The Illusion of Simplicity

Occasionally, licensing, distribution, or consulting agreements are formed without awareness of franchise law implications, and these may have risky consequences. In Michigan, where there is limited registration and franchise-specific oversight body, business owners may assume they are free to design informal or creative structures without regulatory scrutiny. But the law is less concerned with what the parties intend, and more concerned with what they’ve actually created.

A telling example involves a company that establishes a network of distributed LLCs—each with a different individual minority owner acting as manager—operating under the same brand name provided by the majority owning company itself. Revenue generated by each LLC is directed entirely through the majority owner’s central business, a fee is paid to itself before being passed back through to its distributed LLC and minority member. While there are oftentimes no formal license or franchise agreements, the elements of brand or mark use, centralized control, and payment are present.

The result is an example of what regulators and courts may classify as a hidden franchise—a franchise in substance, even if not in name. Or, as the saying goes: If it looks like a duck, swims like a duck, and quacks like a duck, then it probably is a duck.

This article explores how hidden franchises arise from such arrangements, with particular attention to Michigan’s legal landscape. Though the state relies on the Federal Trade Commission’s Franchise Rule, it enforces anti-fraud principles through the Michigan Franchise Investment Law. When viewed through this dual lens—federal definition and state enforcement—a seemingly ordinary business structure can trigger a cascade of obligations and liabilities.

The Legal Architecture Behind the Franchise Label

A. The Federal Rule: Form vs. Function

Under the Federal Trade Commission’s Franchise Rule, a franchise is not what the parties call it—it is what the relationship functionally resembles. The test is straightforward on its face but expansive in practice. If a business relationship involves: (1) the right to operate under a trademark or commercial name, (2) significant control or assistance by one party over the business methods of another, and (3) a required payment by the operator to the brand-holder, it is a franchise. Whether that relationship is documented in a single contract or arises from a web of formal or informal agreements is immaterial.

In the distributed LLC scenario described earlier, each sub-entity receives a trade name from the majority owner, operates under that name, and routes all business revenue through the parent entity. The financial funneling and managerial structure imposed by the majority owner, as well as operational oversight, exceeds the definition of significant control. And while no fee is labeled as such, the very act of surrendering all proceeds to a central owner before redistribution meets the elements of fee or payment typically found in franchise arrangements. The entire arrangement (oftentimes designed with the purpose of evading franchising disclosures), in substance, meets the FTC’s definition of a franchise.

B. Common Pitfalls in Hidden Franchise Structures

There are several ways that business owners inadvertently create franchises:

• Trademark Uniformity: Allowing multiple entities to use a shared brand—even without a written license—triggers the first element.

• Centralized Processes: Standardizing operations or requiring approval for decisions can constitute “significant control” or assistance. Operating agreements and services agreements may trigger this element.

• Revenue Streams: Centralizing income or requiring fees for support services can be interpreted as a required payment, even without labeling it as a franchise fee. Billing services and bifurcated ownership interests may trigger this element.

What makes the distributed LLC structure especially vulnerable is the combination of all three elements in an informal wrapper. The lack of written licensing, the implicit approval of majority owners, and the centralized financial flow may have been intended to streamline operations—but they collectively form a disguised or hidden franchise.

C. Safe Harbors and Strategic Structuring

There are, to be sure, legal exemptions that may apply. The FTC Franchise Rule includes carve-outs for fractional franchises, large investors, and certain intra-corporate arrangements. However, these are narrow, technical defenses that require careful compliance. For example, the fractional franchise exemption is only available when the franchisee has substantial prior experience in the relevant business and sales from the franchised product are expected to be a minor portion of the total volume. Most informal LLC setups as described above won’t qualify as the franchised product or service is a majority or entire total volume, as the billing is handled through the branded centralized majority owner’s business.

The safest course of action for any Michigan business attempting to build scalable operations under a unified name is not to avoid the term “franchise,” but to simply analyze the structure early and disclose accordingly. This is especially important when control, coordination, and payment flows are present. Where there’s a duck, the law will hear a quack.

Conclusion

Returning to our example of the distributed LLCs, the structure was likely intended to maintain control under a unified brand in exchange for payment. And bypassing formal franchise documentation while retaining central control, under a unified brand, and routing revenue through a parent entity for payment, these companies step squarely into the terrain of franchise regulation.

In Michigan and beyond, business owners must recognize that a franchise is defined by conduct, not contract labels. Where the essential elements—brand use, payment, and operational control—are present, so too are the obligations of disclosure, registration (where applicable), and potential liability. Ignoring these realities can result in legal exposure ranging from rescission, losing all the brand protections otherwise available for franchisors, and private suits under the Michigan Franchise Investment Law to federal enforcement by the FTC. Ultimately, avoiding the term “franchise” does not avoid the law. Proper structuring and legal review are the only sure means to avoid the costly consequences of a franchise in disguise.