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The UPS Store Franchise System Is Massive Fraud, Say Former Franchisees

The UPS Store in Manhattan, New Franchise Owner

The UPS Store in New York City. photo/ps

The recent collapse of The UPS Store network in Manhattan caused much discussion. Now a stunning federal lawsuit alleges that fraud is at the very basis of the franchise system viability: an existential threat to the UPS brand itself.

Robert Hagan and his brother Thomas Hagan were the owners of eleven The UPS Store (TUPSS) franchises in New York City. The franchises were terminated by UPS and litigation in the county court ensued.

The case quickly escalated to a concurrent federal lawsuit against the Hagans. The Hagans fired back at the franchisor with a 210 page response and dozens of exhibits.

If the public believes the Hagan lawsuit allegations, it could result in the end of the UPS Store franchise system and loss of UPS shipping customers to rivals such as FedEx and the US Postal Service.

Many of the Hagan allegations are common franchise industry practice, but there are some stunning twists.

The Hagan brothers allege that the UPS franchisor:

provided franchisees with a sales system that caused widespread fraudulent and deceptive trade practices in the TUPSS Manhattan Area Network (Answer ¶ 201)

And that "plausible deniability" of wrong doing by the franchisor is at the legal heart of the UPS franchise model:

a key component within the TUPSS corporate franchise model is to maintain plausible deniability with respect to all retail rate overcharges. By doing this, both TUPSS and UPS retain the ultimate power to terminate franchisees at will. (Counterclaim ¶ 29)

Not only does UPS encourage franchisees to defraud the public, but UPS itself then scans the packages and keeps any overcharges but bills franchisees for any undercharges (Answer ¶ 204).

The Hagan brothers and their attorney flew out to California at their own expense to meet with UPS Store executives, and they say that senior UPS executives laughed when the Hagans proposed that UPS cease defrauding its public customers:

TUPSS corporate executives listened to the Hagans’ presentation, reviewed the documents the Hagans compiled for them and told them that they were impressed and satisfied with the new compliance initiatives the Hagans had developed and begun implementing. However, SVP Don Higginson chuckled and advised his colleagues that if the Hagans are required to follow a fully transparent sales model, in fairness to them, other franchisees would also have to be required to follow suit. At the time, the Hagans did not quite understand the significance of that comment, however in retrospect, Higginson was likely alluding to the financial impact that implementing a transparent sales model would have across the entire franchise network. (Counterclaim ¶ 35)

The Hagans say that when they implemented procedures to ensure that customers were treated honestly, sales plummeted:

As the Hagans clamped down further on compliance issues, gross sales plummeted and intense pressure began mounting for the Hagans to stop asking questions (Counterclaim ¶ 21).

The Hagans say that UPS:

engaged in a campaign to destroy the Defendants/Counterclaim-Plaintiffs and put them out of business in order to permanently conceal their wrongful conduct so that they could continue reaping the benefits attributable to questionable business practices. (Answer ¶ 187)

They say that UPS ignored the arbitration provision which it had put in the Franchise Agreement:

they failed to pursue mediation and/or alternative dispute resolution as proscribed in the Franchise Agreements. In contrast, it should be noted that Defendants/Counterclaim-Plaintiffs’ identified a dispute, raised that dispute to the Plaintiffs/Counterclaim-Defendants in writing and on November 12, 2012, Defendants/Counterclaim-Plaintiffs travelled to TUPSS Headquarters at their own cost in an attempt to fully resolve same. Following that meeting, Defendants/Counterclaim-Plaintiffs’ made multiple written requests to participate in additional meetings with corporate executives from TUPSS, however each such request was either ignored or denied by the Defendants and their counsel. (Answer ¶ 200)

In a stunning twist, the franchisor seized the stores and then sought lower rents from landlords, since the Hagan brothers would be responsible for the shortfall and therefore the landlords would not lose any money.

