Court Watch

In its opinion, the court held that whether one party is an agent of another rather than its independent contractor is determined by measuring the right to control, not merely the actual control exercised by the latter over the former. According to the court, if the right to control extends to the manner in which a task is to be performed, then the party is not an independent contractor. The court noted that applying this “control” test to a franchise is not an easy task, since a franchise clearly has an independent aspect to it, but “a franchisor by necessity must retain some control over the use of its names, goods or services.”

In this case, the court found, the franchisee was contractually required to purchase at least one of the most recent Stanley Steemer carpet cleaning machines and a van in which it was to be mounted. The franchise agreement required the franchisee to transport the cleaning machines, equipment, and supplies only in a van-type truck that met Stanley Steemer's specifications, including the size, color, appearance, and other characteristics incident to maintaining the Stanley Steemer image. The franchisee was required to submit a written description of each truck it intended to use and Stanley Steemer had 10 days in which to approve the truck. Only signs conforming to Stanley Steemer specifications could be used on the vehicle.

Examining the cases on the subject, the court observed that there is no “bright line” test for determining when the requirements and restrictions in a franchise agreement render the franchisee an agent of the franchisor. Instead, the court held, a multitude of facts must be examined to determine the nature of the parties' relationship. The court concluded that it was unable to say, as a matter of law, that the franchisee was not an agent of Stanley Steemer. It therefore reversed the grant of summary judgment and remanded for further proceedings.

Liquidated Damages Provision Enforceable Under New Jersey Law

The U.S. District Court for the Western District of Texas has declared the liquidated damages provision in a Ramada hotel license agreement enforceable under New Jersey law. Ramada Franchise Systems, Inc. v. Jacobcart, Inc., __ F.Supp.2d __, CCH Bus. Fran. Guide Par. 12,609 (N.D. Tex. 2003).

After terminating Jacobcart's franchise for failure to comply with its financial obligations, Ramada brought suit seeking $200,000 in liquidated damages as provided in the parties' license agreement and seeking an injunction against the franchisee continuing to use the Ramada name and marks. Ramada filed a motion for summary judgment on its claim for liquidated damages. The court granted Ramada's motion.

Under the terms of the license agreement, if Jacobcart breached the agreement and it was terminated, it was required to pay Ramada liquidated damages of $2,000, multiplied by the number of guest rooms at the facility, which was 100. Jacobcart argued that the liquidated damages provision was unenforceable because it constituted a penalty.

The license agreement contained a New Jersey choice-of-law provision. Liquidated damages provisions are upheld under New Jersey law, according to the court, when the amount of damages is a reasonable forecast of just compensation for the harm caused by the breach and when that harm is very difficult or impossible to estimate. The more difficult the damages are to estimate, the more likely a court will uphold the provision as reasonable. In addition, the court held, New Jersey courts presume liquidated damages clauses are reasonable, so the party challenging the clause bears the burden of proving that the clause is unreasonable and establishing that its application would constitute a penalty.

The court gave several reasons for its finding that the liquidated damages provision in this case was reasonable and enforceable as a matter of law. First, the court found that damages from breach or early termination of the license agreement were difficult to estimate when the agreement was drafted because of vast variations in the travel industry. “From changing seasons to special events to increased competition, it is virtually impossible to predict a hotel's occupancy over an extended period of time,” the court noted. Similarly, the court found that because the license agreement covered a 15-year period, it was difficult to predict Jacobcart's income that far into the future. Finally, the court ruled that Jacobcart did not meet its burden of proving that the liquidated damages provision was unreasonable and should not be enforced. The court also observed that Jacobcart waived its right to contest the enforceability of the liquidated damages clause because the enforceability of a liquidated damages provision is an affirmative defense that must be pleaded, and Jacobcart missed the deadline for this. Therefore, the court concluded that the liquidated damages provision of the license agreement was enforceable as a matter of law.

Post-Termination Covenants Not to Compete Held Reasonable and Enforceable

A Florida state court has ruled that covenants not to compete for 1 year after the termination of franchise agreements within a fixed radius of the franchisees' former territories or of any other franchisee's location are reasonable and enforceable. Brenco Enterprises, Inc., et al. v. Takeout Taxi Franchising Systems, Inc., et al., CCH Bus. Fran. Guide (Va.Dist.Ct. 19th Jud.Cir. 2003).

