Puerto Rican McDonalds Franchisees Claim HQ Hung Them Out to Dry

13988001407_483efe4574_zA group of McDonald’s franchise operators in Puerto Rico is alleging that the fast food giant violated federal law and a Federal Trade Commission (FTC) rule that regulates the behavior of franchisors.

According to the Puerto Rican franchisees (the Plaintiffs), McDonald’s first violated the Franchise Rule when it sold its Latin American franchises — and, consequently, McDonald’s franchise rights in the Puerto Rican market — to the Latin American company, Arcos Dorados, in 2007.  Subsequent actions by Arcos Dorados in Puerto Rico have caused additional harm to the Plaintiffs, in further violation of federal law.

Plaintiffs allege the various harms and violations have occurred.  Specifically, they claim that McDonald’s “cut off all ties with Puerto Rico operators” after the sale to AD, after which the new owners (Arcos Dorados) began downgrading services to the franchise owners, absent disclosure to the FTC and in violation of FTC Act 5 Section 5 (unfair competition) and the Franchise Rule.  Plaintiffs further allege that AD is neglecting to conduct sufficient sales analyses before opening new McDonald’s locations, leading to areas with a glut of McDonald’s restaurants and the resultant supply-and-demand problems for Plaintiffs’ businesses.

More than McDonald’s, though, the real villain in this story is Arcos Dorados (AD), a McDonald’s franchising behemoth.

Spanish for “Golden Arches” (really), AD is the largest McDonald’s franchisee in the world, with more than 2,000 McDonald’s restaurants and exclusive rights to own, operate and franchise McDonald’s restaurants in Latin America and the Caribbean.  The company has more than 90,000 employees, was recently named the fourth best company in Latin America and had sales of over $4 billion in 2013.

AD went public in 2011, after posting $3 billion in revenues and $106 million in profits the year before.  As a result of the 2011 IPO, AD’s CEO, Woods Staton, become a billionaire.  Importantly, as McDonald’s has encountered recent domestic difficulties, AD’s profits have continued to rise.  Last quarter, AD reported sales up 10.6 percent for the quarter and 11.2 percent for 2013.  The company’s success in Latin America is due in part to its actively marketing to lower income residents and its aggressive growth strategy.

In other words, the preexisting McDonald’s franchisees in Puerto Rico believe they were sold a bill of goods.  The Plaintiffs expected that all Puerto Rican McDonald’s would maintain a certain standard of quality, thereby ensuring that their business would reap the benefits of the McDonald’s brand (whatever it is); and they expected that future McDonald’s restaurants would not open in close proximity to their original franchises, thereby syphoning off potential customers.  According to their complaint, Plaintiffs’ (reasonable) expectations were not met in either case.  If true, these allegations suggest questionable behavior on the part of Arcos Dorados, and of the type of competition that could typically be classified as “unfair.”

Importantly, this is not the first that AD or McDonald’s has heard from the Puerto Rican franchisees.  In January 2007, several Puerto Rican franchisees brought a suit in Puerto Rican court against McDonald’s and certain subsidiaries which AD purchased, seeking, among other things, to prohibit AD from opening new restaurants within a three-mile radius of a franchisee’s restaurant.  In September 2008, AD countersued, attempting to terminate the franchise agreements with these franchisees, and a trial commenced on Sept. 10, 2012. According to its most recent annual report, AD “does not anticipate that the trial hearings will conclude in the first semester of 2014.”

At the very least, the Puerto Rican franchisees have been singing a similar tune for years.  Yet, it is hard to square these seemingly poor business decisions in Puerto Rico (why bother saturating the market and, in effect, competing with yourself?) with the otherwise successful conduct of AD elsewhere in Latin America.  If the FTC buys what the Plaintiffs are trying to sell, then the Commission may order AD to change its behavior in Puerto Rico and/or pay potentially heavy fines.  Both the FTC proceeding and the 2007 suit could impact the way McDonald’s — and other multinational franchises — compete in the Latin American market, and the outcomes deserve attention.

Image credit: Flickr/jeepersmedia

Michael Kourabas

Trained as a lawyer, I now focus on legal business development, corporate social responsibility (CSR), and business & human rights. My past experience includes work on complex commercial litigation, international human rights advocacy, education policy, pro bono legal representation, and analysis of CSR challenges in both the private and public sectors.