Court Watch

With respect to the “actual agent” theory, the court found that there were many factors suggesting the franchisor exercised a high degree of control over the hotel's day-to-day operations. Relying heavily on the franchisor's Rules and Regulations , which related to the operation of its member hotels, the court found sufficient material factual questions related to the hotel's status as an actual agent of the franchisor. However, the court steered away from the case relied upon by the franchisor, Foster v. Steed, 19 Utah 2d 435, 432 P.2d 60 (Utah 1967), where a gas station licensor was found to not exercise sufficient control over a licensee to warrant a finding of vicarious liability. In contrast to the low level of control found in Foster , Best Western's Rules and Regulations proscribe how its licensees must run their lobbies and front offices, how they regulate their housekeeping department, and how they maintain guest rooms and rest rooms. The Rules and Regulations also provide for unannounced quality control inspections. The court cited to two other cases involving the same franchisor from other district courts where those courts found the franchisor exerted significant control over its member hotels, also relying heavily upon the franchisor's Rules and Regulations.

With respect to the plaintiffs' position that the hotel is alternatively an apparent agent of the franchisor, the district court also held that sufficient questions of fact existed to deny the franchisor's motion. Relying upon the plaintiffs' allegations that a road sign displaying the franchisor's brand, which failed to indicate that the hotel was independently owned and operated, played a significant role in the decision to stay at that particular hotel, the court determined that material facts supported the claim under an apparent agency theory and should be presented to a jury.

Licari is yet another example of a franchisor facing vicarious liability charges stemming from the franchisor's licensing of its trademarks while trying to maintain sufficient quality controls and system standards. There is a delicate balance between exercising sufficient control to maintain system standards and minimizing those controls to lessen the risk of vicarious liability. Unfortunately for franchisors, there is no way to eliminate the risk of a vicarious liability claim entirely. To lessen the potential blow of a vicarious liability claim, franchisors should include indemnification provisions in their franchise agreements, and also require franchisees to obtain insurance and provide copies of those policies to the franchisor for periodic review.

Federal Court Rejects Franchisee's Unclean Hands Defense

In Ramada Worldwide Inc. v. Southport, LLC, 11-CV-03676, 2013 U.S. Dist. LEXIS 91719 (D. New Jersey June 27, 2013), a federal judge in New Jersey denied a franchisee's equitable challenge to the enforcement of the parties' franchise agreement and granted summary judgment to the franchisor, Ramada Worldwide, Inc. (Ramada) on multiple counts of a breach of contract claim against the franchisee. The court also granted Ramada's Motion to Dismiss Defendants' Counterclaim.

In Ramada Worldwide, the franchisee, Southport, LLC, executed a license agreement with Ramada to operate a 70-room Ramada guest lodging facility in Missouri, promising to pay periodic royalties, service assessments, taxes, interest, reservation service fees and other fees (the Recurring Fees). The principals of the franchisee company personally guaranteed the obligations under the license agreement and, shortly thereafter, executed a development incentive note in favor of Ramada. Beginning on Feb. 18, 2010, Ramada began issuing a series of letters warning the franchisee that it was in breach of the license agreement for failing to make required periodic payments of the Recurring Fees. On Sept. 27, 2010, Ramada terminated the license agreement and then filed suit for non-payment of fees. Ramada filed a motion for summary judgment on Nov. 9, 2012, seeking judgment against the franchisee and its principals for the unpaid Recurring Fees, interest, liquidated damages, the unpaid principal on the development incentive note and attorneys' fees.

Rather than disputing certain provisions of the license agreement, the franchisee defendants took the atypical stance of alleging the equitable doctrine of unclean hands. To support this theory, the franchisee asserted that Ramada's representatives fraudulently induced the principals to enter into the license agreement by promising a 20% increase in revenue immediately upon opening, in addition to improved advertising and support.

In declining to find any material question of fact to support the franchisee's defense of unclean hands, the court noted that a relationship between the inequitable conduct and the claims must be found. The court held that the record was devoid of any evidence of fraud, unconscionability, or bad faith on the part of Ramada. The court further pointed to an integration clause and a disclaimer clause in the license agreement, barring the franchisee's and principals' ability to use the parol evidence rule to support their defenses. The court additionally noted that even if the unclean hands defense was valid, it does not excuse the franchisee's admitted breaches of the license agreement and note to which it was bound because the franchisee's allegations were separate and unrelated from the Ramada's claims.

Ramada Worldwide serves as a reminder that equitable defenses must be factually supported and must be tied to the claims. It further provides an example of a district court precluding claims for fraud based upon a disclaimer and integration clause in the franchise agreement.

