The franchise registration states, through statute or regulation, have adopted the Uniform Franchise Offering Circular ("UFOC") Guidelines (promulgated by the North American Securities Administrators Association) as the rules for preparing offering circulars. Despite the word "uniform," the UFOCs are not uniform because, as part of the registration process, franchisors must make state-specific changes to the agreements and UFOCs. The FTC has ruled that offering circulars prepared in accordance with the UFOC Guidelines (which are generally referred to as "UFOCs") satisfy the FTC Rule. Therefore, most franchisors prepare and furnish a UFOC to prospective franchisees.

B. Franchise Relationship Laws

While the franchise sales laws address the franchise sales process, and are designed to protect prospective franchises, the state franchise relationship laws are designed to protect existing franchisees during the operation of the franchise. (Currently, approximately 20 states have such laws, and there is no federal law.) These laws regulate almost 30 aspects of the franchise relationship (e.g., advertising fees, discrimination, interference with free association, and required releases). The most common and important aspects of these laws are provisions which require (a) advance notice and "good cause" for termination, (b) limitations on a franchisor's refusal to renew a franchise, and (c) limitations on refusals to consent to a franchise transfer.

C. Business Opportunity Laws

In addition to the franchise sales laws, twenty-five states, including Maryland, have business opportunity laws (called "seller assisted marketing plan" laws in some states) that generally regulate sales of opportunities to engage in new or additional business enterprises. See, e.g., Eye Associates, P.C. v. IncomRX Systems Limited Partnership, 912 F.2d 23 (2d Cir. 1990). Most of these laws have a pre-sale regulatory scheme similar to that of the franchise sales laws. If, however, a business arrangement is a franchise, it generally will qualify for an exemption from the business opportunity laws. But if the business arrangement is structured to avoid the franchise laws, it may fall within the scope of a state business opportunity law. (The FTC Rule also regulates the sale of "business opportunity ventures," but because the definition of a business opportunity under the FTC Rule is generally limited to certain types of distribution businesses, its applicability to healthcare providers is limited).

II. Can a Healthcare Service Provider be a "Franchise"?

A business arrangement or enterprise, including one that delivers healthcare services, may be a franchise if the arrangement satisfies the definitional elements of a franchise. The definition of a "franchise" varies under the different federal and state franchise laws. For the purposes of this article, however, we will consider the Maryland law as a model.

A. A "Franchise": Three Definitional Elements

The Maryland Franchise Registration and Disclosure Law (Md. Code Ann., Bus. Reg. tit. 14 § 201-233 (1998)) is similar to many state franchise laws, in that a "franchise" is:

"an expressed or implied, oral or written agreement in which:

(i) A purchaser is granted the right to engage in the business of offering, selling, or distributing goods or services under a marketing plan or system prescribed in substantial part by the franchisor;

(ii) The operation of the business under the marketing plan or system is associated substantially with the trademark, service mark, trade name, logotype, advertising, or other commercial symbol that designates the franchisor or its affiliate; and

(iii) The purchaser must pay, directly or indirectly, a franchise fee."

To generalize, therefore, a "franchise" under the Maryland law, many state franchise laws, and the FTC Rule, has three elements: (1) a trademark element; (2) a required payment or fee element; and (3) a marketing plan or system, control or assistance, or community of interest, element. For a franchise to exist, all three elements must be satisfied (with some exceptions).

1. Trademark Element

In order for the trademark element to be satisfied, the franchisee's business must be "substantially associated" with the franchisor's trademark. To determine whether a franchisee, licensee or dealer has been given the right to distribute goods or services which are "substantially associated" with a licensor or manufacturer, it is necessary to consider whether the commercial symbol is brought to the attention of the licensee's customers to such an extent that they would regard the licensee's business as one in a chain identified with the licensor or manufacturer. Some states hold the view that if the franchisor's commercial symbol enhances the franchisee's chances of success, the trademark element will be satisfied. The use of a trademark or tradename in the healthcare environment may not be as pervasive as in a more traditional retail/franchise context. Therefore, there may be a degree of uncertainty whether the trademark element is met in certain circumstances. However, state interpretive opinions and court decisions have generally found the trademark element is present if the franchisee uses the franchisor's mark in its dealings with the public. (But see Bakke Chiropractic Clinic, S.C. v. Physicians Plus Insurance Corporation, 573 N.W.2d 542 (Wis. Ct. App. 1997), which found that the context of an HMO (health maintenance organization), certain chiropractors did not have the right to use the mark of the HMO, and therefore, there was no franchise.)

