Bigger than burgers and fries, franchising blamed for low wages

Popular business model squeezes small business owners between corporations and workers.

April 7, 2014

By: Chip Mitchell and Shannon Heffernan


When we asked what it is like to own a franchise of the world’s largest convenience-store chain, Hashim Syed took us to a cramped back room of his store, a 7-Eleven on Chicago’s North Side.

Sitting next to a wall of tubes filled with bright-colored syrup for the soda machine, Syed recalled a young man working the graveyard shift a few years back. This employee wanted to be with his father, who was gravely ill.

“Where we come from,” said Syed, 71, who was born in India, “it’s very important that you spend the final days with parents for the comfort.”

But the worker could not afford to take unpaid leave. And Syed could not afford to replace him. “I’d have had to have somebody else do his work,” Syed said, his voice becoming faint. “I would have ended up paying two wages.”

The employee kept most of his shifts and, to this day, Syed regrets it. “I wish I would have given him some time off,” he said.

In Syed’s nearly quarter century as a 7-Eleven franchisee, he has worked brutally long hours, his profits have fallen far short of his expectations, and the Dallas-based chain has imposed tighter rules on how he runs the store.

But something that particularly steams Syed is his role as an employer. He says all of those 7-Eleven rules limit his ability to cut costs and free up resources to treat his workers better. “When I lived in Bombay,” Syed said, “this is not what I thought they meant by the American Dream.”

An array of signs suggests Syed is not the only one questioning how franchising affects the workplace.

Franchisees are pushing several states to clamp down on allegedly predatory franchisor practices. Web sites such as Blue MauMau and Unhappy Franchisee have sprung up to connect these small business owners and give them a voice.

In one industry, “franchisees” have won a string of class-action lawsuits claiming that they are really employees and that their employers are using the franchise model to skirt wage-and-hour laws.

Franchises, especially those serving fast food, have also become frequent protest sites for a movement demanding higher wages and benefits such as paid sick leave. Those protests have grown louder as some politicians, ranging from Illinois Governor Pat Quinn to President Barack Obama, call for raising the minimum wage.

And, while many economists and business groups praise franchising as efficient, the model is taking hits from some scholars, including an Obama nominee to head the U.S. Department of Labor’s Wage and Hour Division. That nominee says franchising is part of something much bigger — something bad for the workplace.

How Franchising Works

Franchising dates back to the 19th century, when manufacturers such as the Singer Sewing Machines Company developed the model for sales representatives. By the 1960s, franchising was ubiquitous, thanks to fast-food chains such as McDonald’s and Burger King. Today franchising takes place in a dizzying range of industries, from tax services to child care, from real estate to car repair.

The number of U.S. franchise jobs in recent years has grown, now totaling more than 8.1 million — about 7 percent of private-sector jobs, according to data from payroll processor ADP. Franchise employment growth has outpaced jobs growth in the economy as a whole for 12 consecutive months, the data show.

In Illinois, franchise employment totals almost 345,000, according to the International Franchise Association Educational Foundation. As of January, 1,152 companies had active registrations to sell franchises in Illinois, the state attorney general’s office says.

Here is how the model works. A company thinks it has a good thing going and decides to expand. But it may not be familiar with the new places and may be short on capital. It also does not want to employ the necessary workers. It would rather have someone else do that — someone with skin in the game.

“A franchisee will do the best job,” said David Howey, who bought an old Chicago sandwich brand, Al’s Beef, and stepped up the chain’s franchising. “Instead of a large company having a bunch of managers who are running the stores, a franchisee buys into the system and it becomes their business. It becomes their life. So the brand is represented properly by people who really care.”

For the franchisees, the model allows them to run their own business and take advantage of company resources for things such as property, equipment, training and marketing.

The franchisees also pay an upfront sum known as the franchise fee, typically five figures. Once in business, they pay a specified royalty — often 5-10 percent of sales — and fees for things such as advertising, management and insurance.

