Franchise Trends - Current Legal Cases

FRANCHISE TRENDS

Jeff Goldstein GOLDSTEIN LAW GROUP Nat'l Franchise Law

Franchise Discrimination - Video 1 of 2

Franchise Discrimination - Video 2 of 2

Franchisor and Franchisee Free To Conspire With Each Other To Block Another Competing Franchisee From Expanding His Territory

Danforth & Assoc., Inc. v. Coldwell Banker Real Estate, LLC, DC Wash.

A real estate franchisor did not illegally restrain a franchisee's expansion in violation of Section 1 of the Sherman Antitrust Act by conspiring with a competing franchisee. Thus, the franchisor's motion to dismiss the Antitrust law claim was granted. The franchisee brought suit after the franchisor denied its request to open a fourth franchise in a county to which the franchisor had granted the competing franchisee an exclusive right to expand.

According to the court, the complaining franchisee alleged no facts supporting the existence of a conspiracy between the franchisor and the competing franchisee. Further, the court relied upon a ruling of the United States Supreme Court that held that a corporation and its wholly-owned subsidiary are legally incapable of conspiring for purposes of the Antitrust laws. The court applied this reasoning to the agreement between the franchisor and franchisee. The competing franchisee and franchisor were in a franchise relationship and therefore could not conspire within the meaning of the Antitrust laws as claimed by the franchisee.

The court also denied another one of the franchisee's claims, that the franchisor had breached the covenant of good faith and fair dealing by abusing its discretion in refusing to allow the franchisee to expand. It held that such a theory was impossible as a matter of law because the parties' franchise agreements clearly stated that the franchisor was under no obligation to grant the franchisee additional franchises. Thus, the franchisor's motion to dismiss the franchisee's Antitrust and breach of contract claims was granted.

Franchisee Escapes Preliminary Injunction Order for Post-Term Covenant Violation

E.B.N. ENTERPRISES, INC.,v.C.L. CREATIVE IMAGES, INC. N.D. Illinois

Franchisees, C.L. Creative Images and its owner, defendant Corda Lester, operated a hair salon as a "Fantastic Sams" franchise, which was owned and operated by franchisor E.B.N. Enterprises. The franchisees repudiated the franchise agreement before its term expired and the individual franchisee, Lester, continued to operate a hair salon under a new name at the same location. The franchisor filed suit claiming that the post-term operation of an independent hair salon would violate the non-competition provision in the franchise agreement.

The franchisor sought two types of preliminary injunctive relief: the first type was to stop the operation of the independent salon at its current location, and the second type was to stop the franchisees from using Fantastic Sams trade secrets. Surprisingly, the court rejected the franchisor's motion to shut down the operation of the independent salon, but granted the franchisor's request to require the franchisees to return the operations manual as the court ruled that it was a trade secret.

Third-Party Supplier To Franchisees Has Standing to Sue Franchisor For Antitrust Tying

Shamrock Marketing v. Bridgestone Bandag, DC Ky.

A supplier of curing envelopes and other accessories to tire retreading franchise shops sufficiently pled an Antitrust tying arrangement between two distinct products or services in its claims against a franchisor of retreading shops for per se illegal tying under the Antitrust laws.

The supplier essentially alleged that a franchisee incentive program created by the franchisor, the Q-Fund, created an illegal tying arrangement that eliminated competition throughout the market for curing envelopes and accessories. The Q-Fund, which the franchisor required all of its franchisees to participate in, provided incentives for the franchisees to purchase curing envelopes and accessories from the franchisor.

Each franchisee was given a Q-fund account that was automatically credited with $0.05 for every pound of precured tread rubber purchased from the franchisor. The credited funds only could be spent purchasing designated curing envelopes and accessories from the franchisor. The supplier alleged that the Q-Fund totally or nearly totally offset the price for the curing envelopes sold by the franchisor, causing it a 90% decrease in its sales of curing envelopes to franchisees of the franchisor.

Court of Appeals Sustained $12 Million Punitive Damages Award to Hotel Franchisee

Holiday Inn Franchising, Inc. v. Hotel Associates, Inc., Ark. Ct. App.

