclosed.

The franchisor may elect, and many do, to report these kickbacks as essentially royalty income on their intellectual property and transfer the money out of state without paying California state income tax.

But, you will rightly feel uncomfortable with this arrangement, whether or not legal. Kroc was appalled by it.

A supplier who was being richly reward by his business relationship asked Kroc what he might like in return.

"Let's get this straight. I want nothing from you but a good [safe] product. Don't wine me. Don't dine me. If there are cost breaks, pass them on to the operators."

Promises to the Small Business Operator and Consumer

The second benefit of Bill AB 2305 is to protect the consumer, the consumer of information seeking to purchase a franchise. If the brand markets to prospective purchasers by making promises about volume rebates, quality standards, or continuous training, then their legal obligations in the franchise contract will have to match these promises.

Currently, most brands are only contractually required to provide sufficient training to open a location.

Further, the brands are only required to disclose somewhere in the fine print of a 500 page plus "Disclosure" document in legalese that the operator can only expect sufficient training to open a location and there are no price discounts.

But, of course these truths make hard marketing. Bill AB 2305 simply requires the brands balance their marketing hype with what the franchise document delivers by not allowing the brands to disclaim or ignore its marketing promises by disclaiming them in the franchise agreement.

The Benefits of Balance

A return to a balance in which quality standards are used to strengthen a brand, and indirectly contribute to public safety, franchisors who live up to their marketing promises will protect the small business operator and consumer.  We can do no better to reflect upon Kroc's view of franchising.

"We are an organization of small business [operators].  As long as we give them a square deal and help them make money, we will be amply rewarded."

Bill AB 2305 provides that square deal for franchisees, and the franchisors, consumers and public will be amply rewarded by its passage.

 

 

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