Amjad “AJ” Haj, who owns three Al’s Beef franchises with his brother, says he appreciates being able to focus on day-to-day tasks. “You do not have to go test 20 different burgers to see which one you want to sell,” Haj said. “They’ve already done that. They’ve tested out all the different mayos for you.”

Successful franchising depends on a good brand — which means, above all, consistency. At all 16 locations of Al’s Beef, the sandwiches not only taste the same, they drip the same, thanks to a uniform recipe for their jus.

What protects the brand is the franchise agreement, which spells out franchisee rules on topics such as operating hours, dress codes, supply vendors and payroll processes.

Despite paying all the fees and following the rules, a franchisee has no guarantee the unit will flourish. Franchises go belly up about as often as independent businesses in their industry, according to the U.S. Small Business Administration.

Many franchisees do hang on — some for decades, like Syed, the 7-Eleven operator. A third of franchisees run multiple units, usually two or three, according to Franchise Business Review.

“We see that this is successful — businesses being franchised — simply by the fact that they exist all around us,” said Francine LaFontaine, a University of Michigan professor of business economics and public policy. “And then consumers are voting with their feet by consuming the goods and services that are offered this way. That means we’ve made that sector more efficient.”

That efficiency can lower prices, said LaFontaine, a leading researcher on franchise economics. “That’s good for consumers. It probably also means we consume a bit more of these things, which means there are more jobs in this sector than there would be otherwise.”

But the model is fraught with tensions. When a franchise agreement expires, companies sometimes take the opportunity to increase the royalty or impose tighter rules. If the franchisee does not follow the rules, the company might take over that unit. Last summer, 7-Eleven ousted franchisees from several Chicago stores for alleged franchise-agreement violations.

The company, for its part, has reasons to establish rules — and enforce them. Making all franchises buy from the same supplier can help bring down costs. Higher fees can fund more advertising. Quality standards help keep franchisees from freeloading on the brand.

Other tensions stem from the wages and work conditions of franchise employees — the workers who flip the burgers or ring up the Slurpees.

Last June, federal authorities seized fourteen 7-Eleven stores in New York and Virginia and arrested the franchisees for allegedly employing illegal immigrants, forcing them to work long overtime hours, paying them for just a fraction of their work and forcing them to live in substandard housing owned by the franchisees. After the arrests, the corporation said it planned to step up its franchisee monitoring.

This March, McDonald’s workers in California, Michigan and New York filed lawsuits claiming that the Oak Brook-based corporation is responsible for alleged wage-and-hour violations, even at franchises. A company statement about the suits said McDonald’s was committed “to the well-being and fair treatment of all people who work in McDonald’s restaurants” and that it would investigate the allegations and “take any necessary actions.”

Economists disagree about what causes such work conditions. Some cite the low-skilled jobs in many heavily franchised industries. They point to cutthroat competition. “It’s more the industry that determines the working conditions of the employees than it is the way in which this is organized,” said LaFontaine, the University of Michigan economist, defending the franchise model.

Other experts tie the low wages to the franchising. When a company franchises, they point out, it is adding extra owners and a new layer of competition. That means more people taking slices of the pie and more pressure to cut costs such as wages. “Each different business is operating on a thinner margin,” said David Weil, the Labor Department nominee, who is a business professor at Boston University.

Weil co-authored a study that found that fast-food restaurants operated by a franchisee are more likely to violate wage-and-hour laws than eateries the big corporation runs itself.

When workers earn less, a related argument goes, they also consume less — a drag on the economy.

In a new book, Weil acknowledges the benefits of franchising for businesses that want to expand, but he also likens the model to various forms of outsourcing. He says they are all ways for big companies to shed employment responsibilities.

The Slurpee Economy

Syed says he bought his 7-Eleven franchise in 1990. “I was very excited,” he said. “I could buy everything from where I wanted to.”

After a while, however, Syed decided that being a franchisee was not all it was cracked up to be. It was not just the long hours. The company allowed another 7-Eleven to open just a few blocks away. Then it changed the terms of his franchise agreement.

