Forward Franchising - Las Vegas, Nevada Franchise Attorney Matt Kreutzer

General Release Of Claims Enforced Against Former 7-Eleven Franchisees

A recent decision from a federal court in California addresses the enforceability of a general release of claims signed by former franchisees.  Quick tutorial: a "general release" is a document where the signing party (releasor) agrees to relinquish the right to enforce or pursue any and all legal claims against the non-signing party (releasee).  While general releases in the franchise context are usually unilateral (given by the franchisee, or former franchisee, to the franchisor), they can be and sometimes are mutual. 

The court decision deals with Grayson and McKenzie, who are former franchisees of 7-Eleven, Inc. Grayson and McKenzie are also the name plaintiffs in a class action lawsuit they filed against 7-Eleven relating to 7-Eleven’s collection of a federal excise tax on pre-paid telephone cards they and other franchisees sold at their respective stores.  When those cards were sold, 7-Eleven collected excise taxes from the plaintiffs, and paid those taxes to the federal government. 

In 2006, the federal government stopped collecting excise taxes on pre-paid phone cards. The government authorized a one-time refund of the tax for payments made between March 2003 and July 2006.  The federal government made refund payments to 7-Eleven for millions of dollars, but the franchisees in the lawsuit alleged that 7-Eleven did not return any portion of the payments to them, even though those franchisees believed they were entitled to a 50% share of the refunded money. 

The reason the franchisees believed they were entitled to a portion of the tax refunds was because of the way the 7-Eleven system is structured.  While most franchise systems are designed so that the franchisee will pay the franchisor a royalty fee (as well as other fees) based on the franchisee's gross sales, 7-Eleven’s system is built differently.  In the 7-Eleven system, 7-Eleven and the franchisee will split the store’s gross profit as well as the operating expenses. 

Based on the "share and share alike" operating structure, the plaintiffs in the lawsuit alleged that they were entitled to a 50% pro rata share of the excise tax refunds received by 7-Eleven.  The franchisees sued 7-Eleven for: (1) conversion; (2) money had and received; and (3) breach of implied contract.

7-Eleven moved for summary judgment on Grayson and McKenzie’s claims, asking the court to dispose of the franchisees' claims.  7-Eleven  based its request on general releases that the franchisees had each signed in 2004 and 2005, respectively, when they terminated their franchise agreements with the company. 

In response, Plaintiffs argued that California Civil Code Sec. 1668 prevents the releases from excusing  7-Eleven from liability. That section states:

All contracts which have for their object, directly or indirectly, to exempt any one from responsibility for his own fraud, or willful injury to the person or property of another, or violation of law, whether willful or negligent, are against the policy of the law. 

In essence, the franchisees argued that their general releases could not be used to dispose of their legal claims because 7-Eleven had engaged in intentional wrongdoing, and that California law does not permit 7-Eleven to obtain a release of those types of claims from the franchisees.

Nevada Has Film Incentives!

This is an off-topic post, but if you have been reading my blog for some time, you will know that it's on an issue that is important to me: film incentives for Nevada.  As I've previously written, Nevada was one of the few states in the country without tax incentives for companies that film their movies or television shows here.  It's always been my opinion that the lack of these incentives has discouraged companies from filming here -- even when the action is set in Nevada.

Fortunately, that is all changing due to recent action from our legislature.  The Nevada legislature recently passed SB 165, which was signed into law by Governor Sandoval on June 11, 2013.  As a result, beginning on January 1, 2014, Nevada will offer tax credits to motion picture, television, and commercial productions that shoot at least 60% of their production here in Nevada and spend between $500,000 and $40 million in the state. Those companies are eligible to earn a transferrable tax credit worth 15-19% of their in-state qualified expenses. These "qualified expenses" include Nevada cast members, labor, crew members, and other Nevada expenditures.

I look forward to watching the film industry in Nevada grow with the advent of these incentives.

You can read the text of the bill by clicking here.  

