New York Attorney General Sues Domino’s Pizza, Inc. for Joint Liability as a Franchisor for Alleged

On May 23, 2016, New York Attorney General Eric Schneiderman filed suit in New York state court against Domino’s Pizza, Inc. and three of its New York franchisees, alleging systematic underpayment of pizza-delivery workers amounting to at least $567,000.¹ AG Schneiderman’s allegations against Domino’s for wages are premised on a claim that Domino’s is a joint employer with its franchisees—a theory that appears to rest largely on franchisees’ required purchase and use of a proprietary computer hardware and software system developed by Domino’s, called PULSE. AG Schneiderman also alleges that the Domino’s Franchise Disclosure Documents (“FDDs”) contained material misstatements and omissions concerning the proprietary PULSE system.

AG Schneiderman’s case appears to rest on novel factual allegations for what constitutes joint employment of a franchisee employee. As a result, the ultimate import of AG Schneiderman’s lawsuit against Domino’s will likely depend on whether the particularized PULSE-related allegations in the case effectively make it an aberration. If not, however, the case could mark a sea change, exposing franchisors not only to ubiquitous wage and hour claims but also to other claims by franchisee employees looking to cast a broader net.

Background & AG Schneiderman’s Allegations

Domino’s is the one of the largest global franchisors. According the court Petition filed by AG Schneiderman, Domino’s has 5,273 stores in the U.S., most of which—4,888—are owned and operated as franchises. In New York, Domino’s owns 54 stores itself, compared to 136 franchise stores.

According to the Petition, in 2012, the New York Attorney General’s Office (“NYAG”) received complaints from Domino’s workers that certain stores were not paying the required minimum and overtime wages. These complaints led to a widespread investigation by the NYAG into Domino’s stores across New York. The NYAG concluded from these investigations “widespread and systematic [New York] Labor Law violations….in stores owned by at least 15 different Domino’s franchisees.” In 2014 and 2015, 12 of the 15 franchisees settled with the NYAG. The three franchisees sued in the AG’s Petition appear to be the three who did not settle.

In conjunction with its investigation into the franchisees, the NYAG also began an investigation into Domino’s. According to the Petition, Domino’s provided sworn testimony, documents, and payroll data extracted from Domino’s proprietary computer system, PULSE, “specifically, information about franchisee-reported delivery worker wage rates below New York’s minimum wage and overtime requirements.” According to the Petition, “documents produced by Domino’s showed that from October 2011 to June 2013, 33 of the 42 franchises [currently] operating in New York State—over 78%—reported wage rates in PULSE below the state’s minimum wage requirements for delivery workers.”

Domino’s proprietary PULSE system is the centerpiece of AG Schneiderman’s lawsuit. PULSE is a proprietary computer system that since 2008 Domino’s has required its stores, whether corporate owned or franchisee, to purchase and use. According to the Petition, PULSE consists of hardware (e.g., monitors, terminals) and a multi-faceted software package that performs point-of-sale functions; tracks pizza delivery information; maintains store-specific personnel data, store hours, product prices, timekeeping information for employees, employee work-task information (allegedly monitored “continuously”), and tips; and generates reports such as, for example, sales, revenue, and, importantly, payroll.

As to payroll, PULSE generates a report for store management that calculates gross wages based on an employee’s clock-in and clock-out times on PULSE and on the employee’s wage rate entered by a store owner or manager. The PULSE Payroll Report separates out in columns an employee’s daily hours worked, pay rate, regular hours, overtime hours, tips, and “automatically calculates ‘Total Pay’ for each employee for each pay period based on the hours recorded in PULSE.”

The Petition alleges that numerous Domino’s franchisees used the “Total Pay” amount reflected on the PULSE Payroll Report as each employee’s gross pay amount in generating pay checks, often simply sending the Payroll Reports along to their accountants and payroll vendors for computing net earnings and cutting paychecks. The Petition alleges that Domino’s “was aware that some New York franchisees used PULSE to calculate their employee’s gross wages,” and that the Domino’s-supplied PULSE guide describes submission of the Payroll Report to a franchisee’s payroll service vendor as an “accepted use” for such reports. Further, the Petition alleges that Domino’s did not supply any systematic disclaimer or warning to franchisees about using PULSE to calculate wages, and the Payroll Report does not contain any such disclaimer or warning.

