Archives for: The Dady & Gardner Blog

Manufacturer or Distributor Cancellation of a Dealer Franchise: “Just Provocation” Under South Dakota Statute

Intro

If you are a franchised dealer, then odds are your contract contains terms regarding the circumstances under which your dealership may (or may not) be terminated.  But did you know that you may also have some statutory termination protection as well?  Many states have dealer protection laws which also contain the certain circumstances under which your dealership may (or may not) be terminated.  For purposes of this blog, we will be focusing on South Dakota law.

South Dakota Franchise Dealer Statute

Under South Dakota Codified Laws section 37-5-3, a manufacturer or distributor is prohibited from cancelling a dealer’s franchise “unfairly . . . and without just provocation.”  Any manufacturer or distributor who does so is subject to a Class 1 misdemeanor.

How Have the Courts Interpreted “Just Provocation?”

Although the statute does not define “just provocation,” there are some cases that shed light on what is meant by the phrase.

In Groseth International, Inc. v. Tenneco, Inc., 410 N.W.2d 159, 168 (S.D. 1987), the court held that “just provocation [under § 37-5-3] requires some sort of misconduct or shortcomings on the part of the dealer.”  There, Groseth International, Inc. (a family-owned corporation) entered into a franchise agreement with International Harvester Company (“IHC”) in which Groseth was a franchised dealer of IHC farm equipment.  Groseth abided by all the terms and conditions of the franchise agreement.  In December 1984, Groseth was notified that Case/Tenneco would be acquiring IHC and that in cities where Case and IHC dealers both existed, one dealership would be terminated.  Despite Case/Tenneco requesting information concerning Groseth’s business on December 14, 1984, which Groseth had responded to, the decision to close Groseth’s business had already been made by Case/Tenneco on December 6, 1984—eight days before!

What is even more concerning is that none of Case/Tenneco’s representatives viewed Groseth’s business operation, inspected the business premises, evaluated the financial aspects of the business, or performed any investigation concerning the nature of Groseth’s business as an IHC franchisee before making the termination decision.

On January 3, 1985, Case/Tenneco representatives informed Groseth that his current dealer agreement with IHC was terminated.  Contrary to the language of the IHC agreement, Groseth was not given six months’ notice of his termination and was denied information concerning why his franchise was terminated.

Based on the foregoing, the court determined that the record was devoid of any dealer misconduct or shortcoming, and remanded for a determination of the presence (or lack thereof) of any “just provocation,” as required by the statute.

In Diesel Machinery, Inc. v. B.R. Lee Industries, Inc., 418 F.2d 820, 826 (8th Cir. 2005), Diesel Machinery, Inc. (“DMI”) sued B.R. Lee Industries, Inc. (“LeeBoy”) alleging that LeeBoy unlawfully terminated DMI’s exclusive dealership agreement in violation of the South Dakota Dealer Protection Act.  In November 2000, LeeBoy entered into a dealership agreement with DMI that was effective through December 31, 2001 and would thereafter “automatically renew for successive one (1) year terms.”  The agreement also provided that either party could terminate the agreement upon sixty (60) days advance notice.  On July 12, 2001, LeeBoy called DMI’s president to cancel the franchise agreement and later confirmed DMI’s termination in writing.  LeeBoy’s recent acquisition of another product line was listed as the sole justification for the termination.

Prior to the termination, (1) LeeBoy never complained about DMI’s performance, (2) there were no problems regarding warranties, credit, sales performance, training, advertising, stocking requirements or quality of service, (3) LeeBoy admitted DMI had not breached or violated the dealership agreement or violated any program, practice, policy, rule, or guideline of LeeBoy, and (4) DMI performed significantly better than LeeBoy’s previous South Dakota dealer.  Because of these, the court found that there “was no evidence that the termination decision resulted from any misconduct or shortcomings on [the dealer’s] part.”  Therefore, the court found the termination was not “justly provoked.”

