Informal Staff Advisory Opinion 99-2

This staff advisory opinion is issued in response to your request for our views on the application of the Commission's Franchise Rule, 16 C.F.R. Part 436, to the sale of pay telephone business opportunities. Specifically, you ask whether the contemplated relationship between the buyer and the seller meets the Rule's "continuing commercial relationship" requirement.

In your letter, you describe the proposed relationship as follows. First, the seller will enter into purchase agreements with a buyer for one or more public pay telephones. Each of the phones will have been in operation at a specific site for at least six consecutive months. The seller will also assign to the buyer the site agreement with the owner or lessee of the specific site where the telephone is located. The buyer will then assume all of the seller's interest in the site.

Second, when the buyer signs a purchase agreement, the specific telephones he or she will purchase may or may not be identified. If not, the seller will acquire from a third party existing telephones and will transfer the telephones to the buyer at the closing, which will occur within 60 days after the execution of the purchase agreement.

Third, following the closing, the seller will have no ongoing obligations to the buyer and does not intend to provide any ongoing assistance to the buyer. The buyer can manage the telephone business himself or may enter into a management agreement with one of a number of companies that perform such services. None of these management companies are affiliated with the seller. The seller may provide the buyer with a list of such unaffiliated companies prior to the closing.

You note that the term "franchise" under the Rule contemplates a "continuing commercial relationship." You now ask us to confirm that the arrangement described above does not constitute a "continuing commercial relationship" under the Rule.

You should know that, as a matter of policy, the Commission's Franchise Rule enforcement staff will not issue any staff opinion on the ultimate issue whether, under specific facts, a business relationship is covered by the Franchise Rule. We will, however, provide general guidance on the Franchise Rule that you may wish to consider in determining whether your client's business arrangements are subject to the Franchise Rule.

I Pay Telephone Business Opportunities May Be Covered by the Rule

As an initial matter, it is clear that the Commission's Franchise Rule covers the sale of many business opportunity ventures, including certain public pay telephone opportunities, public fax machine opportunities, and Internet access kiosk opportunities. Indeed, Commission staff has issued numerous staff advisories addressing the sale of business opportunities. In particular, after the Commission brought Project Telesweep in 1995 -- the first of a series of Commission law enforcement sweeps targeting business opportunities and related schemes -- Commission staff addressed business opportunity sales in great length in Informal Advisory Opinion 95-10. Bus. Franchise Guide (CCH) ¶ 6475 (1995).

You correctly note that the term "franchise" contemplates a continuing commercial relationship. 16 C.F.R. Section 436(2)(a). In the Statement of Basis and Purpose accompanying the Rule, the Commission noted: "The rule does not apply to relationships which are not entered into with the expectation of profit or to commercial relationships which do not involve a course of dealing over a period of time." 43 Fed. Reg. 59613, 59700 (December 21, 1978). There is no question that the relationship between the phone seller and the buyer is commercial. The question is whether the relationship would be "continuing."

In previous advisory opinions, we stated that a relationship is "continuing" when "the parties originally anticipated a 'continuing' relationship." See Craft World International, Inc., Bus. Franchise Guide (CCH) ¶ 6439 (1983). Thus, a continuing relationship will exist "whenever a business opportunity seller's contractual commitments and sales representations would lead a reasonable prospective investor to expect the benefits of a continuing relationship." Id. See also Sells Enterprises, Inc., Bus. Franchise Guide (CCH) ¶ 6423 (1980). For example, in Advisory Opinion 95-10, we stated that the mere sale of vending machines without any post-sale performance obligations would not be covered by the Rule. Bus. Franchise Guide (CCH) at 9662. Under the facts presented, however, we found that a vending machine buyer could infer the existence of a continuing relationship where, for instance, the seller's affiliate offered financing to some customers and serviced the debt until it has been paid. Another affiliate of the seller offered to provide ongoing assistance to some customers, including site locations, machine maintenance, an assistance hotline, advice on accounting procedures and product stocking practices, occasional seminars, quarterly magazines, and mailers. Offers of ongoing services such as these, we concluded, are more than sufficient to enable a prospective investor to conclude that he or she is entering into a continuing relationship with the seller.

A Relationship Might Be "Continuing" Where The Buyer Expects Locations

Post-Sale

In your letter, you state that the seller may provide the buyer with pay telephones on site at the time of the sale or sometime thereafter, but before "closing." Where a seller provides phones on site at the time of the sale and there are no continuing obligations to perform under the sales contract, then arguably the purchaser may have no reasonable expectation of entering into a continuing relationship.(1) In contrast, where the seller does not have locations readily available at the time of sale, but promises to furnish the buyer with locations in the future, then it is reasonable to assume that both parties expect their relationship to continue beyond the initial sale.(2)

The distinction between furnishing pay phones already on site and post-sale obligations to furnish sites is grounded in sound policy concerns. Arguably, where pay phones are on site at the time of sale, prospective buyers can examine the locations for themselves and determine whether the phones are in good repair and whether the sites are likely to generate the type of income that the prospective buyer may anticipate. If dissatisfied, the prospective need not execute the sales agreement. On the other hand, where locations are promised at a future date, the prospective buyer must necessarily rely on the seller's expertise in finding locations, as well as the seller's ability and willingness to provide the sites as promised. Under the circumstances, the prospective buyer clearly has an expectation of performance on the seller's part beyond the initial sale. Moreover, if the buyer is dissatisfied with the seller's performance after signing a sales agreement, she may able to extricate herself from the business arrangement only by bringing suit for fraud or breach of contract. Finally, we note that in our experience, the sale of business opportunities with post-sale promises to furnish sites has generated numerous consumer complaints alleging fraud and abuse, and, for that reason, are properly covered by the Franchise Rule's disclosure obligation.

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: April 27, 1999

Franchise Rule Staff

1. In our experience, however, pay phone buyers are typically led to believe that the relationship will be a continuing one. For example, pay phone sellers often represent that they will provide financing or discounts on future phone purchases, or will assist the buyer in credit card billing, or other ongoing support services. For these reasons, we will examine each case on its facts and make an independent assessment whether the pay phone buyers have an expectation of a continuing relationship.

2. Your client apparently seeks to expand the notion of a franchise sale to include a "closing period." By doing so, your client implies that post-sale obligations that are completed by the closing period should not be deemed continuing. We disagree. Whether a business arrangement is deemed a franchise, and thus covered by the Rule, must be determined at the time the franchisor would be obligated to furnish its disclosures: the earlier of the first personal meeting or the time for making disclosures under the Rule (10 business days before the prospective franchisee pays any fee or signs a binding agreement in connection with the franchise sale). Accordingly, in this instance, Rule coverage would most likely be determined when the pay telephone buyer signs a purchase agreement or pays the fee. If at that time the phone seller is obligated to find phones on site for the buyer, then his or her relationship with the buyer is clearly continuing.