AG Schneiderman alleges four flaws in the PULSE system: First, PULSE fails to aggregate hours worked by an employee in multiple stores for the same franchisee for purposes of overtime pay. Second, PULSE fails to calculate the additional “spread of hours” pay required by New York when an employee works more than 10 hours in a day. Third, PULSE calculates overtime for tipped workers at 1.5 times a worker’s tipped rate, rather than 1.5 times the state minimum wage rate less the allowed tip credit, as required by law. And fourth, PULSE fails to either limit the tip credit when a worker performs more than 20% of his or her work in a non-tipped capacity during a shift, or permit entry of more than one wage rate for a single worker.²

The only ground for AG Schneiderman’s direct “wage theft” claims against Domino’s is that Domino’s is a “joint employer” of its franchisees’ employees. AG Schneiderman’s allegations as to joint employment are myriad, and include:

Control of franchisee hiring: Domino’s “at least once” “required” a franchisee to hire a managerial employee and met with the franchisee and new supervisor to outline job duties. The franchisor allegedly also “required” franchisees purchasing several corporate-owned stores to “offer substantially similar jobs with substantially similar wages and benefits in the same or similarly located stores to a substantial number of qualified persons employed in the stores” prior to closing. Domino’s also requires franchisees to use one of four reporting agencies when conducting background checks on potential employees, and delineates the criteria to be used in checks.

Control of franchisees' firing and discipline of employees: Domino’s allegedly has in certain instances sought termination of franchisees’ employees under threat of termination of a franchise agreement, and suggested discipline in specific employee misconduct events.

Supervision and control of employee schedule and conditions of work: Domino’s distributes a very detailed Manager’s Guide that “leaves literally nothing to chance” in a store’s operations, and requires any deviation from its procedures to be sought through a “variance.” In the past, Domino’s officials emailed instructions to franchisees on how to adjust store work schedules to, e.g., minimize the number of employees at work during a given shift, reduce multiple order deliveries in a single delivery run, and insisting that stores use employees in marketing activities each week despite specific desire by the franchisees who owned the stores to not do so. Setting and monitoring employee standards through in-person visits to franchises, instructions to franchisees, and monitoring through PULSE. And promotion of anti-union policies and anti-unionization strategies at franchises by, among other things, suggesting an anti-union preferred attorney for franchisees to use, issuing specific guidance on how to avoid union activity and defeat any unionization efforts, and emails from senior Domino’s officials expressing Domino’s strong preference toward any unionization effort.

Control of aspects of employee compensation: The Petition concedes that Domino’s “did not directly determine employees’ hourly wage rates.” Instead, the Petition asserts that it “influence[d] the rates which tipped delivery workers were paid in various ways, including most notably, through the miscalculations and flaws of the PULSE Payroll Report that it allowed to stand undisclosed and uncorrected.” Domino’s also prohibited tip jars to be placed in franchisee (and corporate-owned) stores.

Imposition of the PULSE system on franchisees: The Petition alleges that Domino’s required franchisees to purchase and use PULSE to track, among other things, employee work schedules and wages, and did so knowing that franchisees were using the PULSE Payroll Reports to generate delivery workers’ paychecks. As a result, “Domino’s thus effectively made PULSE a part of its franchisees’ payroll system” and “As a result [of the practical ease of just sending the Payroll Reports to their accountants and payroll vendors], the franchisees did, in fact, use the PULSE Payroll Report to calculate gross wages,” and “Domino’s knew that its New York franchisees were using Payroll Reports to calculate employees’ gross wages.”

