(1) To terminate, cancel or refuse to renew the franchise of any franchised motor vehicle dealer except for due cause, regardless of the terms of the franchise. A franchisor shall notify a franchised motor vehicle dealer, in writing, of its intention to terminate, cancel or refuse to renew the franchise of such dealer at least ninety days before the effective date thereof, stating the specific grounds for such termination, cancellation or refusal to renew. In no event shall the term of any such franchise expire without the written consent of the franchised motor vehicle dealer involved prior to the expiration of at least ninety days following such written notice except as hereinafter provided.
(3) The franchisor shall provide notification in writing to the dealer that the dealer has one hundred eighty days to correct dealer sales and service performance deficiencies or breaches and that the franchise is subject to termination under this section if the dealer does not correct those deficiencies or breaches. If the termination is based upon performance of the dealer in sales and services then there shall be no due cause if the dealer substantially complies with reasonable performance provisions of the franchise during such cure period and, no due cause if the failure to demonstrate such substantial compliance was due to factors which were beyond the control of such dealer.
Vehicle and Traffic Law, article 17-A §463 (emphasis added)
Should courts interpret a statute that was meant to protect car dealerships in such a way that it does very little protecting? Should car manufacturers be able to circumvent statutes implemented to protect dealerships by simply increasing wholesale prices?
These questions underlay a case heard in the United States Court of Appeals for the Third Circuit. Liberty Lincoln-Mercury, Inc. v. Ford Motor Co., 676 F.3d 318 (3d. Cir. 2012). Ford Motor Co., concerned the fact that Ford provided warranties to buyers of new Ford cars. These buyers were allowed to take their car to any dealership for repair or replacement of defective parts, regardless of where the buyers purchased the vehicle. Prior to the enactment of the New Jersey Franchise Protection Act (“NJFPA”), Ford would reimburse its dealers 40% more than the cost of making the parts for vehicle repairs under warranty. However, since the enactment of the NJFPA Ford was required to pay their dealers the retail price of the parts, which resulted in higher costs to Ford.
In an attempt to recoup that increased cost, Ford came up with a Dealer Parity Surcharge (“DPS”). The amount of the surcharge varied among dealers; the more warranty work a dealer performed, the higher the surcharge amount. The dealers filed suit against Ford based upon the wrongful implementation of DPS.
The District Court determined that DPS violated the NJFPA. In affirming the decision, the Third Circuit noted that NJFPA “did not preclude cost-recovery systems effected through wholesale vehicle price increases.” The Court nevertheless, “rejected Ford’s contention that the DPS constituted such a system.” Id. at 322.
Subsequently, Ford utilized a new protocol for surcharges called the New Jersey Cost Surcharge (“NJCS”). NJCS is based upon the total cost of Ford to comply with the NJFPA across New Jersey. Unlike DPS, this resulted in across the board (rather than individualized) increases in the wholesale price of vehicles. The result of the NJFPA is a flat surcharge for every dealer which increased according to the number of vehicles the dealer purchased, rather than how many warranty repairs the dealer submitted.
Thereafter, the dealers brought another suit against Ford, claiming that the NJCS was unlawful because it violated the NJFPA. Liberty Lincoln-Mercury, Inc. v. Ford Motor Co., 676 F.3d 318 (3d. Cir. 2012). The Third Circuit held that NJCS does not violate NJFPA and thus was not unlawful.
The NJFPA provides that:
“The motor vehicle franchisor shall reimburse each motor vehicle franchisee for such [warranty] services as are rendered and for such parts as are supplied, in an amount equal to the prevailing retail price charged by such motor vehicle franchisee for such services and parts in circumstances where such services are rendered or such parts supplied other than pursuant to warranty; provided that such motor vehicle franchisee’s prevailing retail price is not unreasonable when compared with that of the holders of motor vehicle franchises from the same motor vehicle franchisor for the identical merchandise or services in the geographic area in which the motor vehicle franchisee is engaged in business.”
In holding that the NJCS did not violate the NJFPA, the Court examined the ruling by a Maine court interpreting a similar statute. Acadia Motors, Inc. v. Ford Motor Co. (Acadia), 44 F.3d 1050 (1st Cir.1995). In Acadia, the Court held a flat surcharge imposed on all wholesale vehicle prices was lawful. The Court reasoned that, since the statute said nothing about wholesale or retail prices, it appeared to
leave the manufacturer free to increase wholesale prices, resulting in a corresponding increase in retail prices.
Similarly, in Ford Motor Co, the Court held that the New Jersey statute was enforceable because it did not directly address the increase of wholesale or retail prices. Thus, although the NJFPA regulated warranty reimbursements, it does not regulate wholesale price increases nor did it regulate retail price increases.