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Hawaii Court Says Distribution Agreement Is Not A Franchise

A federal court in Hawaii recently issued an opinion finding that a distribution agreement is not a franchise under Hawaii's Franchise Investment Law. The defendant in the case, Pace-O-Matic ("Pace") is the manufacturer of gaming devices, which include "skill stop" gambling machines. The plaintiff, Prim, LLC entered into a distribution agreement with Pace to become the exclusive distributor for Pace’s "amusement devices" in an area that included Hawaii.

In October 2010, Pace sent Prim a notice of default, and terminated the exclusivity portion of the agreement between the parties. Prim sued in the U.S. District Court for the District of Hawaii. Among other things, Prim asserted that Pace violated Hawaii’s Franchise Investment Law (Haw. Rev. Stat. §480-2 et seq.) by failing to deal with Prim in good faith and by terminating Prim’s franchise without good cause. Pace sought summary judgment on that claim, arguing that there was never a franchise between Prim and Pace, and that Prim never paid Pace a franchise fee.

The Court noted that, under Hawaii law, a franchise consists of an agreement "in which a person grants to another person, a license to use a trade name, service mark, trademark, logotype or related characteristic… and in which the franchisee is required to pay, directly or indirectly, a franchise fee." Haw. Rev. Stat. §482E-2. Examining the Distribution Agreement, the Court found that the contract did not provide that Prim could use Pace’s name, trademarks, or proprietary software, and that instead Prim’s role under the contract was to "purchase games" from Pace and "exercise its best efforts to develop markets for the games and distribute" them.

Citing the U.S. Court of Appeals for the Ninth Circuit’s decision in Gabana Gulf Distribution, Ltd. v. Gap Int'l Sales, Inc., 343 Fed. App'x 258, 259 (9th Cir. 2009), the Court noted that a distributorship is "not the same thing as a franchise relationship." In this regard, the Court noted that "[t]he very essence of a franchise relationship is that the franchisee represents the franchise to the public; a franchise is not created whenever one company purchases and distributes another company's products." Considering that the Distribution Agreement only allowed Prim to purchase Pace’s products, and did not permit Prim to "substantially associate" with Pace’s trademarks, the Court found that the Distribution Agreement did not create a franchise.

The Court also found that Prim did not pay Pace a franchise fee. Under Hawaii law, a franchise fee is "any fee or charge that a franchisee . . . is required to pay or agrees to pay for the right to enter into a business or to continue a business under a franchise agreement," but does not include "the purchase or agreement to purchase goods at a bona fide wholesale price." Haw. Rev. Stat. §482E-2. The Court cited its previous opinion in JJCO, Inc. v. Isuzu Motors America, Inc., 2009 WL 1444103, at *4 (D. Haw. 2009), aff'd, 2012 WL 2584294 (9th Cir. July 5, 2012) for the "guiding principle is that, unless the expenses result in an unrecoverable investment in the franchisor, they should not normally be considered a fee." The Court found no evidence suggesting that the money paid by Prim to Pace for products was anything other than a bona fide wholesale price, or that it constituted an "unrecoverable investment" in Pace.

Based on its finding that the Distribution Agreement did not create a "franchise" within the meaning of Hawaii law, the Court granted summary judgment for Pace on that claim.

The case is validation for companies that operate through networks of independent distributors.  Where the distributor: (1) is not permitted to "substantially associate" its business with the manufacturer; and/or (2) pays only the bona fide wholesale price for its merchandise (and no other form of compensation) to the manufacturer, the relationship will typically not be considered a franchise under state laws. 

That being said, the "hidden franchise" problem can exist any time a business wishes to structure its model to avoid being considered a franchise. There are many traps for unwary business owners in this area of the law; as a result, it's critically important for a distribution business seeking to avoid being labeled as a franchise to consult with an attorney experienced in franchising before using any particular business model.

Franchisees Who Faked Evidence In Court Case Permitted To Continue Litigating

It should be obvious to anyone reading these words that it is never a good idea to lie to a court of law.  That's a pretty basic concept, right?  Lying in court documents is called "perjury," and it's a crime in every State in the union.  So it's always interesting to hear a story about someone who failed to grasp this fairly simple concept -- and how they got caught doing it.  This time it was the Husains, longtime McDonald's franchisees, who lied to a court in Northern California in litigation against their franchisor.