The Hagans would have to effectively pay part of the rent for the franchisees that had taken over the seized Hagan stores:

began secretly inducing the Hagans’ landlords to expedite the eviction process so that the former store centers, customer lists, equipment, goodwill and business could all be quickly converted without compensating the Hagans. Indeed, upon information and belief, within days after the Counterclaim-Defendants terminated the Hagans’ franchise agreements, without the Hagan’s knowledge, they began contacting their landlords for the purpose of interfering with their business relationships and hand-picking substitute franchisees to take each of the former Hagan locations, in some cases at reduced rents, in order to trigger “Good Guy” guarantee clauses which would require the Hagans to become personally liable for any shortfall in rent. (Counterclaim ¶ 47)

Hagan brothers attorney Steve Savva seems to be a match for the franchisor, coming up with the ingenious idea of suing the franchisees who purchased the seized Hagan assets:

The Hagans now seek to recover damages from the Counterclaim-Defendants and those working in concert with them for their efforts to systematically convert and transfer the Hagans’ business assets without just compensation. Shortly after terminating the Hagans’ franchise agreements, the Counterclaim-Defendants started distributing the Hagans’ mailbox customers and business to the Third-Party Defendants upon terms that were not disclosed to the Hagans. (Counterclaim ¶ 46).

Savva then fires a warning shot at the franchisees who continue to participate in the billing fraud, noting that the franchisees:

even withheld information about their activities from Bancorp, despite their affirmative obligation to immediately notify them in the event of a material change that could adversely impact the SBA loan. (Counterclaim ¶ 46).

In shades of Dunkin' Donuts practices of interrogating franchise employees, the Hagans allege that UPS Store enlisted one of the former Hagan employees (Counterclaim ¶ 521).

The Hagans allege that these matters were discussed at franchisee meetings:

at the Contreras Area Franchise Meeting, Contreras told Plaintiff Robert Hagan in the presence of his operations manager Shariar Choudhury that the reason shipping rates are not locked into the CMS/POS systems is because “you kill the flexibility of what the system is intended to do.” (Counterclaim ¶ 545)

And franchisor executives were blatant about telling franchisees that The UPS Store franchise model that was formed from the original Mail Boxes Etc. was actually worse than the Mail Boxes Etc (MBE) model:

Contreras told Plaintiff Robert Hagan in the presence of his operations manager Shariar Choudhury that the MBE model was more profitable and “there are a lot of holes in the MCO [multi-center owner] model they threw out years ago.” (Counterclaim ¶ 547).

UPS executives exhibit a marked lack of concern about integrity with both franchisees and the public customers:

On October 28, 2013, Singer informed Plaintiff Robert Hagan that he does not believe that “ethics questions” regarding consumers and “integrity” are specifically covered by the Franchise Agreement. (Counterclaim ¶ 558)

On October 28, 2013, Singer informed Plaintiff Robert Hagan that he has not been asked to address the issue of consumer fraud by the Franchisor and he will not. (Counterclaim ¶ 559).

Although claims of fraud by UPS in application of dimensional pricing have been covered extensively here on Blue MauMau by Janet Sparks in connection with the State of Michigan investigation back in 2007, the Hagan lawsuit suggests that the practice has not only continued but that franchisees have now begun to defraud their own customers in order to stave off bankruptcy.

In case you were wondering what started all of this litigation by UPS, it was a claim by the UPS franchisor for $44,157 in royaties and payment of a $130,794 promissory note.

The UPS Store has long been known to be an unprofitable business model, at least since the disclosure of the Boston Consulting report (pdf), which incidentally UPS denied even existed until it showed up in litigation discovery.

The lack of profitability has never been an impediment to franchisor sales of UPS and similar franchises.

But this case is now very public and the franchisor practices alleged in the hundreds of pages of public documents go to the heart of the reputation of the UPS brand.

Author's Note: I have no association with any of the parties mentioned in this article. I do not represent any UPS Store franchisees, nor do I have any position in the stock (NYSE: UPS). This article is based solely on public source documents which are on the website of the NYS Unified Court System and the federal PACER system, and with previously reported news which can be accessed here on BlueMauMau by using the "Search" function to access the BMM archives.


Related reading:

AttachmentSize
Hagan v Atlantic Mailboxes COMPLAINT 03Jan2014.pdf1.57 MB
Hagan v Atlantic MOTN TO DISMISS 19Mar2014.pdf1.38 MB
UPS Store v Hagan COMPLAINT 25Feb2014.pdf1.55 MB
Hagan v UPS Store ANSWR COUNTERCLAIM 16April2014.pdf1.17 MB
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About Paul Steinberg

Paul Steinberg's picture

Public Profile

Attorney. Former franchisee. Co-author of Beguiling Heresy: Regulating the Franchise Relationship (Penn State Law Review, 2004). Paul primarily represents small business clients and franchisee litigation in the state of New York. Contact the Law Office of Paul Steinberg, NY, NY at 212-529-5400.

Area of Interest
Franchise Operations