A few of the laws, including the FTC Rule, require only that the franchisee be given the right to distribute goods or services which are "identified" by the franchisor's trademark. Also, the failure to grant a franchisee the right to use a franchisor's mark may not be sufficient to avoid satisfying the trademark element. The FTC has said that the trademark element will not be met only if a franchisor expressly prohibits the use of its mark.

2. Required Payment/Franchise Fee Element

The second element of the franchise definition is that the franchisee is required to make a payment to the franchisor. The element is satisfied by initial fees, periodic royalty fees, advertising fees, and/or other payments to the franchisor. A significant exception to this definition is the payment for goods at bona fide wholesale prices for resale. This exception removes many distributors from the scope of the franchise laws. In Maryland, certain other payments are also excluded from the definition of a required payment or fee, including, for example, supplies, fixtures, or real property that is/are needed to enter into the business or continue the business, and the amount paid for sales demonstration material and equipment sold at no profit by the seller, for use in making sales and not for resale (Md. Code Ann., Bus. Reg. tit. 14 § 201 (1998)). Also, under the FTC Rule, the required payment element is not met if the franchisee is not required to pay $500 or more during the first six months of operation of the franchised business.

3. Control or Assistance/Marketing Plan or System/Community of Interest Element

The various franchise laws utilize three different tests for determining whether the third element of a franchise is satisfied. Each test, however, is designed to determine whether there is an adequate degree of reliance by the franchisee on the franchisor so as to trigger the need for the franchisee to be protected by the law. In general, this element is rather easily satisfied.

a. Control or Assistance (FTC Rule)

The "control/assistance" element is a characteristic only of the FTC Rule. While the FTC has indicated that the control/assistance must be "significant," the FTC also has provided examples of "significant controls" and "significant assistance" and, in doing so, indicated that "any one" of these examples will satisfy the element. Among the examples of "significant controls" are those over: (1) site approvals; (2) hours of operation; (3) production techniques; (4) accounting practices; (5) personnel policies and practices; (6) promotional campaigns requiring franchisee financial contributions; (7) site design and appearance requirements; (8) location or sales area restrictions; and (9) restrictions on customers. Examples of "significant assistance" are (10) formal sales, repair, or business training programs; (11) establishing accounting systems; (12) management, marketing, or personnel advice; (13) selecting site locations; and (14) furnishing of a detailed operations manual. Many of these examples of control or assistance are not generally part of a healthcare delivery system or program. However, the presence of one or two aspects of control or assistance may be sufficient to satisfy this third element of a franchise.

The FTC also has said that the control or assistance must relate to the franchisee's entire method of operation, rather than simply relating to the sale of a specific product, or products which are only a portion of the business. The franchisee's method of operation includes those business functions which are ordinarily within the discretion of an independent business person, such as organization, operational hours, management, promotional activities, marketing plans, and business affairs.

b. Marketing Plan or System (Maryland and Other States)

The marketing plan or system element is found in the Maryland law, and in many state franchise sales laws. There is little uniformity, however, in the state regulations that elaborate on this element. The marketing plan or system element will be satisfied if a franchisor or manufacturer provides or prescribes, in substantial part, a sales program, a marketing program, uniform standards for goods or services, an exclusive territory, collateral services, a duty of observing directions with respect to the use of trade names and advertising, standards for training programs, standards for operation pursuant to an operating plan, and more. In essence, many of the factors that are evidence of significant control or assistance under the FTC Rule may be evidence of a marketing plan or system under the state laws.

c. Community of Interest (Several States)

Several state franchise laws provide that a key element of the definition of a franchise is the existence of a "community of interest" between the franchisor and franchisee in the marketing of goods or services. Some courts have stated that this element is satisfied if the franchisor and franchisee have a "common financial interest." Others refer to the franchisor and franchisee as being "interdependent," or evaluate whether the franchisee must make a significant investment which is "substantially franchise-specific" (i.e., of little use outside the context of the franchised business).

