Dan Garner’s most recent article discusses the surprisingly extensive ramifications of gift card laws, from both a legal and practical perspective. The article was published in the October 2012 edition of Law Journal Newsletters Franchising Business & Law Alert.

Read the article to learn more about the potential ramifications of gift card laws.

On September 7, the United States Court of Appeals for the Eighth Circuit refused to lower the high standard for a franchise agreement to be considered perpetual under Missouri law.

In H & R Block Tax Services LLC v. Franklin, the Eighth Circuit reversed a district court’s finding that the parties’ franchise agreements were perpetual and, thus, not terminable by the franchisor without cause. The franchisor sought to terminate agreements relating to the operation of two H & R Block franchises in California. The franchise agreements, which provided for the application of Missouri law, expressly provided that the franchisor could terminate for cause, but only expressly provided for termination at any time by the franchisee. Because the agreements did not provide that the franchisor could terminate at any time, the district court found that the contract was perpetual until the franchisee elected to terminate the agreements or they were terminated for cause.

Reversing the decision of the district court, the Eighth Circuit held that a franchise agreement is only perpetual under Missouri law when the contract unequivocally expresses the parties’ intent that the contract be perpetually enforceable. A court will not find that intent from ambiguous, implied terms. With regard to the H & R Block franchise agreements, the Eighth Circuit concluded that the contractual provision providing for automatic renewal indicated an intention that it not be perpetual because, if it were, there would be no need to have it renewed. Judge Smith filed a dissenting opinion in the case, however, and agreed with the district court’s finding that the franchise agreements were perpetual.

Certainly, the Eighth Circuit’s decision is a reminder that the language selected by parties can have important ramifications on whether a contract is terminable at will or could be found to be perpetual. To read more about perpetual contracts, click here.

Here are some key points identified by the speakers at the 2012 Distribution Symposium on navigating through the legal landmines in distribution:

State revenue enhancement: The states are desperate for money and trying to collect more revenue using a variety of approaches. For example, some states are trying to attribute nexus status to a parent because an affiliate has an office in the state. Other states are using the escheat laws to recover old credits and refunds due to a customer, such as from unused gift cards.

Pricing issues: Although the U.S. Supreme Court in Leegin said reasonable minimum price restraints are permissible, many states do not like them. Sellers struggle on how to implement minimum price restraints without running afoul of the law because it is difficult to know whether the rule of reason is satisfied and many states have a per se rule. Use of a Colgate-type retail pricing policy is difficult to implement because there is no flexibility when a violation occurs and sales to the violator must stop.

Product liability and safety issues: When dealing with a foreign supplier, especially when importing from China, there is often no effective remedy against a supplier when there is a defective product or a recall. The U.S. importer essentially becomes the manufacturer with all the attendant liabilities and responsibilities.

Impact of foreign laws: Foreign law may supersede the terms of distribution agreements and it is important to understand the impact. Terms that are typical in U.S. distribution agreements, such as exclusive territories may not be enforceable. It may also be significantly harder to terminate a distributor and sometimes manufacturers must expect to pay damages for doing so.

Gift cards: When you issue gift cards, ensure you have no expiration of the underlying funds for at least five years from issuance; no fees for the first year, and only in certain circumstances after that; no gift cards with more than $2,000 loaded on them, and no more than $10,000 sold to any one person/entity in a 24-hour period.

When establishing your marketing campaign: Protect your intellectual property by establishing and memorializing in writing contractual ground rules for your distributors or sales force before they represent your product or name. If your marketing campaign includes an on-line presence, be sure to develop adequate terms and conditions and privacy policies, including how and what information you or your distributors gather and use – paying particular attention if you have reason to believe children will be accessing your site.

Importance of good compliance programs: Staying on top of ethics and compliance matters is key in any distribution system and especially when dealing with distributors abroad. Non-compliance can be costly. A good compliance program has buy-in from senior management and down, and sets up procedures that will allow everybody in the company to avoid compliance pitfalls simply by following routines.

Choices when choosing a distribution model: Different retail distribution models will present different challenges but also different opportunities for manufacturers. Analyzing existing strategic goals, assortment, distribution/channels, infrastructure and processes, controls and supply chain can help a retailer identify sales and margin opportunities and help manufacturers pick a model that will be a good fit for its business. This assessment may also lead to operational and distribution improvement opportunities. If franchising is the distribution model of choice, it is important to understand whether the business model lends itself to franchising and is possible to replicate by franchisees. For distribution systems relying on independent dealers, involving those dealers early on is often the key to a successful conversion of the system to a franchise. Before franchising internationally, a franchisor must consider how well the franchised products or services translate to the foreign market and understand the financial challenge of being geographically removed from its franchisees.

Terminating a distributor or dealer: Terminating a distributor or dealer often becomes difficult if the state has a relationship law or there is specific industry legislation, such as the Petroleum Marketing Practices Act. Termination often has to be handled conservatively to minimize risk exposure to the manufacturer or seller appointing a distributor or dealer.