After a jury awarded a hotel franchisee $12 million in punitive damages in its dispute with its hotel franchisor, the trial court judge reduced the punitive damages awarded to $1 million. The franchisee appealed, and the trial court's ruling was reversed. The jury had initially found that the franchisor committed fraud by failing to disclose a report prepared by one of its executives that the executive would oppose the franchisor's re-licensing of a franchisee's hotel and instead would advocate the licensure of a competing hotel in the franchisee's area.

On appeal, the hotel franchisor argued that because it had no fiduciary or other confidential or special relationship with the franchisee, it had no duty to disclose the existence of its executive's report. However, the court noted that the franchisee had a long-term relationship with the franchisor, characterized by honesty, trust, and the free-flow of pertinent information. In light of the parties' history and the assurances it had received, the franchisee was justified in assuming that no obstacles had arisen that justified his relicensure, according to the court.

The franchisor's failure to disclose pertinent and valuable information to the franchisee, which had worked with and trusted the franchisor for over 50 years, showed a degree of reprehensibility that supported a significant punitive damages award, the court held.

GOLDSTEIN LAW GROUP, PC
JEFFREY M. GOLDSTEIN, ESQ.
www.goldlawgroup.com
202-293-3947

Franchisee's Father Prohibited From Operating Independent Business in Competition With Franchisor After Franchisee Left the Jackson Hewitt Franchise System

Jackson Hewitt, Inc. v. Richard Barnes and Barnes Enterprises
D. New Jersey

Jackson Hewitt, a franchisor of tax preparation businesses, was "likely to succeed on the merits" of its claim that a former franchisee had violated its post-termination obligations in the parties' franchise agreements: the franchisee had failed to return its client files to Jackson Hewitt, and the franchisee also allegedly intentionally failed to remove all of the franchisor's signage from its offices. Jackson Hewitt sought a preliminary injunction that would force the franchisee to remove all of the franchisor's signage, transfer all of the franchise telephone numbers to the franchisor, adhere to the non-compete provision in the agreements, and return all client files.

In addition, Jackson Hewitt alleged that the franchisee intended to circumvent his post-termination obligations by using his father to operate a competing business out of the locations of 15 of its former Jackson Hewitt locations. The Court crafted the scope of its preliminary injunction order to cover the conduct of the franchisee's father as well as the franchisee itself.

In granting the franchisor's motion for preliminary injunction against the franchisee, the court also enjoined other non-parties from violating the non-compete provisions of the franchisee's franchise agreements by covering the franchisee's "affiliates, shareholders, partners, members or other parties who had a direct or indirect legal or beneficial interest in" the dispute from the prohibited activities. The court entered this relatively broad-sweeping injunction although it did note that there was a question of fact that would thereafter be decided at trial as to whether the father's involvement in the competing business was intended to circumvent the post-termination obligations of the franchisee.

Franchisees' National Advertising Council Has Power to Limit Franchisor's Advertising Decisions

KFC National Council v. KFC Corp., Del. Ch. Ct.

A State Court in Delaware ruled that the governing committee of the franchisee-controlled national advertising cooperative for KFC (NCAC) had the authority to adopt an advertising program and to include amendments to the franchisor's proposals. The franchisees specifically argued that the NCAC committee had the authority to modify KFC's advertising proposals, consider alternatives proposed by franchisees, and to implement by majority vote an advertising plan that KFC did not approve.

KFC's position, which was rejected by the court, was that it had effective veto power over the franchisee council's decisions. KFC claimed that the NCAC certificate of incorporation created a power sharing arrangement between itself and the NCAC in which KFC had the sole-authority to develop advertising plans and to present them to the committee for approval or rejection. However, under KFC's argument, the NCAC did not have the authority to amend those advertising plans over KFC's objection.

In ruling for the franchisees, the Court stated that the NCAC, like any corporate board, retained ultimate authority to manage the corporation. In this case it would mean that the NCAC controlled its major function of determining the advertising plans and strategy for investing the advertising funds raised through franchisees. In essence, the court held that although KFC had bargained for and won the sole authority to hire, fire, and direct a national advertising firm, its singular unilateral authority went no further than that.

Michigan Possessed Jurisdiction Over Oklahoma Franchise Transferees Including Franchisee's Father To Enforce Post-Term Covenant Not-To-Compete

Children's Orchard, Inc. v. Jaecke, DC Mich.