Therefore, the Court, in Ford Motor Co held that the DPA was unlawful but the NJCS was lawful. While the NJCS was a bona fide wholesale price increase, the DPA surcharge was unlawful because it was based
on how many warranty reimbursements individual dealers submitted. The NJCS was lawful because it was a flat surcharge assessed on all wholesale vehicles sold
within the State.
In the end, NJFPA did not protect dealers against Ford increasing its wholesale prices, nor did it protect consumers against dealerships increasing the dealerships’ retail prices. Thus, it is highly questionable as to whether the public interest was served by this decision.
© 2012 Nissenbaum Law Group, LLC
American Franchisors should be aware of the special laws relating to establishing franchises in Canada. For example, the Quebec Civil Code attaches a contractual obligation to the franchisor of a franchise agreement to protect and enhance the franchise brand. In Bertico Inc, et al. v. Dunkin’ Brands Canada LTD., No. 500-17-015511-036; 500-17-019989-048; 500-17-028727-058 (Quebec Super. Ct. June 21, 2012), the Quebec Superior Court addressed this issue and held that an American franchisor could be liable for failing to sufficiently maintain the strength of its brand for Canadian franchisees.
In that case, a class action was filed against the Dunkin’ Donuts franchisor in Quebec for failing to address the franchisees’ concerns about rejuvenating the Dunkin’ brand and business strategy to compete with a new franchise competitor. The franchisees argued that the Dunkin’ Donuts franchisor was unresponsive to their request in violation of their franchise agreements. In the agreements the franchisor promised to protect and enhance Dunkin’ Donuts’ reputation and “the demand for the products of the Dunkin’ Donuts system.” Id at 6.
The Court sided with the franchisees, finding the franchisor’s failure to sufficiently protect the brand had fundamentally breached its franchise agreements. As a result of the franchisor’s inaction, the competitor’s franchise achieved considerable market share in Quebec at the cost of Dunkin’ Donuts and its franchisees. The Judge stated that the franchisor’s failure to respond in a way that was competitive with others in the industry prevented the franchisees from benefiting from their investments in the Dunkin’ Donuts franchise. See id. at 19, 37.
In coming to its decision, the Court did make mention of the franchisees’ level of fault or lack therefore. Ultimately, the Court did not find that the franchisees were poor operators. See id. In fact, the Judge stated that ‘[t]hey were amongst the best and most successful in the Quebec …” Id.
It should be noted that while the franchisor was found at fault, this decision is particular to Quebec Civil Code, and only binding on Quebec courts. As previously stated, the Quebec Civil Code attaches a contractual obligation to the franchisor of a franchise agreement to protect and enhance the brand. In Bertico, the Court relied on the specific terms of the franchise agreements and made the franchisor accountable for its written promise to protect and enhance the Dunkin’ Donuts brand.
Franchisors should be cautious of the kinds of promises and representations made when drafting or signing a franchise agreement in Canada. As shown here, a Court may look to the terms of the franchise agreement when determining the franchisor’s responsibilities, and ultimately, the franchisor’s liability.
© 2012 Nissenbaum Law Group, LLC
When is a franchise agreement unconscionable and, therefore, unenforceable as a matter of law? Legal precedent from the United States Court of Appeals for the Seventh Circuit is illustrative on this point. We Care Hair Development, Inc. v. Engen, et. al., 180 F.3d 838 (7th Cir, 1999).
In that case, a group of franchisees filed a class action lawsuit in the circuit court of Madison County, Illinois (“state circuit court”) against We Care Hair Development, Inc. (“We Care Hair’) and others, claiming among other things, breach of fiduciary duty, fraud and violations of the Illinois Franchise Disclosure Act. The state circuit court held that the arbitration clauses in the franchise agreements (“Agreement(s)”) were void and unenforceable. However, the lower court (the Federal District Court for the Northern District of Illinois) upheld the Agreements and ordered the franchisees to arbitrate their claims, enjoining them from further action in the state court lawsuits. The Franchisees appealed.
All the franchisees entered into Agreements that contained arbitration clauses as a “condition precedent to the commencement of legal action for all disputes arising out of or relating to the franchise agreement.” Id. at 2. The franchise agreements provided that the laws of the State of Illinois would govern the Agreements. The franchisees were required to sublease their premises from a leasing company, We Care Hair Realty (“Hair Realty”), an alter ego of We Care Hair. Under the subleases, arbitration was not required, but the subleases allowed the leasing company to file eviction lawsuits against a franchisee for any breach of the sublease. See id. There was a cross-default provision in every sublease. That meant that every breach of the Agreement would also be a “cross-default” precipitating a breach of the sublease. The uniform offering circular for We Care Hair salons advised the prospective franchisees that the leasing company, Hair Realty, could terminate a sublease without We Care Hair also terminating the Agreement. See id.