The decision in Husain v. McDonald’s Corp. was handed down by the California Court of Appeals on March 28, 2013.  The story goes something like this:

The Husains are longtime McDonald’s franchisees, having owned up to five different McDonald’s franchises located in northern California since the early 1980s.  In June 2005, the Husains entered into an agreement with a third party to purchase an additional 7 restaurants.  Of those, 3 of the franchise agreements were nearing the end of their 20-year franchise terms.  As part of the purchase, the Husains asked McDonald's whether it would agree to provide them with new 20-year franchise agreements when the 3 expiring agreements came to the end of their respective terms. 

McDonald's offered to extend the Husains' expiring terms by letter, which offer had to be countersigned and agreed to by the Husains to become effective.  McDonald’s claimed the offer was never accepted and expired on its own terms, leaving the Husains without renewal franchise agreements for the 3 expiring restaurants.  The Husains sued to enforce McDonald’s alleged promise to them. McDonald’s filed a cross-complaint to compel the Husains to relinquish the 3 restaurants to the company.

To "prove" that they had, indeed, accepted McDonald's offer to extend the expiring franchise terms, the Husains produced a certificate of mailing with a United States Postal Service postmark dated before the offer expired, alleging that the agreement had been properly accepted.  McDonald’s countered by producing evidence that the post office that had supposedly provided the certificate of mailing was closed on the date bearing the postmark, and that the postmark stamp on the certificate was not in use until 2008.

Based on this evidence, McDonald’s claimed that the Husains had committed perjury and fabricated evidence, and sought terminating sanctions -- in other words, McDonald's asked the Court to sanction the Husains by not permitting them to continue litigating their case.  The trial court denied the motion, finding that at most McDonald’s would be entitled only to dismissal of a cause of action the Husains had already dismissed, and that there was a factual dispute regarding the fabrication charges that could not be determined at the motion stage.

Fast Food Restaurant Strikes Spread To St. Louis, Detroit

Following on the heels of similar strikes in recent weeks in New York and Chicago, hundreds of St. Louis area fast food restaurant employees walked off the job May 9, which affected more than 30 area businesses including a number of fast food franchise businesses. The strikes spread to Detroit on May 10. These employees joined a growing wave of protests over wages and other terms and conditions of employment in what is one of the fastest-growing segments in the U.S. labor market. You may even remember similar actions by Wal-Mart employees on Black Friday in 2012.

Although strikes are often associated with labor unions, the workers involved in these impromptu strikes are not unionized.  Instead, the efforts are being supported by a coalition of organizations, including labor groups, nominally coined “alt-labor,” that are not legally unions. But this does not mean that their activities are not protected by U.S. labor laws, specifically the National Labor Relations Act (“NLRA”). Enacted in 1935, the NLRA protects the right of workers to join together to bargain collectively with their employer and  engage in other concerted activities for the purpose of collective bargaining or other mutual aid or protection. The NLRA also protects the right of workers to refrain from any and all such activities.

Among other things, employees covered by the NLRA (which includes most, but not all, private sector employees) have the right to walk out or strike, even if they are not in a union. Many employers who are unfamiliar with unions or do not regularly deal with unionized workforces, can sometimes fall into a trap for the unwary by disciplining or discharging employees who are engaged in protected, concerted activities such as a strike. Even though failing to report for work or even walking out during the middle of a shift impacts an employer’s operations and may, in fact, violate an attendance policy, depending on the circumstances, an employer may actually be prohibited from disciplining them or questioning them about such protected activities.

In some cases, however, striking and picketing may not be protected. One such circumstance involves what is known as “recognitional picketing.” This occurs when employees, and perhaps non-employees, picket an employer with the goal of obtaining recognition. When employees (and non-employees) picketed Wal-Mart on Black Friday, Wal-Mart filed a charge with the National Labor Relations Board. This charge was ultimately resolved when the union involved agreed to cease organizing the employees.

