Commissioner's Opinion No. 72 / 3F

State of California Department of Corporations

Brian R. Van Camp, Commissioner
In reply refer to: File No. _____

This interpretive opinion is issued by the Commissioner of Corporations pursuant to section 31510 of the franchise investment law. It is applicable only to the transaction identified in the request therefor, and may not be relied upon in connection with any other transaction.

Mr. Robert W. Knowlton
Attorney at Law
Davies, Barwick & Knowlton
3434 Grove Street
Lemon Grove, CA 92045

Dear Mr. Knowlton:

The request for an interpretive opinion contained in your letter dated January 6, 1972, as supplemented by your letter dated January 17, 1972, has been considered by the Commissioner. Your letter raises the question whether the Distributor Agreement between Silica Products, Inc., a California corporation ("Silica"), are franchises within the definition of Section 31005 and subject to the provisions of the Franchise Investment Law.

You have represented that Silica manufactures a product described by you as an "industrial absorbent" which it proposes to market under the name of Redi-Sorb No. 133 through distributors who are given an exclusive sales territory.

Upon execution of the agreement, distributor is required to make a cash payment for the purchase of products to be delivered to him in accordance with his requirements and at prices as scheduled in the agreement. In answer to our inquiry as to the amount of this payment, you have advised that it may be more or less than $5,000. Distributor agrees to purchase all products required by him and not less than $5,000 worth annually, provided, however, that during the first eighteen months of the agreement, he must make no purchases in addition to those paid for with the initial payment.

The agreement is for an indefinite period. However, either party, at its option, may terminate it on 30-days written notice. In the event of such termination, Silica is to return the distributor's payments for which products have not been delivered.

Distributor agrees to exert his best efforts to diligently promote the sale of products, be responsible for conducting his own sales program, obtain his own licenses, collect his accounts and hire and pay his personnel. The agreement describes him as an independent contractor. He agrees not to compete in his sales territory for two years after termination of the agreement. Silica has the right to approve all advertising literature and brochures used by distributor in connection with the sale of products. Distributor is required to maintain public liability and property damage insurance in amounts set forth in the agreement and may not designate any "subdistributor" without the prior written consent of Silica.

Section 31005 of the Franchise Investment Law defines "franchise" to include an agreement, either oral or written, between two or more persons by which a franchisee is granted the right to engage in the business of offering, selling, or distributing goods or services under a marketing plan or system prescribed in substantial part by a franchisor, the operation of the franchisee's business pursuant to such plan or system is substantially associated with the franchisor's commercial symbol, such as its trade name or trademark, and the franchisee is required to pay a franchise fee. Section 31011 defines "franchise fee'' to mean any fee or charge that a franchisee or subfranchisor is required to pay or agrees to pay for the right to enter into a business under a franchise agreement, including, but not limited to, any such payment for goods and services. The purchase or agreement to purchase goods at a bona fide wholesale price is not considered the payment of a "franchise fee" pursuant to Section 31011 (a) , and Rule 011 of the commissioner exempts from the registration requirement of Section 31110 of the Law, any offer or sale of a franchise which would be subject to registration solely because the franchisee purchases or agrees to purchase goods at a price other than the bona fide wholesale price, if the total payment in excess of the bona fide wholesale price computed on an annual basis does not exceed $100.

In making the determination whether there is a prescribed marketing plan or system, it is necessary to keep in mind the objective of the Law to deal with a multiplicity of business establishments created by the franchisor for all of which he ostensibly assumes responsibility by causing them to be operated with the appearance of some centralized management and uniform standards as regards the quality and price of the goods sold, services rendered, or other material incidents of the operation. The marketing plan or system is prescribed by the franchisor as one of the important means by which the appearance of centralized management and uniform standards is achieved.

You have not informed us of any agreement or practice expressly imposed which in and of itself specifically requires distributors to offer products under a marketing plan or system prescribed in substantial part by Silica. A marketing plan or system suggested, recommended; or otherwise originated by Silica, though noncompulsory, however, might attain the :force of a "prescribed" plan or system within the meaning of Section 31005, if as a matter of fact it were to be substantially adhered to by the distributors. Therefore, the aforementioned provisions of the agreement that distributors shall be independent contractors and shall conduct their own sales program, do not preclude the possibility that the distributor's business is, in fact, operated pursuant to a marketing plan or system prescribed in substantial part by Silica within the meaning of the statutory definition of "franchise". To the contrary, the agreement contains some provisions--especially those granting an exclusive sales territory, prohibiting sale of competitive products, and requiring submission to Silica of all advertising and its consent to the designation of subdistributors--which while each separately considered may not be significant, when taken together evidence an effort on the part of Silica to control the manner in which its distributors do business. Whether Silica by these contractual provisions or by other action on its part and the acquiescence of the distributors will achieve such uniformity of operation within the distributing system as to amount to a prescribed marketing plan,. is a question of fact concerning which with the information available to us, a legal opinion cannot be rendered.

If as a matter of fact sales are not made pursuant to a marketing plan or system, the agreements between Silica and the distributors are not "franchises" within the definition of Section 31005, and are not subject to the provisions of the Franchise Investment Law. Otherwise the agreements, in our opinion, may be "franchises" and subject to the provisions of the Law, because in our opinion, the cash payment, which distributors are required to make upon execution of the agreement, may be a "franchise fee".

While denominated a "deposit" on the purchase price of merchandise and subject to a conditional refunding obligation on the part of Silica, this payment in reality may represent a charge to distributors for the right to enter into the business of distributing Redi-Sorb No. 133 which at best deprives them of the use of the funds for an indefinite period. Since you have placed no maximum limit on the amount of the "deposit" thus required, we are not in a position to find that the quantity of Silica products covered by this payment, is no more than the normal supply which a distributor reasonably would want to have at his disposal when opening his business. A payment in excess of that required for such supply in our opinion would be made for the right to engage in the business of distributing Redi-Sorb No. 133. Therefore, even if the price charged by Silica, as you have represented, does not exceed its bona fide wholesale price, payment for such excess quantity in our opinion would amount to a "franchise fee" within the meaning of Section 31011.

With a view to the provision of the agreement that the distributors may appoint subdistributors, we call your attention to Section 31008 of the Law which defines "area franchise" Section 31009 which defines "subfranchisor" , and Section 31010 which provides that unless otherwise stated "franchise" includes "area franchise". As a result of these provisions Silica may be subject to a registration requirement with respect to the sale of franchises to the subdistributors.

Dated: San Francisco, California
February 16, 1972

By order of
Commissioner of Corporations

By __________________
Assistant Commissioner
Office of Policy