On appeal, the franchisees contended that the District Court erred in failing to give full faith and credit to the Illinois State Circuit Court’s decision holding the arbitration clauses unenforceable. They based this on the legal concept of res judicata (claim preclusion) which states that if one court issues a ruling, a second court will be bound to apply that ruling if:
1) a final judgment or order on the merits has been entered by a court of competent jurisdiction;
2) the same causes of action were involved in both; and
3) the identical parties or their privies were litigants in both lawsuits.
Id. at 4.
The Appellate Court found that since the Illinois Circuit Court’s order was not a final order, res judicata did not apply. Therefore, the District Court did not err in independently finding that the arbitration clauses were enforceable. See id. at 4.
Next, the franchisees claimed that the District Court ruling was in error because the arbitration clauses and the cross-default provisions in the subleases were unconscionable. See id. The franchisees stated that the clauses were unconscionable because they “required[d] the franchises to arbitrate their claims while permitting the franchisor to litigate its claims through eviction actions filed in the name of the alter ego leasing company.” See id.
However, as the Seventh Circuit noted, Illinois courts examine the circumstances existing at the time of the contract’s formation when assessing the enforceability of a contractual provision. See id. This means that the bargaining positions of the parties were examined and a determination was made as to whether the provisions operation would result in unfair surprise. See id. The Seventh Circuit found that the arbitration clauses did not create unfair surprise in that case.
The Seventh Circuit acknowledged that each franchisee was provided with a copy of the uniform offering circular before signing the Agreement and it clearly disclosed all of the terms and rights of the parties. See id. at 5. Furthermore, the Seventh Circuit felt that the franchisees were not unsophisticated or helpless consumers and were not forced into the Agreements. See id. Ultimately, the Seventh Circuit affirmed the District Court’s holding, and held that the arbitration clauses, even when coupled with the cross-default provisions of the subleases, were not unconscionable.
Before invalidating an arbitration clause in a Franchise Agreement, a Court may consider the circumstances existing at the time of the parties’ transaction along with any other evidence displaying an unequal bargaining power between the parties.
© 2012 Nissenbaum Law Group, LLC
One of the key questions under the New Jersey Franchise Practices Act is whether it invalidates clauses in a contract mandating the place a lawsuit under that contract must be filed. This is called a “forum selection clause”
This issue was addressed in the recent case of The Business Store, Inc., v. Mail Boxes Etc., et. al., Civ. Action No. 11-3662 (D.N.J. February 16, 2012). In that case the court found that the forum selection clause mandating California as the place for lawsuits to be brought would not be enforced. The Court found that the following factors weighed in favor of using New Jersey as the proper forum under the facts of that case:
- The parties’ preferences
- Whether the claim arose elsewhere, i.e., in a different forum
- The convenience of the parties and witnesses
- The location of books and records
- The public interest
© 2012 Nissenbaum Law Group, LLC
Courts have traditionally interpreted a wide-ranging jurisdiction for the New York Franchise Sales Act (“NYSFA”). New York-based franchisors that offer and sell franchises anywhere in the world from their New York offices are required to comply with the statute’s provisions. N.Y. Gen. Bus. Law § 683. However, that scope could be getting smaller.
A recent case held that the NYFSA did not apply to an out of state franchisee. JM Vidal, Inc. v. Texdis USA Inc., 746 F.Supp.2d. 599 (S.D.N.Y. 2011). In that case, the plaintiff, franchisee JM Vidal (“JMV”), purchased and operated an MNG by Mango (“Mango”) franchise store in Bellevue, Washington. After the retail store failed, JMV sued the defendant, franchisor Texdis USA (“Texdis”), under the NYFSA as well as the relevant Washington state statute, claiming they had violated the pertinent Franchise Agreement. JMV asserted six claims under each state’s statute, including claims that Texdis offered to sell a franchise without having registered the offer with the state; fraudulently misrepresented the likely sales of JMV’s prospective franchise; and breached its duty of dealing with JMV in good faith.
