On March 23, 2010, in Awuah, et al. v. Coverall North America, Inc., Judge William G. Young of the U.S. District Court for the District of Massachusetts granted the plaintiffs' motion for partial summary judgment finding that under state law, Coverall's Massachusetts franchisees had been misclassified as independent contractors.

The Court found that the commercial cleaning franchisees should have been treated as employees, which would require franchisor Coverall to pay a variety of taxes and obtain insurance, among other things.

The statute provides that an individual performing a service is considered an employee unless (1) the individual is free from control and direction in connection with the performance of the service, both under his contract for the performance of service and in fact; and (2) the service is performed outside the usual course of the business of the employer; and (3) the individual is customarily engaged in an independently established trade, occupation, profession, or business of the same nature as that involved in the service performed.

To satisfy the second prong, Coverall was required to establish that the workers performed services that were largely separate from Coverall's usual business. But the Court found that some cases cited by Coverall to support its assertion that franchising is a business distinct from the cleaning service business actually suggested the opposite. It even stated that based on one such case, the franchising business "sounds vaguely like a description for a modified Ponzi scheme."

The Court did find the following facts to be persuasive: that Coverall trained its franchisees, provided them with uniforms and identification badges, contracted with customers until May 2009, billed all customers for the cleaning services performed, and received a royalty on revenue earned on cleaning services.

However, at the beginning of trial, the plaintiffs failed to present sufficient evidence of damages for the misclassification claim, so the Court dismissed it. The plaintiffs' remaining claims proceeded to trial and, on May 26, 2010, the jury entered a verdict in favor of Coverall after all but two of the original plaintiffs had been dismissed.

Although Coverall is likely satisfied with the favorable verdict and dismissal of the misclassification claim, it appears the legal dispute will continue as the Court on July 9, 2010, permitted the plaintiffs to file an amended complaint adding new class members based on the misclassification ruling. As a result, this case may yet evolve into a class action claim on behalf of other Coverall franchisees in Massachusetts.

We will continue to monitor this case and will update you on any further significant rulings on the employee versus independent contractor issue.

Potential Consequences. Although the Awuah Court ultimately dismissed the plaintiffs' claims for damages, it did so because the plaintiffs failed to show damages from the misclassification—not because the Court changed course and found that the franchisees were not Coverall employees.

It is unclear how other courts will approach the issue, especially in states that use a test similar to that of Massachusetts, but the determination that a franchisor is the "employer" of its franchisees or its franchisees' employees could have serious consequences. For example, a franchisor could be held liable for the acts of its franchisees or their employees, failing to withhold or remit certain taxes, violations of workers compensation statutes, and employment discrimination committed by a franchisee.

Moving Forward. What steps should a franchisor take to minimize the danger that a court will determine it to be the employer of its franchisees? The answer will vary from franchise system to franchise system, but every franchisor should minimize the amount of day-to-day control over its franchisees' businesses without weakening the franchisor's ability to maintain and protect its brand.

To devise an approach that will minimize a franchisor's potential exposure, it is important to review the company's actual operations, and consider certain revisions to, the franchisor's disclosure documents, franchise agreement and related contracts, operations manual, and manner in which the franchisor polices its system standards.