In a lawsuit by a group of current and former franchisees of the “Takeout Taxi” restaurant food delivery system raising various claims against their franchisor, the franchisees moved for a declaratory judgment that the post-termination covenants not to compete in their franchise agreements were unenforceable.

Each franchise agreement contained a 1-year covenant not to compete within a 10-mile radius from the franchisee's territory or from the territory of any other existing Takeout Taxi franchisee upon the termination or expiration of the franchise agreement. The franchisees asserted that the covenant not to compete was unenforceable on the grounds that the geographic scope was uncertain and therefore overly broad. They argued that because the impact of the restrictions would vary depending on the number of franchises in existence at the end of the franchise agreement, and because no franchisee could determine the specific scope and impact of the restrictive covenant until after expiration or termination, the covenants not to compete were void for indefiniteness.

According to the court, the franchisees' argument assumed that the number of franchisees in the system would be greater at the time of expiration than at the beginning of the franchise term. But any alleged uncertainty during the franchise term regarding the number of franchises that would be in existence at the time of expiration could also work to the benefit of the franchisees, the court pointed out. The court observed that just as the number of franchises could increase during the term of the franchise agreement, making it more difficult for those leaving the system to compete in the same business, the number of franchises could also decrease, which would reduce the burden of the restrictive covenants on the franchisees. The court found this latter point particularly relevant given the emphasis in the franchisees' complaint on the decline of the Takeout Taxi franchise system. Because of a decrease in the number of total franchises over the past 10 years, the restrictive covenants had less of an impact on the franchisees' ability to compete than the covenants addressed in other cases, the court held.

The court concluded that the covenants not to compete were sufficiently definite and reasonable as to their geographic scope. To hold otherwise on the grounds that Takeout Taxi could have expanded and opened additional franchises at any time in any location “would be to void all covenants restricting competition appearing in any franchise agreement, as the number of existing franchises in any franchise system is susceptible to change over time.” The court observed that no court has ever so held, and it declined to do so as well.

Franchisor's Special Relationship with Franchisee May Impose Duty of Good Faith

The U.S. District Court for the Western District of Texas has ruled that while Texas law ordinarily imposes no implied duty of good faith and fair dealing on the parties to an agreement, there was evidence that a special relationship existed between a franchisor and its franchisee which may have imposed such a duty that was sufficient for the franchisee to withstand a motion to dismiss for failure to state a claim. Texas Taco Cabana, L.P. et al. v. Taco Cabana of New Mexico, Inc., et al., __ F.Supp.2d __, CCH Bus. Fran. Guide Par. 12,598 (W.D. Tex. 2003).

This action concerned development agreements for Taco Cabana restaurants to be opened in New Mexico. The franchisor took the position that the agreements expired, had been terminated, or were superseded, thus ending the franchisee's development rights. The franchisee claimed that by denying it development rights, the franchisor breached an implied duty of good faith and fair dealing. The franchisor moved to dismiss this claim on the grounds that it had no such duty under Texas law.

Texas law applied under the development agreements. The court agreed with the franchisor that, ordinarily, there is no duty of good faith and fair dealing in commercial contracts under Texas law without a special relationship between the parties. Usually, the court held, there is no special relationship between a franchisor and a franchisee.

However, the court found that in this case, the franchisee pleaded facts to show that its owner relied on the franchisor's promises. The franchisee alleged that after the development agreement was signed, the franchisor repeatedly urged the owner to concentrate on his health when he was diagnosed with brain cancer. The franchisee also claimed that the franchisor reassured the owner that his development rights under the agreements would not be jeopardized by delay incurred while he focused on his health. Apparently, the court noted, the owner focused on his health and delayed construction although he felt he would have been able to proceed in a timely manner if it had been necessary under the contract. According to the franchisee's complaint, a relationship was created in which its owner relied on the franchisor's promises with the understanding that a delay in development would not have adverse repercussions on his rights to develop franchises.

The court held that a special relationship of this type would create a duty of good faith under Texas law. Concluding that the franchisee stated a valid claim under the facts as pleaded by it, the court refused to dismiss it.

Franchisor Could Be Liable for Franchisee Negligence Under Actual Agency Theory

A Florida appellate court has ruled that a franchisor may have been liable for the negligence of its franchisee and the franchisee's employee under the theory that the franchisee was an actual agent of the franchisor. Patricia M. Font, et al. v. Stanley Steemer International, Inc., CCH Bus. Fran. Guide Par. 12,611 (Fl.Dist.Ct.App. 2003).