Takeaway

Courts interpreting the South Dakota Dealer Statute have rendered the statute’s requirement that a dealer be terminated for “just provocation” to mean that the dealer have some sort of misconduct or shortcoming to justify the termination.

If you are a terminated South Dakota dealer, or have recently been informed that your manufacturer or distributor intends to terminate your dealership, be sure that your manufacturer or distributor abides by its contractual and statutory obligations for termination.  If not, your rights may have been violated.

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2014

And the saga continues . . .

In Chicago Male Medical Clinic, LLC v. Ultimate Management, Inc., No. EDCV 13-00199 SJO, 2014 WL 7180549, at *1 (C.D. Cal. Dec. 16, 2014), plaintiff filed suit against defendants arguing that defendants violated Section 5 of the Illinois Franchise Disclosure Act (“IFDA”).

Section 5 of the IFDA provides a franchisee with the right to rescind an agreement when a franchisor fails to either register its franchise with the State of Illinois, or fails to deliver a disclosure statement.

There, plaintiff entered into a “Continuing Consultation and Compensation Agreement” (“Consulting Agreement”) with defendants. Under the terms of the Consulting Agreement, plaintiff was required to pay a $300,000 initial investment fee, royalties, and call center fees. In exchange, plaintiff was given the right to engage in the National Male Medical Clinic business. Although required under the IFDA, however, defendants did not provide plaintiff with a disclosure document prior to the execution of the Consulting Agreement.

The court stated that in order for the Consulting Agreement to be considered a franchise agreement, plaintiff must have been required to pay defendants a fee of $500 or more for the right to engage in the business. Since the parties had stipulated that plaintiff was required to pay an initial cash payment of $300,000, in addition to fees in excess of $500, this franchise fee requirement was easily met. Therefore, the court rendered the parties’ Consulting Agreement a franchise agreement. Because of this, plaintiff was entitled to rescission.

Takeaway: This case shows the consequences of a franchisor’s failure to comply with all the applicable sections of the state franchise act.

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2013

And the saga continues . . .

In H.C. Duke & Son, LLC v. Prism Marketing Corp., No. 411CV04006SLDJAG, 2013 WL 5460209, at *1 (C.D. Ill. Sept. 30, 2013), a producer and distributor of a line of soft-serve ice cream machinery and equipment (“plaintiff”) filed suit against one of its distributors (“defendant”). The parties entered into an agreement whereby defendant agreed to distribute plaintiff’s equipment. Roughly eight years later, plaintiff notified defendant that it was terminating the agreement. After defendant disputed this termination, plaintiff filed suit seeking a declaration of the parties’ rights and duties under the agreement.

Defendant countered, arguing that it was labeled as a “franchisee” under their agreement and that plaintiff violated various provisions of both the Illinois Franchise Disclosure Act (“IFDA”) and California Franchise Relations Act (“CFRA”) during the course of their relationship. Plaintiff then sought dismissal on the grounds that no franchise existed because defendant never paid a franchise fee. As such, both the IFDA and CFRA were inapplicable.

  1. Illinois Franchise Disclosure Act

First, the court turned to the definition of a franchise fee under the IFDA. The IFDA defines a “franchise fee” as “any fee or charge that a franchisee is required to pay directly or indirectly for the right to enter into a business or sell, resell, or distribute goods, services or franchises under an agreement, including, but not limited to, any such payment for goods or services . . . .” In addition, “[a]ny payment(s) in excess of $500 that is required to be paid by a franchisee to the franchisor . . . constitutes a franchise fee unless specifically excluded by Section 3(14) of the Act.”

Second, the court turned to defendant’s specific allegations that it paid a franchise fee. Defendant argued that:

  • It was required to assume a prior distributor’s debt in order to enter the agreement;
  • It was required to purchase and carry an “ample stock” of plaintiff’s service and repair parts;
  • It paid plaintiff for advertising and promotional materials; and
  • It was required to pay a franchise fee of $500 or more.

Third, the court determined that “taken together, these allegations state a plausible claim that a franchise fee was paid, and therefore meet Rule 8(a)’s notice pleading standard.”