Primarily in connection with the PULSE system, AG Schneiderman also alleges a number of material misrepresentations and omissions from Domino’s FDDs in support of fraud claims under New York’s Franchise Sales Act and other state law. The Petition alleges five specific material misstatements or omissions by Domino’s:

• That PULSE’s “functions” include the “[c]apacity to interface with a payroll company or a commercial accounting package”;
• That Domino’s would provide “operating assistance” that would include “accounting … and general operating procedures”;
• That PULSE “will perform in all material respects in accordance with the then current applicable user documentation delivered by [Domino’s]” and that Domino’s would “replace or correct the Software so that it will perform in substantial conformance with the applicable user documentation”;
• That Domino’s would “correct any Software error, and will provide to [Franchisee] any error corrections, enhancements and updates to the Software . . . [that] will remedy any documented failure of the Software to perform in substantial conformance with the then-applicable user documentation.”
• That Domino’s FDD identified Payroll Reports as among “frequently used reports” and states that typical uses include “viewing payroll information…[and] generating payroll information to give to you accountant or payroll service.”

AG Schneiderman alleges these were materially misleading both as a result of Domino’s failure to correct the allegedly known software deficiencies in the PULSE system, and because the under calculation of wages caused by the PULSE system shortcomings caused Domino’s to overstate projected franchise profitability in its FDD.

The Domino’s Case in a Broader Context

Most of AG Schneiderman’s allegations in support of joint employment liability for Domino’s are relatively unremarkable in light of prior case law. For example, AG Schneiderman alleges that Domino’s “requires franchisees to ‘to fully comply with all specifications, standards, and operating procedures and rules from time to time prescribed for the operation of a Domino’s Pizza Store,” sets franchise fees, and grants Domino’s a unilateral right to terminate any franchise that fails to comply with Domino’s standards and franchise requirements. These are standard allegations in joint employment cases that are often rejected by courts at the summary judgment stage.

AG Schneiderman seems to acknowledge that he needs something more. His court filing includes a lengthy disclaimer at one point that “It is important to clarify here that the Attorney General is not arguing that Domino’s is a joint employer simply because it is a franchisor . . . .[Rather,] [t]his case presents … evidence of Domino’s formal and functional control beyond those facts typically present in the cases that have dealt with the franchisor/franchisee relationship in the wage-and-hour context.”

After all, franchising, to a great extent, is “all about controls” to protect the brand, trade name, goodwill, and prevent chainwide variations in customer service and product quality that can work a detriment to both the franchisor and franchisee. Putting aside AG Schneiderman’s conclusory assertion to the contrary, most of the allegations in the NYAG’s case against Domino’s do not appear to be materially different than allegations commonly seen in joint employment cases. These cases include the recent and highly publicized administrative skirmishes between the NLRB and the McDonald’s franchise system and similar NLRB cases involving the Freshii’s system and Browning-Ferris Industries.³

The real crux—and creativity—of AG Schneiderman’s case is his allegations concerning technical aspects of PULSE that caused the alleged underpayment of wages. AG Schneiderman’s court filings labor to develop a narrative of the various ways in which the PULSE Payroll Reports were inextricably linked to franchisees’ operations and to the alleged wage law violations. AG Schneiderman appears to be relying heavily on the idea that joint liability for a franchisor ought to be found where the franchisor’s conduct in relation to franchisees was causally linked to the alleged violations of law.

That theory takes AG Schneiderman’s case outside of past cases that have alleged joint employment liability, or other vicarious liability, for franchisors based on requiring franchisees to use certain computer systems to track franchise operations. In fact, the California Supreme Court recently considered whether Domino’s was a joint employer of franchise employees in California. The court acknowledged that Domino’s “prescribed standards and procedures involving pizza making and delivery, general store operations, and brand image. These standards were vigorously enforced through representatives of the franchisor who inspected franchise stores.”⁴ More critically, in the court’s view, however, was the “uncontradicted evidence that the franchisee made day-to-day decisions involving the hiring, supervision, and disciplining of his employees.”⁵

The PULSE system appears not to have been central to the California case, but was the subject of testimony and discussed briefly by the California Supreme Court in its opinion. The California Appeals Court decision, which the Supreme Court reversed, held that the comprehensiveness of the PULSE system accomplished “far more” for Domino’s than simply protecting its trade name, goodwill, and general operating procedures appropriately common to all franchise operations, and instead “deprive[d] franchisees of the means and manner by which to assert managerial control.”⁶ The California Supreme Court disagreed, holding that “a comprehensive operating system” does not “alone constitute[] the ‘control’ needed to support” joint employment or vicarious liability for a franchisor. A “franchise contract consists of standards, procedures, and requirements that regulate each store for the benefit of both parties. This approach minimizes chainwide variations that can affect product quality, customer service, trade name, business methods, public reputation, and commercial image.”⁷ Other courts in cases with similar facts concerning franchisees’ required use of operating systems have reached a similar holding, including a recent case against McDonald’s Corporation that alleged, among other things, that if McDonald’s proprietary software had been programmed differently it would have avoided franchisee violations of wage laws.⁸