After Howard Font was killed in a collision with a van driven by an employee of a Stanley Steemer carpet cleaning franchisee, his estate sued Stanley Steemer as well as the franchisee and its employee, alleging that Stanley Steemer was vicariously liable for the negligence of the franchisee or the employee based on actual or apparent agency. The lower court granted Stanley Steemer's motion for summary judgment on the agency issue, and the plaintiff appealed. The Florida appellate court reversed the lower court's decision.

In its opinion, the court held that whether one party is an agent of another rather than its independent contractor is determined by measuring the right to control, not merely the actual control exercised by the latter over the former. According to the court, if the right to control extends to the manner in which a task is to be performed, then the party is not an independent contractor. The court noted that applying this “control” test to a franchise is not an easy task, since a franchise clearly has an independent aspect to it, but “a franchisor by necessity must retain some control over the use of its names, goods or services.”

In this case, the court found, the franchisee was contractually required to purchase at least one of the most recent Stanley Steemer carpet cleaning machines and a van in which it was to be mounted. The franchise agreement required the franchisee to transport the cleaning machines, equipment, and supplies only in a van-type truck that met Stanley Steemer's specifications, including the size, color, appearance, and other characteristics incident to maintaining the Stanley Steemer image. The franchisee was required to submit a written description of each truck it intended to use and Stanley Steemer had 10 days in which to approve the truck. Only signs conforming to Stanley Steemer specifications could be used on the vehicle.

Examining the cases on the subject, the court observed that there is no “bright line” test for determining when the requirements and restrictions in a franchise agreement render the franchisee an agent of the franchisor. Instead, the court held, a multitude of facts must be examined to determine the nature of the parties' relationship. The court concluded that it was unable to say, as a matter of law, that the franchisee was not an agent of Stanley Steemer. It therefore reversed the grant of summary judgment and remanded for further proceedings.

Liquidated Damages Provision Enforceable Under New Jersey Law

The U.S. District Court for the Western District of Texas has declared the liquidated damages provision in a Ramada hotel license agreement enforceable under New Jersey law. Ramada Franchise Systems, Inc. v. Jacobcart, Inc., __ F.Supp.2d __, CCH Bus. Fran. Guide Par. 12,609 (N.D. Tex. 2003).

After terminating Jacobcart's franchise for failure to comply with its financial obligations, Ramada brought suit seeking $200,000 in liquidated damages as provided in the parties' license agreement and seeking an injunction against the franchisee continuing to use the Ramada name and marks. Ramada filed a motion for summary judgment on its claim for liquidated damages. The court granted Ramada's motion.

Under the terms of the license agreement, if Jacobcart breached the agreement and it was terminated, it was required to pay Ramada liquidated damages of $2,000, multiplied by the number of guest rooms at the facility, which was 100. Jacobcart argued that the liquidated damages provision was unenforceable because it constituted a penalty.

The license agreement contained a New Jersey choice-of-law provision. Liquidated damages provisions are upheld under New Jersey law, according to the court, when the amount of damages is a reasonable forecast of just compensation for the harm caused by the breach and when that harm is very difficult or impossible to estimate. The more difficult the damages are to estimate, the more likely a court will uphold the provision as reasonable. In addition, the court held, New Jersey courts presume liquidated damages clauses are reasonable, so the party challenging the clause bears the burden of proving that the clause is unreasonable and establishing that its application would constitute a penalty.

The court gave several reasons for its finding that the liquidated damages provision in this case was reasonable and enforceable as a matter of law. First, the court found that damages from breach or early termination of the license agreement were difficult to estimate when the agreement was drafted because of vast variations in the travel industry. “From changing seasons to special events to increased competition, it is virtually impossible to predict a hotel's occupancy over an extended period of time,” the court noted. Similarly, the court found that because the license agreement covered a 15-year period, it was difficult to predict Jacobcart's income that far into the future. Finally, the court ruled that Jacobcart did not meet its burden of proving that the liquidated damages provision was unreasonable and should not be enforced. The court also observed that Jacobcart waived its right to contest the enforceability of the liquidated damages clause because the enforceability of a liquidated damages provision is an affirmative defense that must be pleaded, and Jacobcart missed the deadline for this. Therefore, the court concluded that the liquidated damages provision of the license agreement was enforceable as a matter of law.