For franchisors and franchisees, an ounce of prevention is truly worth a pound of cure. To lawfully confront the potential for such activities, wise and savvy employers need to train their supervisors and managers now, before any such activity begins. Trained managers and supervisors not only have the tools to respond effectively and lawfully should such an incident occur, but are vital to warding off such activities in the first place.

Armstrong Teasdale’s employment and labor attorneys can assist employers in preparing for, and responding to, organizing activity. Being prepared is vital to an employer’s success in the face of union or union-like activity.

When Are A Franchisor's Financial Performance Representations Actionable?

Under the FTC's Franchise Rule, a franchisor is permitted, but not required, to answer that all-important question asked by would-be franchise buyers: "how much money can I make?"  A franchisor that chooses to make a "financial performance representation" ("FPR") must put the representation in its Franchise Disclosure Document ("FDD"). The representation can take one of two forms.  It can be: (1) an earnings claim based on historical performance of operating units; or (2) a projection of possible future performance.  Allowing franchisors to make FPRs based on projections of future performance is still fairly new to franchising; the allowance of "future projections" was added when the Franchise Rule was amended in 2007. 

In either case, the touchstone requirement for an FPR is whether the franchisor has a reasonable basis for making it. As a related requirement, the franchise company must also be able to produce written substantiation for any claim to prove the "reasonable basis."

Since the Franchise Rule was amended in 2007, there hasn't been much litigation over financial performance representations.  Cases regarding representations of future performance are even more rare, which makes a recent Maryland court decision on the topic, Hanley v. Doctors Express Franchising, LLC, all the more noteworthy. A summary of the case is below (click to follow the link).

Franchising Bill Moves Forward In California

An update to my previous post regarding the "fair franchising bill" being considered in California's Senate: on Tuesday, April 16, 2013, the California Senate Judiciary Committee approved the proposed legislation (SB 610), which is being supported by the American Association of Franchisees and Dealers ("AAFD") and opposed by the International Franchise Association ("IFA"). 

If passed, SB 610 would make the following amendments to the California Franchise Relations Act ("CFRA"):

• The parties to a franchise relationship would be required to deal with one another in good faith (essentially, making the implied covenant of good faith and fair dealing an express statutory requirement); and
• Franchisors (or subfranchisors) would be prohibited from restricting a franchisee from joining or participating in an association of franchisees.

SB 610 would also amend the CFRA by permitting a franchisee to sue a franchisor or subfranchisor who violates the CFRA for damages, rescission, or other relief deemed appropriate by a court.  Moreover, SB 610 would authorize a court in its discretion to award treble (3 times) damages to the suing franchisee, as well as reasonable costs and attorney's fees. 

The AAFD, in support of the bill, argues that:

Modern franchise relationships are most always governed by one-sided "take it or leave it" adhesion contracts that elicit substantial monetary investment from franchise owners, provide substantial protection for franchisors, but severely limit a franchisee's rights in franchise relationship.  Creating a statutory affirmative duty of good faith in franchise relationships will inhibit the enforcement of one-sided franchise agreements in an abusive manner.

The IFA, on the other hand, argues that the good faith requirement is problematic because "good faith" is:

[An] amorphous term to be applied to the franchisor in its relationship with the franchisee.  The  concept of "good faith" was created in the Uniform Commercial Code to fill in the blanks on short form contracts for the sale of goods.  However, it provides no benefit in the context of detailed franchise contracts which govern complex and ongoing business relationships.

The bill was passed in the California Senate Judiciary Committee with a vote of 5-2.  Next, the bill will be voted on by the full Senate.  If passed, it would go before the California Assembly for consideration.  

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California Senate To Consider Franchising Bill

California Senate To Consider Franchising Bill

The Senate Judiciary Committee of California is scheduled to consider a franchising bill at a hearing scheduled for Tuesday, April 16, 2013, at 1:30 p.m.  If passed by California's legislature (the State Assembly and Senate), SB 610 would amend the California Franchise Relations Act ("CFRA") as follows:

• The parties to a franchise relationship would be required to deal with one another in good faith (essentially, making the implied covenant of good faith and fair dealing an express statutory requirement); and
• Franchisors (or subfranchisors) would be prohibited from restricting a franchisee from joining or participating in an association of franchisees.