AG Schneiderman combines his PULSE theory with quotations from internal Domino’s email correspondence and testimony by Domino’s witnesses obtained in the NYAG’s investigation, all of which, at least as quoted, appears unfavorable to Domino’s. For example, as to the alleged flaw concerning failure to pay a non-tipped wage rate for non-tipped work, the Petition quotes a 2007 email from a Domino’s official stating “I’m told the PULSE system does not currently function to pay a driver a different rate of pay in the same shift and therefore franchisees are just paying the tip wage for the entire shift which is not following the law.” The Petition also quotes a 2009 email from the same official, “[T]here are a lot of franchisees who are not doing tip credit correctly.”

The New York Franchise Sales Act anti-fraud provision at Section 687(2)(b) states, in pertinent part, that it is “unlawful for a person, in connection with the offer, sale or purchase of any franchise, to directly or indirectly:….(b) [m]ake any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they are made, not misleading.”⁹ AG Schneiderman alleges Domino’s violated this provision by knowing about technical aspects in the PULSE software that might miscalculate wages, but failing to disclose those technical aspects and their potential impact on the utility of PULSE Payroll Reports in required financial and other regulatory disclosure statements.

AG Schneiderman’s FDD fraud claims are primarily based on three allegations: First, he alleges that for years Domino’s officials in various departments, including IT, Human Resources, and Franchise Operations, discussed the PULSE flaws internally via email, at times walking through mathematical examples of how specific technical aspects of PULSE would undercalculate wages. Yet, according to AG Schneiderman, Domino’s declined to remedy the flaws or inform franchisees about them or affirmatively disclaim to franchisees that the PULSE Payroll Reports could be relied upon for accurate payroll calculations. Second, AG Schneiderman alleges that Domino’s officials knew about, and extensively discussed the PULSE technical shortcomings in 2007, least a year before Domino’s new requirement, starting in 2008, that all franchisees purchase the PULSE system. And third, he alleges that Domino’s instructed its franchisees to “cross-train” employees to perform non-tipped-wage work while not making deliveries (which were paid at a tipped wage) even though Domino’s knew that PULSE would not properly calculate both tipped and non-tipped wages for a single employee and as a result would likely under-calculate gross wages in precisely the cross-training scenario.

The most potent fraud theory in AG Schneiderman’s case against Domino’s might end up being the fraudulent omissions theory. Assuming the documents and testimony AG Schneiderman quotes and cites to are accurate, Domino’s officials appear to have had at least a general knowledge of systemic problems with PULSE that could lead to regular and ongoing legal compliance issues at Domino’s franchises. The documents suggest that in some cases, these officials’ knowledge of the issues potentially went beyond mere generalized knowledge, and that certain officials internally discussed detailed scenarios where PULSE was not calculating payroll correctly under New York law.

Ultimately, what impact the NYAG’s case against Domino’s has will depend on how much traction AG Schneiderman’s PULSE allegations have with the New York trial court, and, if the court is impressed with the allegations, whether they reflect a common system of franchising or are instead an aberration from how other sophisticated franchisors operate. One possibility is that Domino’s in fact goes farther than most other franchisors in dictating the terms and conduct of franchises and franchisees’ employees, and that the PULSE system’s technical aspects contributed sufficiently, as a matter of law, to wage-and-hour violations that this case is not a harbinger to franchisors more generally, but has little precedential value for regulators and civil litigants seeking to pursue franchisors for alleged labor-law violations by franchisees.