Post-Termination Covenants Not to Compete Held Reasonable and Enforceable

A Florida state court has ruled that covenants not to compete for 1 year after the termination of franchise agreements within a fixed radius of the franchisees' former territories or of any other franchisee's location are reasonable and enforceable. Brenco Enterprises, Inc., et al. v. Takeout Taxi Franchising Systems, Inc., et al., CCH Bus. Fran. Guide (Va.Dist.Ct. 19th Jud.Cir. 2003).

In a lawsuit by a group of current and former franchisees of the “Takeout Taxi” restaurant food delivery system raising various claims against their franchisor, the franchisees moved for a declaratory judgment that the post-termination covenants not to compete in their franchise agreements were unenforceable.

Each franchise agreement contained a 1-year covenant not to compete within a 10-mile radius from the franchisee's territory or from the territory of any other existing Takeout Taxi franchisee upon the termination or expiration of the franchise agreement. The franchisees asserted that the covenant not to compete was unenforceable on the grounds that the geographic scope was uncertain and therefore overly broad. They argued that because the impact of the restrictions would vary depending on the number of franchises in existence at the end of the franchise agreement, and because no franchisee could determine the specific scope and impact of the restrictive covenant until after expiration or termination, the covenants not to compete were void for indefiniteness.

According to the court, the franchisees' argument assumed that the number of franchisees in the system would be greater at the time of expiration than at the beginning of the franchise term. But any alleged uncertainty during the franchise term regarding the number of franchises that would be in existence at the time of expiration could also work to the benefit of the franchisees, the court pointed out. The court observed that just as the number of franchises could increase during the term of the franchise agreement, making it more difficult for those leaving the system to compete in the same business, the number of franchises could also decrease, which would reduce the burden of the restrictive covenants on the franchisees. The court found this latter point particularly relevant given the emphasis in the franchisees' complaint on the decline of the Takeout Taxi franchise system. Because of a decrease in the number of total franchises over the past 10 years, the restrictive covenants had less of an impact on the franchisees' ability to compete than the covenants addressed in other cases, the court held.

The court concluded that the covenants not to compete were sufficiently definite and reasonable as to their geographic scope. To hold otherwise on the grounds that Takeout Taxi could have expanded and opened additional franchises at any time in any location “would be to void all covenants restricting competition appearing in any franchise agreement, as the number of existing franchises in any franchise system is susceptible to change over time.” The court observed that no court has ever so held, and it declined to do so as well.

Franchisor's Special Relationship with Franchisee May Impose Duty of Good Faith

The U.S. District Court for the Western District of Texas has ruled that while Texas law ordinarily imposes no implied duty of good faith and fair dealing on the parties to an agreement, there was evidence that a special relationship existed between a franchisor and its franchisee which may have imposed such a duty that was sufficient for the franchisee to withstand a motion to dismiss for failure to state a claim. Texas Taco Cabana, L.P. et al. v. Taco Cabana of New Mexico, Inc., et al., __ F.Supp.2d __, CCH Bus. Fran. Guide Par. 12,598 (W.D. Tex. 2003).

This action concerned development agreements for Taco Cabana restaurants to be opened in New Mexico. The franchisor took the position that the agreements expired, had been terminated, or were superseded, thus ending the franchisee's development rights. The franchisee claimed that by denying it development rights, the franchisor breached an implied duty of good faith and fair dealing. The franchisor moved to dismiss this claim on the grounds that it had no such duty under Texas law.

Texas law applied under the development agreements. The court agreed with the franchisor that, ordinarily, there is no duty of good faith and fair dealing in commercial contracts under Texas law without a special relationship between the parties. Usually, the court held, there is no special relationship between a franchisor and a franchisee.

However, the court found that in this case, the franchisee pleaded facts to show that its owner relied on the franchisor's promises. The franchisee alleged that after the development agreement was signed, the franchisor repeatedly urged the owner to concentrate on his health when he was diagnosed with brain cancer. The franchisee also claimed that the franchisor reassured the owner that his development rights under the agreements would not be jeopardized by delay incurred while he focused on his health. Apparently, the court noted, the owner focused on his health and delayed construction although he felt he would have been able to proceed in a timely manner if it had been necessary under the contract. According to the franchisee's complaint, a relationship was created in which its owner relied on the franchisor's promises with the understanding that a delay in development would not have adverse repercussions on his rights to develop franchises.

The court held that a special relationship of this type would create a duty of good faith under Texas law. Concluding that the franchisee stated a valid claim under the facts as pleaded by it, the court refused to dismiss it.