  1. California Franchise Relations Act

First, the court stated that the analysis for the existence of a franchise fee under the CFRA is similar to the analysis under the IFDA. The CFRA defines a “franchise fee” as “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 payment for goods or services.” The provision also provides that “the payment must exceed $100 on an annual basis or it is not a ‘franchise fee.’”

Second, the court turned to defendant’s same allegations of the payment of a franchise fee under the IFDA and stated that these allegations “raise the reasonable inference that these putative franchise costs amounted to $100 or more annually.” Accordingly, defendant made sufficient pleadings under Rule 8(a).

Because defendant had sufficiently pleaded the existence of a franchise fee under both the IFDA and the CFRA, the court denied plaintiff’s motion to dismiss.

Takeaway: This case provides a great example of the interplay between different state statutes defining the “franchise fee” element. Although there were only relatively minor definitional differences, the largest difference was the portion on required payments. The IFDA required a one-time payment in excess of $500, whereas the CFRA required a payment in excess of $100 on an annual basis. Despite these differences, the court still found that defendant had sufficiently pleaded the payment of a franchise fee under both the IFDA and the CFRA. Another lesson of this case is that when you make a motion to dismiss, all allegations are deemed true. So, good pleading can win you your motion. If you are a defendant, you have to be careful about making a motion to dismiss if a franchise fee is properly pled.

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

 

 

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2012

And the saga continues . . .

 

In BP West Coast Products, LLC v. Shalabi, No. C11-1341MJP, 2012 WL 441155, at *1 (W.D. Wash. Feb. 10, 2012), plaintiff filed suit against defendant alleging that defendant violated certain franchise agreements. Defendant counterclaimed, arguing that plaintiff violated the Washington Franchise Investment Protection Act (“FIPA”).

 

In its counterclaim, defendant argued that plaintiff used a zone price scheme to set the wholesale price of gasoline at a level intended to ensure that its franchisees would not make over a certain profit. Defendant also argued that plaintiff would “routinely and intentionally” speed up or delay its gasoline deliveries to certain franchisee stations depending on the gas price fluctuations—taking advantage of the fluctuations to the disadvantage of its franchisees.

 

After defendant filed these counterclaims, plaintiff moved to dismiss on the basis that FIPA was inapplicable to the relationship between the parties.

 

Zone Pricing Scheme

 

First, plaintiff argued that FIPA was inapplicable because defendant was never required to pay more than a bona fide wholesale price for gasoline. The court found this argument unpersuasive, stating that defendant made a showing that it had, in fact, been required to pay more than a reasonable wholesale price for gasoline because of the zone pricing scheme and faulty deliveries (mentioned above). “Similar allegations of purchasing gasoline and related products at inflated prices were sufficient to state a claim under FIPA in Blanton [Blanton v. Mobil Oil Corp., 721 F.2d 1207 (9th Cir. 1983)] and it is enough here.”

 

Ampm Store

 

Second, plaintiff argued that FIPA was inapplicable because defendant never paid a franchise fee. The court, similarly, found this argument unpersuasive. Because defendant was required to operate an ampm store—that had a $70,000 franchise fee—in conjunction with the gas station, and because one could not operate a gas station without also having an ampm minimart, defendant had paid a franchise fee to enter into the gasoline agreement and to operate the gas station. The court stated that “although the agreements are distinct, they are dependent agreements.”

 

Legislative Intent

 

Finally, plaintiff argued that dismissal was appropriate because the legislature did not intend for FIPA to apply to gas stations. The court similarly found this argument unpersuasive, stating that “whatever the legislature may have had in its ‘mind,’ it did not put into law.” Because there was no provision in FIPA precluding its application in the context of a gasoline station, the court rejected plaintiff’s argument.

 

Finding that defendant had stated sufficient factual allegations to sustain the FIPA counterclaim, the court ultimately denied plaintiff’s motion to dismiss.