Among other defenses, Texdis argued that JMV’s claims under the NYSFA should fail because the New York statute did not apply to the sale of the franchise. The United States District Court for the Southern District of New York considered the language of the statute and determined that it only applied when a person offered to sell or sells a franchise in the state of New York. N.Y. Gen. Bus. Law § 683(1). An offer or sale is made in New York when:
1) an offer to sell is made in this state, or an offer to buy is accepted in this state, or, if the franchisee is domiciled in this state, the franchised business is or will be operated in this state; or
2) the offer either originated from this state or is directed by the offeror to this state and received at the place to which it is directed. An offer to sell is accepted in this state when acceptance is communicated to the offeror from this state.
Id. at § 681(12).
The Court determined that there was no evidence suggesting that the offer or sale of the Mango franchise occurred anywhere other than Washington. More importantly, the Court found that no part of the transaction between JMV and the Mango franchise occurred in New York. Thus, the Court held that NYSFA was not applicable since a New York statute “cannot have any effect whatsoever on the nationwide marketing of franchises if the franchisor elects to conduct his activities outside of this State and with non-residents.” Id. at 617 (citing Mon-Shore Mgmt., Inc. v. Family Media, Inc., 584 F.Supp. 186, 191 (S.D.N.Y. 1984).
JMV’s lone argument for the application of the NYSFA was that the Franchise Agreement contained a choice-of-law provision that stated it would be “interpreted and construed under the laws of the State of New York.” Id. JMV argued that because the Agreement stated that it would take effect upon “execution by [Texdis],” which has its principal place of business in New York, the Agreement must have been signed in New York and thus should have been “deemed” to have been made in New York. Id. The Court rejected this argument, holding that to accept such an argument would allow the NYSFA to apply to every instance when the franchisor is a New York corporation. “But the NYSFA could easily have said as much, and it conspicuously does not,” the Court stated. Id. “Instead, only the franchisee’s domicile matters for purposes of determining whether the statute applies.” Id. The Court granted Texdis summary judgment on all of the NYSFA claims.
The Court’s decision is slightly surprising. An article by David Kaufmann, former New York special deputy attorney general, in the October 25, 2011 edition of the “New York Law Journal” said the Court’s decision “appears to conflict with both the express language of the New York Franchise Act itself and with the constitutional precedent…advanced in the Mon-Shore decision.” Kaufmann, who wrote the NYSFA while serving as special deputy attorney general, said “the state of incorporation of a franchisor is entirely irrelevant to New York Franchise Act coverage.” It will be interesting to see if the other courts interpret the statute in a manner similar to the JM Vidal Court.
© 2012 Nissenbaum Law Group, LLC
In 1981, a New York insurance company, William J. Hofmann Agency (“Hofmann”), entered into an Agency Agreement (“Agreement”) with an insurance underwriter, Kemper. Both parties hoped the arrangement would prove mutually profitable, but those expectations were dashed when one party prospered and the other faced bleak profits. Hofmann enjoyed substantial growth in its volume of business while Kemper experienced high loss ratios. This imbalance led to a rift between the business partners and Kemper sought to exercise his termination rights under the Agreement in order to sever the unprofitable relationship.
To preserve its revenue stream, Hofmann tried to mend the relationship woes. But when those efforts failed, Hofmann claimed fraud under the New York Franchise Sales Act (the “Franchise Sales Act”) in order to dispute the alleged illegal termination, New York Franchise Sales Act, N.Y. Gen. Bus. Law § 680 et seq. (McKinney).
The Franchise Sales Act was enacted to combat abuses accompanying the growth of the franchising industry. See A.J. Temple Marble & Tile, Inc. v. Union Carbide Marble Care, Inc., 663 N.E.2d 890, 892 (1996). The Act requires that franchises comply with comprehensive disclosure and registration requirements. Id. In addition, it spells out an expansive antifraud provision as well as civil remedies specific to franchisors. Id.
However, before a business entity may recover under the Act, the business must be an actual franchise. Id. Also, any such claim must be brought within a three-year statute of limitations, which begins to run on the date the parties enter into the franchise agreement. See N.Y. Gen. Bus. Law § 691(4) (McKinney); see also Zaro Licensing, Inc. v. Cinmar, Inc., 779 F. Supp. 276, 287 (S.D.N.Y. 1991).
In the lawsuit involving these parties, Keeney v. Kemper National Insurance Co., the insurance company contended that because it made premium payments to Kemper, a franchise relationship had resulted. Keeney v. Kemper National Insurance Co., 960 F. Supp. 617 (E.D.N.Y. 1997). . However, the court dismissed the cause of action on the grounds that the Agreement was a “‘garden variety’ commercial contract,” not a franchise agreement under the Act as a matter of law. Id.
The lesson here is that if a business entity seeks relief under the New York Franchise Sales Act, that entity must first ensure it is an actual franchise.
© 2011 Nissenbaum Law Group, LLC