INFORMAL STAFF ADVISORY OPINION 00-3
This staff advisory opinion is issued in response to your request for our views on whether your client's business arrangement is excluded from Rule coverage as a single trademark license. 16 C.F.R. § 436.2(a)((4)((iv).
In your letter, you state that your client is a family-owned business ("Family Restaurant") that operates nearly a dozen restaurants in a single state. To date, Family Restaurant has never sold a franchise nor licensed any of its marks. An independent investor has approached your client to expand the restaurant's concept. The investor proposes to create a new entity ("Licensee"), which will obtain an exclusive license to Family Restaurant's name, concept, building design, plans, and marks in certain geographic areas. Family Restaurant will continue to own and operate its existing restaurants and may add new ones. Family Restaurant will provide training and expertise to the Licensee, which will be required to operate its restaurants in a substantially similar manner as existing Family Restaurants. You state that it is unclear at this time how Family Restaurant will be compensated for the license. Possibilities include a monthly royalty fee and/or a percentage of ownership of the new entity.
You now ask whether the proposed arrangement described above would be excluded from the Rule as a single trademark license. You emphasize that the Licensee will be the only person to whom the Family Restaurant will license its mark and that Family Restaurant has no present intention to sell additional franchises or licenses.
II. THE SINGLE LICENSE EXCLUSION
Single trademark licenses are one of four non-franchise relationships excluded from Rule coverage.(1) In the Statement of Basis and Purpose accompanying the Rule, the Commission emphasized that these relationships are not franchises. Nonetheless, the Commission decided to expressly exclude them from the Rule to ensure that they are not inadvertently seen as falling within the definition of the term "franchise." 43 Fed. Reg. 59614, 59708-10 (December 21, 1978).
With respect to the single trademark license exclusion, the Commission recognized that it is often difficult to distinguish between trademark licensing and package or business format franchising, both of which involve the right to use a trademark. The essential difference involves the degree of control exercised by the franchisor and licensor:
The primary difference between simple trademark licensing and package franchising is in the type and degree of control exercised by the franchisor and licensor. The trademark licensor is interested in the quality of the final goods produced by the licensee, not in the licensee's method of operation. The kind of control he exercises is thus likely to be limited to 'passive' control such as inspection of produced goods and testing to insure that quality standards are being met. Package franchising, on the other hand, involves active control over the franchisee's "method of operation;" The location of the business, the hours of operation, the management of the business, and other business matters.
43 Fed. Reg. at 59710.
In addition to considering passive versus active controls, the Commission will also consider the extent to which the controls are "significant." Where the franchisor's controls are insignificant and do not pertain to a licensee's entire method of operation, the licensing arrangement will not satisfy the second definitional element of the term "franchise." "Where, however, the licensor does exert significant control over a licensee's method of operation, the licensing arrangement becomes conceptually indistinguishable from package franchising." Id.
Finally, the Commission recognized that some types of trademark license should be excluded from the Rule even if the controls were significant. These include: "one-on-one licensing agreements, trademark licenses for "collateral" products, and license agreements entered into as a consequence of settlement negotiations in a trademark infringement action. The Commission noted that these "types of licensing arrangements involve very limited numbers of licensees" and that "[t]he record contains no evidence to indicate that such relationships should be covered by the rule." Id. Accordingly, the Commission excluded from Rule coverage "trademark licensing arrangements in which a single licensee is granted the right to use the trademark." Id.
III. APPLICATION OF STANDARD TO FAMILY RESTAURANT
In applying the single license exclusion, we must consider two factors: (1) the degree of control over the licensee and (2) the number of licensees. From your letter, it is unclear what level of controls, if any, Family Restaurant may exert over the Licensee. Your letter states only that the Licensee "will be required to operate its restaurants in a substantially similar manner to existing Family Restaurants." From this statement alone, we cannot determine whether the Licensee must conform to Family Restaurant's methods of operation, or whether the Licensee must only meet Family Restaurant's quality standards. The Commission has long recognized that trademark license holders have an obligation under the Lanham Act to exercise control over a licensee to ensure that goods or services distributed under the mark are of a uniform quality. Such controls alone are not deemed significant. Rather, the licensor must exercise significant controls over the licensees' "entire method of operation," not just its quality standards. If Family Restaurant imposes broader controls over the Licensee to ensure that the Licensee's method of operation is substantially similar to that of Family Restaurant, then the license arrangement my satisfy the definition of a franchise.
The second issue we must address is the number of franchises Family Restaurant may seek to offer. According to your letter, it appears that Family Restaurant has no intention of licensing its mark to any other entity at this time. In applying the Rule's exclusions and exemptions, the Commission will look at the facts surrounding the business arrangement at the time it is made. To take advantage of the single trademark exclusion, the franchisor must offer the Licensee an exclusive license to use its marks. If the totality of circumstances suggests that the licensor intends to offer, or reserve the right to offer, more than a single exclusive license, then the exclusion will not apply. Where the licensor reserves the right to offer additional licenses in the future, then the Commission will conclude that the franchisor did not intend to grant a single, exclusive license to the licensee.(2) For this reason, we would also expect the grant of an exclusive right to use the licensor's mark to be on a national basis. Where a licensor establishes regional or statewide exclusive licenses, the Commission can reasonably conclude that the licensor is reserving the right to offer multiple licenses in the future.
Your letter does not clearly state whether Family Restaurant intends to offer the Licensee an exclusive license to use its marks and system nationwide, or in one or more states. If Family Restaurant intends to grant the Licensee the right to use its marks in one or more states or regions only, while reserving to itself the right to grant licenses in other states or regions, then it would appear that the single trademark license exclusion is unavailable.
For the reasons stated above, there is insufficient facts for us to determine whether the single license agreement applies to your client. If the level of controls imposed by your client over the Licensee is significant -- and the relationship meets the definitional elements of a franchise -- then the single license exclusion is available only if Family Restaurant offers the licensee an exclusive license on a national basis.
Please be advised that our opinion is based on all the information furnished in your request. This opinion applies only to your client and to the extent that actual company practices conform to the material submitted for review. Please be advised further that the views expressed in this letter are those of the FTC staff. They have not been reviewed, approved, or adopted by the Commission, and they are not binding upon the Commission. However, they do reflect the opinions of the staff members charged with enforcement of the Franchise Rule.
Date: March 20, 2000
Franchise Rule Staff
1. Also excluded from the Rule are: (1) employer-employee and general partnership relationships; (2) relationships created by membership in a cooperative association; and (3) relationships in a testing or certification service. 16 C.F.R. §§ 436.2(a)(4)(i)-(iv).
2. If the licensor can offer additional licenses in the United States only by breaching its agreement with the single licensee, then it would appear that the licensor originally intended to grant a single, exclusive license.