Court Dismisses Licensee's Fraud in the Inducement Claim under Parol Evidence Rule

In Palermo Gelato, LLC v. Pino Gelato, Inc., No. 2:12-cv-00931, 2013 U.S. Dist. Ct. LEXIS 85925 (W.D. Penn. June 19, 2013), the plaintiff licensee, Palermo, sued the licensor, Pino, of a gelato product, alleging fraud in the inducement based on Pino's representation that it was the “exclusive” owner of a “unique recipe” for gelato. In fact, Palermo alleged, the recipe was not unique but was available on a wholesale website.

On a motion to dismiss filed by Pino, the court considered two prior cases that clarified the Pennsylvania parol evidence rule and held that parol evidence was not admissible in fraud in the inducement cases, provided there is a writing that represents the entire contract between the parties. An integration clause is a “clear sign” that the writing represents the entire contract. The license agreement in this case had an integration clause that satisfied this requirement.

The Palermo Gelato court clarified varying opinions in Pennsylvania courts and held that for the parol evidence rule to apply, the misrepresentations must also involve “the same subject matter” as the contract. The court then determined that to meet the “same subject matter” requirement, the contract does not need to explicitly deny the representation, but only needs to address the subject matter generally. The license agreement represented not only that Pino was the supplier of the gelato, but the court characterized the agreement as representing that “Pino had a significant amount of dominion and control, if not outright ownership” of the gelato recipe. The court concluded that the “same subject matter” requirement was met, even though the representations in the contract were not necessarily contrary to the alleged misrepresentations. The court dismissed the fraud in the inducement claim and noted that Palermo had not alleged breach of contract based on the contract terms related to the recipe.

Cynthia M. Klaus is a shareholder and Susan E. Tegt is an associate with Larkin Hoffman. Ms. Klaus can be contacted at [email protected], and Ms. Tegt can be contacted at [email protected].

Hotel Franchisor to Face Trial on Vicarious Liability Claims

The United States District Court for the District of Utah recently denied a defendant hotel franchisor's motion for summary judgment to dismiss the plaintiff hotel guests' claims of liability against the franchisor resulting from an outbreak of Legionnaire's disease in the hotel. In Licari v. Best Western Int'l, Inc., No. 2:11-cv-603, 2013 U.S. Dist. LEXIS 97725 (D. Utah July 12, 2013), the plaintiff husband and wife brought claims against Best Western International, Inc., the franchisor, and the owners and operators of the Utah hotel where the outbreak allegedly occurred. Plaintiffs alleged the wife contracted Legionnaire's disease while visiting the hotel, allegedly caused by the hotel's failure to properly maintain its potable water system. The plaintiffs alleged the franchisor was liable for their damages under direct and vicarious liability theories.

After granting the franchisor dismissal of the plaintiffs' claims based on direct liability, holding the franchisor did not owe a duty of care to the plaintiffs, the court next examined whether the doctrine of respondeat superior , or vicarious liability, would impose liability under Utah law. To determine whether the franchisor could be vicariously liable for the failure to maintain the hotel water system, the court examined the level of control exercised by the franchisor over the hotel, ultimately holding that significant fact questions existed to warrant a denial of the franchisor's motion related to whether the franchisee was an actual or apparent agent of the franchisor.

With respect to the “actual agent” theory, the court found that there were many factors suggesting the franchisor exercised a high degree of control over the hotel's day-to-day operations. Relying heavily on the franchisor's Rules and Regulations , which related to the operation of its member hotels, the court found sufficient material factual questions related to the hotel's status as an actual agent of the franchisor. However, the court steered away from the case relied upon by the franchisor, Foster v. Steed, 19 Utah 2d 435, 432 P.2d 60 (Utah 1967), where a gas station licensor was found to not exercise sufficient control over a licensee to warrant a finding of vicarious liability. In contrast to the low level of control found in Foster , Best Western's Rules and Regulations proscribe how its licensees must run their lobbies and front offices, how they regulate their housekeeping department, and how they maintain guest rooms and rest rooms. The Rules and Regulations also provide for unannounced quality control inspections. The court cited to two other cases involving the same franchisor from other district courts where those courts found the franchisor exerted significant control over its member hotels, also relying heavily upon the franchisor's Rules and Regulations.

With respect to the plaintiffs' position that the hotel is alternatively an apparent agent of the franchisor, the district court also held that sufficient questions of fact existed to deny the franchisor's motion. Relying upon the plaintiffs' allegations that a road sign displaying the franchisor's brand, which failed to indicate that the hotel was independently owned and operated, played a significant role in the decision to stay at that particular hotel, the court determined that material facts supported the claim under an apparent agency theory and should be presented to a jury.