The franchisor brought suit after the franchisee closed her Oklahoma franchise. The franchisor alleged that the franchisee conspired with her father to avoid her post-termination contractual obligations and outstanding debts to the franchisor by fraudulently transferring the assets of her franchise to her father in name only. The father and the corporation argued that the Michigan long arm statute did not apply to their activities, or lack thereof, within Michigan and that they did not even know that the franchisor was headquartered in Michigan until receiving the franchisor's court complaint.

The franchisor clearly alleged that the father and the corporation were directly related to the franchisor's injury and that the father specifically conspired with his daughter to injure the franchisor, in the court's view. Under the circumstances, a finding of long-arm personal jurisdiction over the father was appropriate, the court held. Such a finding did not offend traditional notions of fair play and substantial justice because it was reasonable that the father of the franchisee would or should have been aware of his daughter's contractual obligations to the franchisor.

In addition, the court ruled that there were sufficient allegations that the franchisee was intimately involved in the development and continued operation of the new store, and that both her father and the Oklahoma corporation served as her alter ego. Further, the franchisee defendants failed to provide any documentation of the transaction between the franchisee and her father regarding the sale of the franchise shop, or any other documentation demonstrating that corporate formalities had been followed.

Illinois Franchise Disclosure Act's Statute of Limitations Does Not Bar Franchisee's Claim That Franchisor Had Made False Earnings Claims

RWJ Management Company, Inc. and Joliet Petroleum, LLC v. BP Products North America, Inc., and NRC Realty & Capital Advisors, LLC. N.D. Illinois

The fraud and disclosure violations of the Illinois Franchise Disclosure Act (IFDA) brought by two groups of gasoline station franchisees against a franchisor were subject to the IFDA's three-year statute of limitations. However, in contrast, the IFDA's 90-day statute of limitations applied "when a written notice disclosing the violation" was received by the franchisee.

The franchisor argued that the franchisees received such a notice when it sent a disclaimer explaining that the failure to receive certain disclosures on time could constitute a franchise law violation. However, the disclaimer did not signal the type of "flat-out violation" required to trigger the IFDA's 90-day limitation period. Instead, the IFDA's one-year limitations period applied when "the franchisee becomes aware of facts or circumstances reasonably indicating that he may have a claim for relief in respect to conduct governed by this Act."

Disclaimers provided by a franchisor to several gas station franchisees that were limited to projections of future performance were ineffective to defeat the claim brought by the franchisees under the Illinois Franchise Disclosure Act for providing false earnings claims concerning past performance. The court held that allegations related to actionable misrepresentations that would not have been revealed by reading the franchise agreement survived the franchisor's general disclaimer.

Liquidated Damages Formula in Hotel Franchise Agreement Upheld As Reasonable and Enforceable

Radisson Hotels Int'l, Inc. v. Kaanam, LLC, DC Minn.

Under New York law, the liquidated damages clause in a hotel franchise agreement was not a penalty and was enforceable. Thus, the individual guarantor of the franchisee's obligations under the franchise agreement was liable to the franchisor for the amount of $122,107 in liquidated damages for the early termination of the franchise agreement caused by the franchisee's breach.

The court stated that under New York law, a contractual liquidated damages provision was enforceable if: (1) the amount of actual loss was difficult or impossible to estimate precisely; and (2) the liquidated damages were reasonably proportionate to the probable actual loss. In ruling for the franchisor, the court stated that because the franchisor could not predict the future, its future losses could not be estimated with certainty.

Moreover, the amount of liquidated damages was reasonably proportionate to the franchisor's probable actual loss. Notably, the court's conclusion with regard to the latter was based on trial testimony indicating that it routinely took two to four years for the franchisor to recruit and train a qualified replacement franchisee. Further, the franchisor had provided testimony that it typically took additional time for the replacement franchise to achieve the level of profitability achieved by the former franchisee.

Thanks for your interest in our Newsletter, and we look forward to answering any questions you might have either on the cases discussed in this issue of Franchise Trends, or on general trends in franchise law.

Jeff Goldstein
Goldstein Law Group

www.goldlawgroup.com

GOLDSTEIN, P.O. Box 1707, Leesburg, VA 20177 MAIN: 202-293-3947 FAX: 202-315-2514
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