In the franchise industry, there are two key stakeholders: the franchisee and the franchisor.  Generally, both parties meet eye-to-eye when profits are made and payments are received on time. True, there are multiple provisions to any franchise agreement.  Even so, the basic franchise formula remains constant: the franchisee pays the franchisor for product that the franchisee then sells to the public. But what happens when that formula breaks down?

In VW Credit, Inc. v. Coast Automotive Group, Ltd., 346 N.J. Super. 326 (App. Div. 2002), Coast Automotive Group, Ltd. (“Coast”), a luxury car dealer, suffered a fire at its automobile dealership and found itself unable to pay its creditor. That creditor was VCI Credit, Inc., a wholly owned subsidiary of Volkswagen of America, Inc. (“VWOA”).  Id. at 331.  After filing for bankruptcy, Coast agreed to transfer its dealerships, associated vehicles, equipment and underlying real estate to a third party in exchange for a $5 million loan.  However, in a letter of disapproval, Coast’s franchisors, VWOA and Audi of America (“AOA”), rejected the transfer.

Under N.J.S.A. 56:10-6, Coast was required to provide written notice to VWOA and AOA of the proposed transfer.  Also, that same section “requires a franchisor to issue a letter of disapproval [within 60 days] if the franchisor objects to the proposed transferee as unqualified.”  Coast at 332.

However, if a franchisor rejects the transfer, it must do so in good faith. In the VW Credit case, the trial court deemed the disapproval letters to be “void and ineffective, because VWOA and AOA did not advise . . . [the third party transferee] of the conditions for franchise approval.”  Id. at 333.  As the trial court stated, “if a franchisor is entitled to reject a good faith but deficient application at the same time when it hasn’t fully disclosed its requirements for an acceptable application, then the Franchise Practices Act would have virtually no teeth . . .”  Id.  Therefore, VWOA and AOA “did not act in good faith when they withheld approval [of the transfer].” Id. 

Given this rationale, the trial court approved the transferee’s applications because it found that VWOA and AOA unreasonably withheld their approval.  Id. at 334.  The Appellate Division of the Superior Court of New Jersey affirmed the trial court’s decision.  Id.

In sum, under the right circumstances, a franchisee may compel a franchisor to consent to a transfer if the franchisor’s disapproval of that transfer is unreasonable or without good cause.


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