B. Alternative Definitions

Although the three elements discussed above are typically required to find the existence of a franchise, that is not always the case. New York, for example, requires that only two elements be present to have or franchise; the trademark and the fee elements, or, the marketing plan or system and the fee elements. Consequently, a healthcare program may be a franchise in New York, even if it is not a franchise in another state.

III. Applicability of Franchise Laws to Healthcare Providers

Returning to the hypothetical healthcare providers described briefly at the beginning of this article, we can begin to see how certain healthcare organizations or service providers, or arrangements for the provision and/or distribution of healthcare services, could fall within the definition of a franchise.

A. Trademark

In many cases, a determination of whether the trademark element is satisfied is quite simple. In the PPMC and licensed technology models discussed above, the trademark element is arguably satisfied by the use of the mark in the name of the business, or in connection with promoting the licensed diagnostic and therapy services.

B. Franchise Fee/Required Payment

Licensing fees and other payments made to the PPMC or to the licensor of the diagnostic services will likely satisfy the required payment element. Appropriate structuring of the business, financial, and legal relationships of the parties may, however, alter the analysis and conclusions. (Several other issues to consider when analyzing the legality of a healthcare arrangement, particularly when evaluating the revenue structure, include the prohibition against the corporate practice of medicine, anti-kickback provisions of the Medicare and Medicaid statutes (which may be implicated due to franchise fee payments), prohibitions against physician self-referral, and prohibitions against fee splitting. These subjects, however, are beyond the scope of this article.)

C. Control or Assistance/Marketing Plan

Satisfaction of the third element -- the control or assistance/marketing plan -- is often a close call. The healthcare model, unlike a restaurant or retail franchise, does not generally include comprehensive rules and requirements concerning the entire method of operation of a healthcare provider. In almost all cases, the healthcare organization that would be the putative franchisor will explicitly disclaim any control over the physician's professional practice, and agreements will state that the physician may exercise his/her/its professional judgment in treating patients without interference. Also, many aspects of the control or assistance or marketing plan element, enumerated by the FTC or the states, are usually not present. Nonetheless, in our examples, the healthcare provider or licensee must operate in accordance with a detailed operating manual prescribed by the PPMC or the licensor. Also, the physician's employees may be required to attend training. Further, at least a modicum of marketing materials may be provided. Therefore, conducting a business in accordance with an operating manual and pursuant to a training program, coupled with the provision of marketing materials, may, according to the FTC and several state laws, be sufficient to satisfy the control or assistance, marketing plan or system, or community of interest element. Furthermore, certain practice management and practice development services that may be provided to a physician or licensee may satisfy this third definitional element.

IV. Consequences of Being a "Franchisor" or Offering a "Franchise"

A. Disclosure and Registration; Exemptions

As discussed in Part I above, if an entity offers a "franchise," a UFOC must be prepared (with 23 prescribed disclosure items) and provided to prospective franchisees in all states (under the FTC Rule). Also, pre-sale registration and disclosure is required in 14 states, including Maryland.

B. Restrictions on Termination

If the arrangement is a franchise, a franchisor's ability to terminate, not renew, or refuse to permit a transfer of, a franchise, is severely limited in about 20 states. If the PPMC or licensor of diagnostic services in the examples above offers franchises, the PPMC or licensor may have difficulty terminating its relationship with its participating physicians or licensees.

C. Violation of the Laws

Failure to comply with the FTC Rule can subject a franchisor to civil fines (up to $11,000 per violation per day), consumer redress, and injunctive relief. As there is no private right of action for FTC Rule violations, the principal threat is from the FTC itself. (Some private plaintiffs have sought relief by suing under "state" or "little" FTC Acts, claiming that the "unfair or deceptive act or practice" was the failure to comply with the FTC Rule.)

V. Summary

* Mark Kirsch is a partner in Piper Marbury Rudnick & Wolfe in Washington, D.C.

**This article is reproduced in its entirety from the November/December 1999 issue of the Maryland Bar Journal. Copy from this article was missing from the original article. The Journal regrets the error.

Statements or opinions expressed herein are those of the authors and do not necessarily reflect those of the Maryland State Bar Association, its officers, Board of Governors, the Editorial Board or staff.