 

Takeaway: Under Washington law, a franchisee has a cause of action under FIPA if it is required to purchase items at inflated prices, and if it is required to pay a franchise fee under one agreement that is dependent upon another agreement.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2011

And the saga continues . . .

In Roberts v. C.R. England, Inc., 827 F. Supp. 2d 1078 (N.D. Cal. 2011), independent contractors (“plaintiffs”) filed a putative class action against affiliated transportation industry companies (“defendants”) alleging, among other things, violation of the California Franchise Investment Law (“CFIL”).

 

There, defendants provided its customers with shipping services to transport goods. While some of defendants’ truck drivers were its employees, the majority of its drivers were those who purchased the “Driving Opportunity.” Plaintiffs, after seeing defendants’ Driving Opportunity advertised, contacted defendants, enrolled in its driving training school, and paid $3,000 each for training. Once plaintiffs finished the second phase of their training, they were formally offered a Driving Opportunity.

 

Although Plaintiffs wanted to be employees of the company, rather than independent contractors through the Driving Opportunity, they were informed that there were no positions currently available at the company and/or plaintiffs would need to purchase the Driving Opportunity for a minimum of six months to even be considered for a position at the company. Because of this, plaintiffs agreed to purchase the Driving Opportunity that was offered to them. A dispute later arose. Plaintiffs filed suit and defendants moved to dismiss the CFIL claim.

 

The court first looked at the definition of a “franchise” under the CFIL, which provides:

 

(a) “Franchise” means a contract or agreement, either expressed or implied, whether oral or written, between two or more persons by which:

(1) 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; and

(2) The operation of the franchisee’s business pursuant to such plan or system is substantially associated with the franchisor’s trademark, service mark, trade name, logotype, advertising or other commercial symbol designating the franchisor or its affiliate; and

(3) The franchisee is required to pay, directly or indirectly, a franchise fee.

In support of plaintiffs’ argument that they paid a franchise fee, plaintiffs pointed to the following payments for: truck rental, computer rental, operational equipment, insurance, signs, maintenance, gas, promotional materials, and other items that were required “for the right to enter the Driving Opportunities.”

The court, however, found this argument unpersuasive. Explaining that these fees merely appeared to be ordinary business expenses, which could not be franchise fees, the court ultimately dismissed plaintiffs’ CFIL claim.

 

Takeaway: Although it is important to know which payments have been found to satisfy the franchise fee requirement, it is equally as important to know which payments have not been found to constitute the payment of a franchise fee. Here, the court notes that “ordinary business expenses” cannot be franchise fees, and provides practitioners with a laundry list of payments to turn to which have been characterized as such. When evaluating whether or not a certain franchisee’s payments are franchise fees under the CFIL, it can be helpful to look at this case to ensure that such payments have not been characterized as ordinary business expenses—and if they have, whether certain additional arguments can be tacked on to turn the purported ordinary business expense into a franchise fee.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2010

And the saga continues . . .

 

In Bye v. Nationwide Mutual Insurance Co., 733 F. Supp. 2d 805 (E.D. Mich. 2010), an insurance agent (“plaintiff”) brought suit against the insurer (“defendant”) alleging it violated the Michigan Franchise Investment law (MFIL). There, plaintiff had been in defendant’s employ as an insurance agent for nine years. During such time, plaintiff had worked in various capacities, ranging from a Financed Community Agent to an Independent Contractor Agent.

 

Plaintiff expanded his business by acquiring existing agencies or opening new satellite offices, primarily in Michigan. Plaintiff took out considerable loans in order to fund such acquisitions. By 2006, however, plaintiff was continually operating at a loss. In an effort to “help with [their] future,” plaintiff’s wife opened an insurance business because it “would [have been] inappropriate based on [her] husband’s employment with [defendant] to start another company on his own.” After defendant learned of the business, defendant believed that plaintiff was referring its existing and potential customers to his wife’s insurance business. Defendant subsequently terminated plaintiff’s agency for breach of the exclusive representation agreement, and plaintiff filed suit.