Bankruptcy issues: If you think your customer might be a candidate for filing a Chapter 7 or Chapter 11 bankruptcy, then when you receive payment, do not automatically apply it to the oldest unpaid invoice. Rather, look at the history of their past payments; suppose the average is 46 days after shipment or invoicing. Then look to see if there is an unpaid invoice that is around 46 days after shipment or invoicing. If so, apply the payment to that invoice. It will give you a better “ordinary course of business” defense if the customer does file bankruptcy within ninety days to avoid preferential payment.

As gift cards continue to rise in popularity among consumers, the regulations and laws that companies must follow in issuing and accepting them continue to increase as well. Beyond the extensive requirements of the new federal gift card law – Regulation E – one of the issues just starting to gain traction with state legislatures is the idea of requiring retailers to give customers “cash back” on a gift card once the balance falls below a particular level.

New Jersey recently became the second state to formally join the movement when on July 29, 2012, Governor Chris Christie signed Senate Bill 1928 into law. As of September 1, 2012, all retailers in New Jersey must allow any customer holding a gift card with a balance below $5.00 to redeem the gift card for cash upon request. A violation can result in a statutory penalty of up to $500 per violation, so the failure to comply can get costly pretty quickly. Notably, there are a few exceptions, such as the fact that retailers do not have to provide cash back if the initial value of the card was below $5.00, or if the card is redeemable at multiple unaffiliated merchants (such as a mall gift card). Otherwise, however, retailers in New Jersey must provide cash back to any customer who asks once the value of the card has dropped below $5.00.

Oregon is the only other state that currently requires retailers to provide cash back to customers on gift cards where the value has decreased to below $5.00, but similar legislation is also currently pending in Illinois, and has been considered in various other states during the past two years. So, you can likely expect similar laws to continue to crop up elsewhere in the country. Until then, if you are not operating in Oregon or New Jersey, you are not required to provide customers cash back on your gift cards.

If you have question about this or any of the federal gift card regulations, we can provide quick, practical advice.

Franchisors often complain about the complexity of franchise laws and wish to structure distribution systems in a way to avoid those laws. Anybody who manages to do that, however, should be aware of the federal and state business opportunity laws that may apply to such systems. To generalize, a business opportunity is an agreement under which the seller/franchisor provides the buyer/franchisee with goods or services to help start a business and makes some representations about the money the buyer can make, that the seller will reimburse the buyer for losses, or provide a sales or marketing plan. Franchisors can usually escape applicability of the business opportunity law because exemptions for franchises that comply with the FTC Franchise Rule, but for those systems that structure around that rule business opportunity laws may become an issue.

New Arizona Business Opportunity Law

Arizona amended its Telephone Solicitations Act (the “Arizona Act”) earlier this year to add provisions applicable to business opportunities. The amendments went into effect on August 1, 2012. The statute requires that business opportunity sellers obtain a $100,000 bond, submit an extensive registration document, and provide a disclosure document to prospective buyers.

The Arizona Act requires filing of an extensive registration statement. A notarized “verified registration statement,” signed by all of the seller’s principals must be filed and then renewed annually by June 30. It also needs to be amended for material changes.

Business opportunity laws vary significantly with respect to the form of registration and what information needs to be submitted. The Arizona registration requirements are similar to those of many states, but in some regards go beyond most other states. For example, the seller must submit its articles of incorporation and by-laws or similar organizational documents as well as well as copies of any script, outline or presentation that the seller requires to be used when soliciting buyers.

Just like the registration requirements vary widely by state, so do the business opportunity disclosure documents. It is possible to prepare a multi-state disclosure document for some states, but Arizona is not one of them. Though the disclosure requirements are similar to many other business opportunity state laws, the disclosures must appear in the particular order that they are listed in the Arizona Act and an Arizona specific disclaimer is required to appear in the middle of the document.

Changes to Ohio Business Opportunity Law

On September 25, 2012 amendments to the Ohio Business Opportunity Plan Law (the “Ohio Act”) will go into effect. Part of the current business opportunity definition of the Ohio Act is that the initial fee is greater than $500 but less than $50,000. After the amendment, the maximum payment will be raised to $100,000, presumably catching many additional arrangements within the scope of the Ohio Act.

The scope of the Ohio Act will also be broadened by the change to the large seller exemption to the statute. Currently the net worth that a seller must be able to show to satisfy the large seller exemption is $5,000,000 on a consolidated basis. This amount is being increased to $15,000,000.

The addition of a bona fide whole sale price exemption to the Ohio Act will likely exclude some distribution systems that were previously covered by the statute while at the same time covering some that were previously excluded. The Ohio Act will now provide that payment of the bona fide wholesale price for reasonable quantities of goods or services for resale or lease are not considered part of the initial payment. For distribution systems where the buyer is paying very little initially except for the wholesale price for its initial inventory, this may mean that the system no longer falls within the scope of the Ohio Act, as long as the other initial payments are below $500. However, a distribution system where the buyer buys a significant amount of initial inventory but also pays more than $500 in other initial payments, may end up falling within the scope of the statute. For example, if the buyer buys an initial inventory at wholesale for $120,000 and pays $1,000 in other initial payments, the system was previously excluded from the Ohio Act because the inventory payments would have counted towards the total initial payments and would have exceeded the $50,000 maximum in the business opportunity definition. After the amendment, the inventory payments will be excluded from the calculation of the initial payment and the system will fall within the statutory minimum and maximum payments.