Archives for: Franchisees

Franchising From the Franchisee Lawyer Perspective

Imagine a client walks into your office wanting to get out of a contractual arrangement that they entered into three years ago. They explain that they are losing money, and that the contract makes no sense for them any longer.

In probing them, and reading the contract, you learn your client’s business is essentially controlled by the other party. The contract dictates the most basic aspects of the business—the hours of operation and the training requirements of the employees. It gives the other party approval rights over who the manager will be; the layout and appearance of the location; and controls what products and services your client can sell. Digging further you find that your client had to buy all of the original FF&E from the other party, and once open, is required to continue buying all inventory from the other party and its wholly owned affiliates, all at prices that are above what your client could get on the street for the exact same products. And, beyond controlling the price of goods (by being the only seller of those goods your client is allowed to purchase from), the contract also allows the other party to control the retail price of the goods and services your client may offer as well. In sum, your client has little to no control of their own profit margin.

The financial terms surprise you. Your client paid $75,000 to be in this one-sided relationship, and continues to pay 8 percent of their gross revenue to stay in the relationship, irrespective of whether they are making any money.

The boilerplate terms are no better. Your client is required to indemnify the other party for anything that happens at the location, even if it is the fault of the other party (and the indemnification is not reciprocal). The contract expressly disclaims any obligation the other party has to act in good faith. The dispute resolution provisions give the other party the right to bring injunctions, but your client does not have that right. Your client’s right to bring a claim is subject to a one-year statute of limitations, but there are no such limits on the other side. Venue and choice of law both favor the other party. And the attorney fee provision is also unilateral; the other party can get theirs if they win, but your client has no such stated right.

Finally, getting to the reason your client came in, you turn to the termination provisions. The agreement, which is for a 20-year term, while allowing the other side to terminate, inexplicably gives your client no right to terminate for any reason. And, if your client “breaches” by terminating because…read more

 

*NOTICE: This article 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 article.

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.3d 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 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 2006

And the saga continues . . .

In Smith v. Molly Maid, Inc., 415 F. Supp. 2d 905 (N.D. Ill. 2006), a prospective Molly Maid franchisee (“plaintiff”) brought suit against the Molly Maid, Inc. franchisor (“defendant”) alleging, among other things, violation of the Illinois Franchise Disclosure Act and breach of the Franchise Agreement. In 2001, plaintiff telephoned defendant to inquire about the franchise opportunities it offered. During the course of conversations between the parties, plaintiff made several misrepresentations in order to better her chances of becoming a franchisee. Defendant later sent plaintiff a Uniform Offering Circular, indicating plaintiff would be required to pay: “(a) a fixed Franchise Fee of $6,900; (b) a fixed Initial Package Fee of $8,000; and (c) a Territory Fee of $1.00 for every qualified household, typically from $15,000 to $60,000.”

 

After intermittent conversations over the next couple of months, defendant approved plaintiff as a Molly Maid franchisee based on the false information that plaintiff submitted to defendant. Defendant later sent plaintiff a congratulatory letter, enclosing two copies of a franchise agreement (“agreement”), and informing plaintiff that the agreement would become effective on the date that defendant signed it.

 

Plaintiff signed both copies of the agreement and returned them to defendant, along with a $6,900 check for the franchise fee. Defendant then instructed plaintiff that defendant would sign the agreement once plaintiff completed the required training. Because plaintiff never completed the required training, however, defendant never signed the agreement. Accordingly, defendant subsequently sent plaintiff a letter refunding the initial $6,900 fee.

 

The Illinois Franchise Disclosure Act provides:

 

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

(a) 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 or suggested in substantial part by a franchisor; and

(b) 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

(c) the person granted the right to engage in such business is required to pay, directly or indirectly, a franchise fee of $500 or more.

 

815 Ill. Comp. Stat. 705/3(1). In order to establish that the parties entered into a franchise agreement, the court stated that plaintiff must prove, among other things, that plaintiff paid a “franchise fee exceeding $500 for the right to enter into the business.” Although plaintiff paid $6,900—an amount far exceeding $500—this amount was paid “towards the franchise fee, [but] the entire fee required for the right to enter into the business was $43,351.” Because plaintiff only paid part of the amount required to enter into the business, and not all of it, the court determined that the franchise fee element was not satisfied.

 

Takeaway: Payments towards the franchise fee, but equaling less than the full amount required for the right to enter into the business, have not been found to satisfy the franchise fee element of the Illinois Franchise Disclosure 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 2005

And the saga continues . . .

 

In Three M Enterprises, Inc. v. Texas D.A.R. Enterprises, Inc., 368 F. Supp. 2d 450 (D. Md. 2005), defendants were unable to prevail on a motion to dismiss on its argument that plaintiff was not a “franchise” under Maryland law. Specifically, defendants argued that plaintiff cannot be a franchisee under Maryland law because plaintiff did not pay a franchise fee. In support, defendants submitted two exhibits which demonstrated that plaintiff’s alleged $15,000 “franchise fee” was merely an order for goods. The court, however, found defendants argument unpersuasive.

 

First, the court noted that defendants failed to address plaintiff’s allegation that plaintiff paid “a fee in the amount of $15,000 and indirect franchise fees during the course of the relationship.” Second, the court noted that defendants’ arguments attacked the factual sufficiency of plaintiff’s complaint, which was premature at that stage in the proceeding. Because of this, defendants’ motion to dismiss for failure to state a claim was denied.

 

Takeaway: This case is good reminder that a franchisee can seek protection under a state’s franchise act by alleging not only that it paid a franchise fee, but also that it paid an “indirect” 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.