 

On motion for summary judgment, plaintiff alleged defendant violated the MFIL by “employing devices, schemes and artifices to defraud in its sale or offer of a franchise.” Controlling on this issue was whether plaintiff paid a franchise fee. The MFIL defines a “franchise fee” as “a 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 payments for goods and services.” Mich. Comp. Laws § 445.1503(1).

 

In support of its argument that it paid a franchise fee, plaintiff alleged “[d]efendant churns agents. When the agent fails . . . [defendant] takes the enhanced book of business, sells it for more than it credits the defaulted former agent and then makes more money off the same book with the new agent. The fee is the profit from the book obtained by [defendant].”

 

The court found this argument unpersuasive. Because the “profit” would occur after the agent had been churned, the alleged profit could not be for the right to enter into a business. This, by definition, needed to be paid at the outset of the agreement. The court then reiterated that it is the circumstances existing at the time of the offer or sale which determines whether an agreement is a franchise under the MFIL. Accordingly, because plaintiff did not provide sufficient evidence that it paid a franchise fee, the court rendered the MFIL inapplicable and awarded defendant summary judgment.

 

Takeaway: A franchise fee needs to exist at the outset in order for it to be for the “right to enter into a business” under the MFIL.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2004

And the saga continues . . .

 

In Home Pest & Termite Control, Inc. v. Dow Agrosciences, LLC, No. 8:02CV406, 2004 WL 240556, at *1 (D. Neb. Feb. 6, 2004), a trained pest control operator (“plaintiff”) filed suit against the manufacturer of a termite elimination system (“defendant”) after the manufacturer terminated the agreement between the parties. After plaintiff alleged violations of the Nebraska Franchise Practices Act, defendant moved for summary judgment on the basis that the agreement between the parties was not a franchise agreement. In support of this, defendant pointed to the following section of the agreement “[t]his Agreement is not, nor is it to be construed as, a franchise agreement.”

 

Although the agreement contemplated “a community of interest in the marketing” of the pest control system, thereby seemingly satisfying part of the definition of a franchise under the statute, the court ultimately rendered the relationship not a franchise because the Agreement “nowhere required [plaintiff] to pay a franchise fee in exchange for a license to use the [defendant’s] name or mark. None of the fees mentioned in the agreement are for a surety bond or deposit or for security; rather, they are connected to the purchase of the termite system components.”

 

Takeaway: Payments primarily for the purchase of components, rather than for the license to use a name or mark, have not been found to satisfy the franchise fee element of the Nebraska Franchise Practices Act.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2009

And the saga continues . . .

 

In Coyne’s & Co. v. Enesco, LLC, 553 F.3d 1128 (8th Cir. 2009), a distributor (“plaintiff”) entered into an agreement with a company formed under the laws of England (“company”). The agreement provided for plaintiff’s exclusive right to sell, distribute, market and advertise all of the company’s products in the United States and Mexico from 2005 through December 2007. In exchange, plaintiff agreed to pay the company a 35–50% mark-up on the products.

 

In August 2007, the company was placed into receivership and its receivers entered into an asset sale agreement with an Illinois corporation (“defendant”). A few days later, the company’s receivers sent plaintiff a termination letter pursuant to Section 5.4 of the agreement, allowing for any party to terminate if the other becomes insolvent. Plaintiff responded that the termination was without legal effect because Section 5.4 did not allow an insolvent party to use its own insolvency to justify termination.

 

One month later, defendant announced that it would be distributing the products—which plaintiff had an exclusive right to distribute in the United States and Mexico—in the United States. Plaintiff subsequently filed suit and sought a TRO and preliminary injunction to prevent defendant from moving forward with its plan to distribute the products in the United States.

 

The district court denied plaintiff’s motion and rejected plaintiff’s claim for unlawful termination in violation of the Minnesota Franchise Act. The court reasoned that plaintiff was unable to demonstrate a likelihood of success on its claims if the agreement was not still in effect. Plaintiff appealed on the basis that it paid a franchise fee. As such, the failure to comply with the termination requirements under the Minnesota Franchise Act rendered both the termination invalid and the agreement still in effect. In support, plaintiff argued that the minimum purchase requirement and 35–50% mark-up on the products constituted an indirect franchise fee.