Franchisees learned they had to buy 85 percent of supplies from approved vendors. “Now everything will be controlled by 7-Eleven Company,” Syed said. “They will decide what to buy, where to buy.”

Other franchisees complain that 7-Eleven goes as far as to remotely control the temperature in their stores, even the volume on their televisions.

Many of 7-Eleven’s rules do help protect the brand. And the company has reasons to make franchisees purchase supplies from an approved vendor. For one, 7-Eleven can use the collective buying power to keep costs down, a company official said.

Something 7-Eleven does not control are employment decisions, including the amount Syed pays his workers. Syed said one of his half-dozen employees, the manager, makes $10.50 an hour. He said the rest earn less — in a state where the minimum is $8.25.

Syed said he can hardly blame employees who are upset about the pay, but he insisted he is not getting rich either. Last year, his 23rd at the store, Syed took home $53,866, he said. That was one of his best years, he added.

To Syed, the whole franchise model feels like a setup. “We are as much of a victim in it as the workers are,” he said. “We are nothing more than a glorified manager.”

7-Eleven officials declined to get specific regarding the company’s agreements with its approximately 6,200 franchises. But Jay Mitchell, a franchise-sales manager at the Dallas headquarters, said 7-Eleven was not going to take responsibility for wages or work conditions.

Franchisees are “going to be independent operators so they are going to be responsible for employing people and determining what they pay those people as well,” Mitchell said. “While we will provide them guidance, it is completely up to [the franchisees] how they pay their employees.”

Questioned about such employment policies, 7-Eleven spokeswoman Margaret Chabris said the company provides franchisees “very comprehensive” training and said the franchise agreement requires them to follow the law.

But Syed said the rest of the agreement makes it too hard for him to cut costs, leaving him little room to pay his employees more. “That worker also thinks — and I know it for a fact — that I am just greedy and I want to keep all the money in my pocket instead of giving him fair wages,” he said.

It might have been harder for Syed to run a convenience store without the 7-Eleven brand, said LaFontaine, the economist. “Independent businesses or franchises fail all the time. That is just a reality of these kinds of small businesses.”

Syed, who publishes a newsletter for Chicago-area 7-Eleven owners, says state and federal lawmakers should do more to protect franchises from the companies that own their brand.

To date, just 17 states have any laws governing franchisor-franchisee relations, according to Dean Heyl, who directs state government affairs for the International Franchise Association.

Those states include Illinois, which enacted its Franchise Disclosure Act in 1987. That law regulates how franchisors treat prospective franchisees and requires franchisors to have “good cause” for terminating a franchise.

Last week, Maine’s state Senate voted down a bill that would have, among other things, required franchisors to provide a franchisee a 60-day notice to resolve a problem before termination. The bill also would have allowed franchisees to leave their business to a spouse, partner or heir.

Heyl said such legislation, if enacted, would “hurt franchisees who are playing by the rules.”

Franchisings New Frontier

As franchising has spread, some industries have pushed the model to the extreme. In commercial-cleaning franchising, the customers that need the service usually come through the franchisor. They also make their payments to the franchisor. The franchisee gets just a portion of the payments in periodic checks from the franchisor — after deductions for insurance, royalties, management and so on.

In Chicago, the commercial-cleaning franchisees include hundreds of Mexican immigrants. One of them is a woman we will call Gloria Pérez. We agreed not to use her real name because she fears retribution from her franchisor. Pérez entered the commercial-cleaning business four years ago.

Back then, she and her husband were both unemployed, they had three kids at home and a mortgage, and they were burning through their savings. Pérez saw a newspaper ad placed by CleanNet of Illinois, part of CleanNet USA, based in McLean, Virginia.

The ad said she could have her “own business.” Pérez, interviewed by WBEZ in Spanish, said it seemed like “a good opportunity because we did not have any other work.”