However, at a minimum, Domino’s is likely to see follow-on civil litigation filed against it in other states, possibly by state attorneys general, but almost certainly by private plaintiffs seeking to enforce state or federal labor laws against Domino’s as a “joint employer” based on the proprietary PULSE system. One can imagine, in particular, enterprising plaintiffs’ counsel to bring one or more class actions against Domino’s. And the franchise sales fraud claims could interest other state (or federal) regulators. As a result, all franchisors should review whether the technical aspects of any computer systems franchisees are required to use are sufficiently robust to account for the various ways in which franchisees are known or encouraged to use employees. At a minimum, franchisors should be clear in their franchise disclosure documents and any other operating policies or manual provided to franchisees that any required software is not intended to, and does not serve, as a comprehensive service for whatever functions—payroll, scheduling, etc.—it might be programed for use, unless franchisors want to be subject to potential liability should the computer system fail to serve comprehensively for that purpose. If franchisors do not intend for franchisees to rely completely on payroll information generated or housed in franchisor-provided or franchisor-required systems, franchisors should be clear about that fact in all disclosures to franchisees, and include that disclaimer on any printouts or reports the system generates.

¹ Press Rel., “A.G. Schneiderman Announces Lawsuit Seeking To Hold Domino’s And Its Franchisees Liable For Systemic Wage Theft,” N.Y. Att’y Gen. Office (May 24, 2016), https://web.archive.org/web/20160603152015/http://www.ag.ny.gov/press-release/ag-schneiderman-announces-lawsuit-seeking-hold-dominos-and-its-franchisees-liable; People v. Domino’s Pizza, Inc. et al, Petition (N.Y. Sup. Ct.) (filed May 23, 2016) (hereinafter “Petition”), https://goo.gl/28RDiH.

² According to the Petition, this resulted in employees earning their tipped wage, and employers taking the tip credit, for non-tipped work done by workers who also earned tips, such as when delivery workers performed in-store tasks like cooking, boxing pizzas, or taking orders in between deliveries.

³ See Browning-Ferris Industries of California, Inc., d/b/a BFI Newby Island Recyclery, and FRP-II, LLC. d/b/a/ Leadpoint Business Services, Case 32-RC-109684, 362 NLRB No. 186 (2015); Advice Memorandum 177-1650-0100, Nutritionality, Inc. d/b/a Freshii, Cases 13-CA-134294, 13-CA-138293, and 13-CA-142297; McDonald’s USA, LLC, a Joint Employer, et al. and Fast Food Workers Committee and Service Employees International Union, CTW, CLC, et al., Cases 02-CA-093893, et al., 04-CA-125567, et al.,13-CA-106490, et al., 20–CA–132103, et al., 25–CA–114819, et al., 31–CA–127447, et al., 363 NLRB No. 144 (March 17, 2016).

⁴Patterson v. Domino’s Pizza LLC et al., 60 Cal. 4th 474, 479 (Cal. 2014).

⁵Id.

⁶Id. at 496.

⁷Id. at 497.

⁸Ochoa v. McDonald’s Corp., 133 F. Supp. 3d 1228 (N.D. Cal. 2015) (granting summary judgment for defendants). See also, Vann v. Massage Envy Franchising LLC, 2015 U.S. Dist. LEXIS 1002, *1 (S.D. Cal. Jan. 5, 2015) (granting summary judgment that franchisor was not a joint employer where facts showed, inter alia, franchisor required franchisees to obtain and use a particular computer system called the “Millennium Software,” which generated and stored member, accounting, and point of sale information); Aleksick v. 7-Eleven, Inc., 205 Cal. App. 4th 1176, 1190 (Cal. App. Ct. 2012) (holding that 7-Eleven was not a joint employer of is franchisees’ employees by virtue of 7-Eleven’s requirement that its franchises use its payroll service); Singh v. 7-Eleven, Inc., 2007 U.S. Dist. LEXIS 1667 (N.D. Cal. Mar. 8, 2007) (holding 7-Eleven was not a joint employer where it, inter alia, received information from franchisees about employees’ hours worked and rate of pay and then generated pay checks that were sent to franchises for distribution to franchise employees). But see, e.g., Cano v. DPNY, Inc., 287 F.R.D. 251, 260 (S.D.N.Y. 2012) (granting leave to amend complaint to assert joint employer allegations against Domino’s based on, inter alia, comprehensiveness of PULSE system and its use in “tracking hours and wages and retaining payroll records”).

⁹ N.Y. Gen. Bus. L. § 687(2)(b).