SB 610 would also amend the CFRA by permitting a franchisee to sue a franchisor or subfranchisor who violates the CFRA for damages, rescission, or other relief deemed appropriate by a court.  Moreover, SB 610 would authorize a court in its discretion to award treble (3 times) damages to the suing franchisee, as well as reasonable costs and attorney's fees. 

For more information about SB 610 and a copy of the full text of the bill, visit www.leginfo.ca.gov.  A live audio / video feed may be available during the hearing at http://www.calchannel.com/. 

Italian Franchisee Loses Lawsuit Brought Under The Laws Of . . . California?

Here's an interesting case I recently came across.  It features a franchisee based in Italy suing its California-based franchisor in California, alleging violations of California's franchise laws.

If you've ever bought a diamond ring, you are doubtlessly familiar with GIA, or the Gemological Institute of America, Inc. GIA, which was the defendant in the case, is a precious gem grading company with a principal place of business in Carlsbad, California. 

The plaintiffs were longtime employees of GIA who, in December 1991, entered into an employment agreement with the company to relocate to Vicenza, Italy to open what would be GIA’s first European location.  Plaintiffs did relocate from the U.S. to Italy in 1992, and opened and operated a gem grading school on behalf of GIA there.  GIA Italy became the hub of all of GIA’s activities in Europe, graduating around 60 gemologists per year. 

In 2007, GIA entered into an agreement with the Florence Chamber of Commerce to relocate GIA Italy to Florence and construct a GIA lab and gem drop-off service there.  In exchange, the Chamber would provide GIA Italy with substantial financial support. 

Later in 2007, GIA ended plaintiffs’ employment agreement and entered into a franchise agreement with them, giving them ownership of GIA Italy as franchisees.  The franchise agreement included the following provision:

3.6 No Gem Grading or Identification Services. Licensee, its affiliates, owners, managers, members, agents, and employees will not operate any trade-service laboratory for the purpose of diamond grading, colored stone grading, or gem identification, without the prior written consent of GIA in each instance.

In March 2011, GIA sent the Florence Chamber of Commerce a letter indicating that GIA would no longer allow the construction of the lab and drop-off facility in Florence.  Later that year, the Chamber informed the franchisees that it would no longer support GIA Italy because the Florence lab had not been opened despite the passage of several years. 

Plaintiffs filed suit, contending (among other things) that GIA had defrauded them into signing the franchise agreement based on its representations in 2007 that it would continue to support the Florence gem lab, which representations were false.   Plaintiffs argued that one of the key reasons they signed the franchise agreement was because of their understanding that they would be able to open the Florence lab (based on oral representations from GIA’s President).  Plaintiffs also claimed that GIA violated the California Franchise Investment Law (“CFIL”) (California Corporations Code §31119) by failing to provide them with a franchise disclosure document and register its franchise offering as required by law.

Nevada Franchise Business Network Spring 2013 Meeting: Top 10 Labor And Employment Issues

For franchisors, it is important to stay on top of new developments in the world of labor and employment law that may significantly affect their business.  The next meeting of the Nevada Franchise Business Network will address some of these new developments.  Join us for an interactive discussion with Michael Kass, a labor an employment partner at Armstrong Teasdale, who will be speaking to the group on the topic "Brave New World: Top Ten and Employment and Labor Issues to Know in 2013." The meeting is scheduled to occur on Thursday, April 25, 2013 at Panevino Ristorante, 245 Via Antonio Avenue, Las Vegas, NV 89119. This program will be a valuable forum both for operators who are considering franchising as a possible avenue for growth, and owners of companies that have already developed into mature systems.

The Nevada Franchise Business Network is hosted by Armstrong Teasdale as an adjunct program of the International Franchise Association. For more information about the purpose and history of the Franchise Business Network, please visit the IFA's website.

Registration will begin at 11:45 A.M., with the program scheduled to start at 12:00 P.M. Lunch will be served. The meeting is open to all members of the franchise community. There is no cost to attend, but please RSVP in advance to Mary Rodell at (800) 243-5070 ext. 7489, or mrodell@armstrongteasdale.com.