Pérez went in for an appointment. CleanNet gave her more than 150 pages of legal disclosures — all in English, she said. She did not understand much except some numbers on a chart the company gave her. “It said I could make $6,000 a month if I bought a franchise for $21,000,” she said.

After a discount, Pérez said, she managed to put in $19,000. Since then, she said, she has never come close to earning the monthly $6,000. “Every month they take out 20 percent of what I earn” and CleanNet does not give her enough customers within range of her home, Pérez said.

“It’s a scam,” said Chicago attorney Christopher Williams, who filed a class-action lawsuit against the company in March on behalf of janitors such as Pérez. “CleanNet is trying to say, ‘We have no unemployment obligation to them. We have no workers-comp obligations to them. We do not pay payroll taxes. We are not their employer. And these are people who need public assistance because they’re making so little money. They can’t afford health care. If they get injured on the job, they have no workers compensation insurance.”

If a customer falls behind on its payments, CleanNet warns it could deduct that money from paychecks too.

Another way CleanNet makes money off its janitors is by loaning them money when they cannot afford the franchise fee — the upfront payment from the workers. Paying off that loan means yet more paycheck deductions.

“All they’re left with after that agreement is debt,” Williams said.

The suit against CleanNet, filed in federal court, claims hundreds of the company’s Illinois janitors are not franchisees but employees. It accuses the company of violating state and federal laws regulating wages and work hours.

CleanNet officials did not respond to our requests for comment about the suit. When janitors in Massachusetts filed a similar claim against the company, CleanNet denied any liability or wrongdoing. It did settle with those janitors last November, agreeing to pay out $7.5 million.

In Illinois, CleanNet is among at least eight commercial-cleaning firms registered to offer franchises, according to the state attorney general’s office. The biggest is Jani-King International, based in Addison, Texas.

Jani-King says it pioneered franchising in the commercial cleaning industry. Asked whether ducking wage-and-hour laws was a big factor in deciding to sell franchises to janitors instead of employing them, the company emailed a statement that did not directly answer the question.

“Franchise owners, like all business owners, have control over their day-to-day operations as well as their profitability,” the Jani-King statement said. “They can solicit and bid their own business, and they can accept or decline the right to service accounts offered by Jani-King. They can hire employees to clean accounts, or they can clean themselves. They buy all of their own equipment and supplies. The franchise owners receive all revenue generated by their business (less Jani-King’s fees).”

But Weil, the Boston University business economist, said the franchise model enables the cleaning companies to shortchange the janitors. “If you start doing the math, you realize that people are being paid way below the minimum wage or being denied overtime payment and are really being subjected to inappropriate expenses by another company for, essentially, being an employee of that company,” he said.

In the cleaning industry, it is not just the “franchisees” who are vulnerable to wage-and-hour violations. Those workers often bring other people to help them with jobs. Pérez gets part-time help from her husband, a son and a neighborhood friend. “I can’t afford to pay them minimum wage,” she said.

Court rulings in Massachusetts have upended franchising by janitorial companies. “Several have closed down or stopped operating the way they were operating,” said attorney Shannon Liss-Riordan, who filed the key suits. Now the companies are either treating their janitors like employees or “not charging workers upfront for a job,” she said.

“My hope is that some of the rulings that we’ve gotten [in Massachusetts] will spread,” Liss-Riordan said.

That prospect worries Heyl, the International Franchise Association lobbyist. If lawsuits drive franchised cleaning companies out of business, there will be less competition and increased prices, he warned.

Heyl also sees a threat to franchising in all industries. “We’re just coming out of a recession, and banks are very skittish and, if they start looking at a franchise system and open up the [newspaper] and say, ‘Look, some of these franchisees are employees,’ and there’s litigation to follow, there’s numerous negative economic impacts.”

Follow Chip Mitchell at @ChipMitchell1. Follow Shannon Heffernan at @shannon_hThis report, edited by Derek John, is part of WBEZFront and Center series, funded by the Joyce Foundation, Improving the quality of life in the Great Lakes region and across the country.