 

Minimum Purchase

 

A minimum purchase requirement can satisfy the franchise fee element of the Minnesota Franchise Act “if the distributors were required to purchase amounts or items that they would not purchase otherwise.” To determine this, the court asks “whether the [minimum purchase] requirements were unreasonable.” Because plaintiff did not put forth the argument at the district court or before the court on appeal that the minimum purchase requirement was unreasonable, the district court’s finding that the minimum purchase requirement was not an indirect franchise fee was not clearly erroneous.

 

Price Mark-up

 

Whether a price mark-up on goods above a bona fide wholesale price constitutes an indirect franchise fee is a fact-specific inquiry. The district court found that the mark-up was not an indirect franchise fee, as the mark-up represented the profits on the products. On appeal, plaintiff argued that this was incorrect “because it is illogical to assume that all of the rights granted to [plaintiff] under the Agreement . . . are merely in consideration for [plaintiff’s] payment of a bona fide wholesale price for [the] products.” The court on appeal, without much (or any) elaboration, responded that plaintiff’s argument was insufficient to demonstrate that the district court’s finding was clearly erroneous. As a result, the court affirmed the district court’s holding.

 

Takeaway: Under the Minnesota Franchise Act, a minimum purchase requirement can be a franchise fee and a price mark-up on goods above a bona fide wholesale price can be an indirect franchise fee. However, be aware that different trial court judges may demand different standards of proof to establish a “franchise fee” and a decision of a trial court judge may not receive a great deal of scrutiny on appeal.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

 

 

 

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2008

And the saga continues . . .

 

In Boeve v. Nationwide Mut. Ins. Co., No. 08-CV-12213, 2008 WL 3915011, at *1 (E.D. Mich. Aug. 20, 2008), plaintiff entered into an Independent Contractor Agent’s Agreement (“ICAA”) with defendant in 2003 to sell defendant’s financial products and insurance. In order to secure her bonus, plaintiff alleged she was “encouraged” to take out loans to open new offices and hire additional staff. After plaintiff’s ICAA was terminated in 2007, however, plaintiff owed defendant approximately $65,000 on the defaulted loans. Plaintiff filed suit shortly thereafter alleging violations of the Michigan Franchise Investment Law (“MFIL”), and defendant moved for dismissal or summary judgment.

 

The MFIL defines a “franchise fee” as “a fee or charge that a franchisee or subfranchisor is required to pay or agrees to pay for the right to enter a business under a franchise agreement, including but not limited to payments for goods or services.” In support of her argument that she paid a franchise fee, plaintiff contended that her payment of interest on the loans she took out under the ICAA, in addition to her payments for training, represented an indirect franchise fee.

 

First, the court stated that the repayment of a loan cannot be a franchise fee unless the loan was a “condition of entering into the business.” Similarly, interest payments “might arguably” be an indirect franchise fee “if the interest rate exceeded a fair market loan rate.”

 

Second, the court stated that the payment of ordinary business expenses cannot be an indirect franchise fee. Accordingly, plaintiff’s training costs could only be a franchise fee if they were “substantial and unrecoverable, locking the franchise[e] into the franchisor.”

 

Third, because the complaint did not specify any payment which could constitute a franchise fee, the court rendered plaintiff’s allegations insufficient to raise a right to relief under the MFIL “above a speculative level.”  As such, plaintiff failed to state a claim on which relief may be granted, and the court dismissed plaintiff’s MFIL claim. The court did, however, dismiss this claim without prejudice as there was still the possibility of uncovering facts during discovery to support a MFIL claim.

 

Takeaway: Although both of plaintiff’s franchise fee arguments fell short, the court gave helpful hints for future plaintiffs as to the type of arguments that could satisfy the franchise fee requirement under the MFIL.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.