Licari is yet another example of a franchisor facing vicarious liability charges stemming from the franchisor's licensing of its trademarks while trying to maintain sufficient quality controls and system standards. There is a delicate balance between exercising sufficient control to maintain system standards and minimizing those controls to lessen the risk of vicarious liability. Unfortunately for franchisors, there is no way to eliminate the risk of a vicarious liability claim entirely. To lessen the potential blow of a vicarious liability claim, franchisors should include indemnification provisions in their franchise agreements, and also require franchisees to obtain insurance and provide copies of those policies to the franchisor for periodic review.

Federal Court Rejects Franchisee's Unclean Hands Defense

In Ramada Worldwide Inc. v. Southport, LLC, 11-CV-03676, 2013 U.S. Dist. LEXIS 91719 (D. New Jersey June 27, 2013), a federal judge in New Jersey denied a franchisee's equitable challenge to the enforcement of the parties' franchise agreement and granted summary judgment to the franchisor, Ramada Worldwide, Inc. (Ramada) on multiple counts of a breach of contract claim against the franchisee. The court also granted Ramada's Motion to Dismiss Defendants' Counterclaim.

In Ramada Worldwide, the franchisee, Southport, LLC, executed a license agreement with Ramada to operate a 70-room Ramada guest lodging facility in Missouri, promising to pay periodic royalties, service assessments, taxes, interest, reservation service fees and other fees (the Recurring Fees). The principals of the franchisee company personally guaranteed the obligations under the license agreement and, shortly thereafter, executed a development incentive note in favor of Ramada. Beginning on Feb. 18, 2010, Ramada began issuing a series of letters warning the franchisee that it was in breach of the license agreement for failing to make required periodic payments of the Recurring Fees. On Sept. 27, 2010, Ramada terminated the license agreement and then filed suit for non-payment of fees. Ramada filed a motion for summary judgment on Nov. 9, 2012, seeking judgment against the franchisee and its principals for the unpaid Recurring Fees, interest, liquidated damages, the unpaid principal on the development incentive note and attorneys' fees.

Rather than disputing certain provisions of the license agreement, the franchisee defendants took the atypical stance of alleging the equitable doctrine of unclean hands. To support this theory, the franchisee asserted that Ramada's representatives fraudulently induced the principals to enter into the license agreement by promising a 20% increase in revenue immediately upon opening, in addition to improved advertising and support.

In declining to find any material question of fact to support the franchisee's defense of unclean hands, the court noted that a relationship between the inequitable conduct and the claims must be found. The court held that the record was devoid of any evidence of fraud, unconscionability, or bad faith on the part of Ramada. The court further pointed to an integration clause and a disclaimer clause in the license agreement, barring the franchisee's and principals' ability to use the parol evidence rule to support their defenses. The court additionally noted that even if the unclean hands defense was valid, it does not excuse the franchisee's admitted breaches of the license agreement and note to which it was bound because the franchisee's allegations were separate and unrelated from the Ramada's claims.

Ramada Worldwide serves as a reminder that equitable defenses must be factually supported and must be tied to the claims. It further provides an example of a district court precluding claims for fraud based upon a disclaimer and integration clause in the franchise agreement.

Court Dismisses Licensee's Fraud in the Inducement Claim under Parol Evidence Rule

In Palermo Gelato, LLC v. Pino Gelato, Inc., No. 2:12-cv-00931, 2013 U.S. Dist. Ct. LEXIS 85925 (W.D. Penn. June 19, 2013), the plaintiff licensee, Palermo, sued the licensor, Pino, of a gelato product, alleging fraud in the inducement based on Pino's representation that it was the “exclusive” owner of a “unique recipe” for gelato. In fact, Palermo alleged, the recipe was not unique but was available on a wholesale website.

On a motion to dismiss filed by Pino, the court considered two prior cases that clarified the Pennsylvania parol evidence rule and held that parol evidence was not admissible in fraud in the inducement cases, provided there is a writing that represents the entire contract between the parties. An integration clause is a “clear sign” that the writing represents the entire contract. The license agreement in this case had an integration clause that satisfied this requirement.

The Palermo Gelato court clarified varying opinions in Pennsylvania courts and held that for the parol evidence rule to apply, the misrepresentations must also involve “the same subject matter” as the contract. The court then determined that to meet the “same subject matter” requirement, the contract does not need to explicitly deny the representation, but only needs to address the subject matter generally. The license agreement represented not only that Pino was the supplier of the gelato, but the court characterized the agreement as representing that “Pino had a significant amount of dominion and control, if not outright ownership” of the gelato recipe. The court concluded that the “same subject matter” requirement was met, even though the representations in the contract were not necessarily contrary to the alleged misrepresentations. The court dismissed the fraud in the inducement claim and noted that Palermo had not alleged breach of contract based on the contract terms related to the recipe.

Cynthia M. Klaus is a shareholder and Susan E. Tegt is an associate with Larkin Hoffman. Ms. Klaus can be contacted at [email protected], and Ms. Tegt can be contacted at [email protected].