Historical Review of Franchise Fees: Litigating the Franchise Fee Element in 2007

And the saga continues . . .

 

In Sound of Music Co. v. Minnesota Mining and Manufacturing Co., 477 F.3d 910 (7th Cir. 2007), a music equipment dealer (“plaintiff”) brought suit against its supplier (“defendant”) alleging violation of the Illinois Franchise Disclosure Act and violation of the Minnesota Franchise Act.

 

In 1995, the parties entered into an agreement (“agreement” or “1995 agreement”) whereby plaintiff was to be defendant’s non-exclusive distributor of background music and equipment. This agreement was set to expire on December 31, 1999 “unless earlier terminated by either party as provided herein.” In the years following, the music industry began to experience a rapid change, which made defendant fear that it would no longer be financially advantageous for it to continue in the background music business.

 

Accordingly, defendant had one of its employees evaluate the company’s background music business. The evaluation report recommended that defendant expeditiously shut down its background music business. Acting on this, defendant sent plaintiff a letter in November 1997 that it would no longer be in the background music business as of December 31, 1998—just one year prior to the agreement’s initial expiration date. Plaintiff consulted its attorney shortly after receiving this letter and subsequently brought suit alleging, among other claims, violation of the Illinois Franchise Disclosure Act and violation of the Minnesota Franchise Act. The district court granted summary judgment in favor of defendant and plaintiff appealed.

 

Illinois Franchise Disclosure Act Claim

 

Actions brought under the Illinois Franchise Disclosure Act must be brought within one year “after the franchisee becomes aware of facts or circumstances reasonably indicating that he may have a claim for relief in respect to conduct governed” thereunder. When plaintiff received defendant’s termination notice in November 1997, the court determined that plaintiff had a reasonable indication that it possessed a claim under the Illinois Franchise Disclosure Act. This indication was reinforced when plaintiff consulted its attorney a mere three days after receiving the termination notice. Despite this, plaintiff did not file its complaint until February 2, 1999. Because the one-year statute of limitations had already expired prior to plaintiff’s initiation of the cause of action, the court of appeals rejected plaintiff’s Illinois Franchise Disclosure Act violation claim.

 

Minnesota Franchise Act Claim

 

Turning to plaintiff’s termination without good cause claim under the Minnesota Franchise Act, the court first looked to whether the agreement between the parties was in fact a “franchise,” and thereby rendering it under the purview of the Minnesota Franchise Act. In support of its argument that it paid a franchise fee, plaintiff argued that the $2,400 “dealer reception fee” that it paid under an earlier agreement with defendant was enough to render it a franchisee at the time defendant terminated the 1995 agreement.

 

The court did not find this argument persuasive. First, the earlier agreement, which required plaintiff to pay the dealer reception fee, was terminated two years prior to the 1995 agreement. Second, the negotiations for the 1995 agreement made it clear that the 1995 agreement was to be a stand-alone contract, and not to be considered a renewal or extension of the prior agreement. Third, the court doubted that the dealer reception fee could be considered a franchise fee under the earlier agreement, as “[n]ot all payments made by a purported franchisee over the course of a business relationship constitute franchise fees. Instead, only fees paid for the ‘right’ to enter into a business or the ‘right’ to continue a business qualify.”

 

To expand on this third point, the court found nothing to suggest that plaintiff paid a franchise fee at the time it signed its first agreement with defendant. Although there was a $2,400 fee listed, “the text of the agreement suggest[ed] that this was a fee charged to dealers for the space [defendant] leased on the satellite that transmitted music signals, not a fee for the ‘right to enter’ or continue in the background music business with [defendant].”

 

Takeaway: Although an agreement may require the payment of “fees,” those fees must be for the right to enter into or continue the business in order to satisfy the franchise fee element of the Minnesota Franchise Act.

 

*NOTICE: This blog is intended solely for informational purposes and should not be construed as providing legal advice. Please feel free to contact us with any questions you may have regarding this blog post.