Court Watch

To complicate matters, the Item 19 financial performance representations in the disclosure document given to the plaintiffs indicated only average gross commission revenue and noted that the commission revenue of a store could be affected by the amount of chargebacks. However, the disclosure document did not provide any information about the amount of chargebacks actually experienced by the stores on which the revenue representations were based. That prevented prospective franchisees from knowing the average net commissions the stores experienced, the money they actually ended up with as a result of selling telephone services. As is usual, the disclosure document itself contained abundant disclaimers about sales, costs and profits as did the Franchise Agreement and, later, the development agreement. The Item 19 disclosure advised prospective franchisees to conduct independent investigations into the costs and expenses they would incur in operating the franchised business. As required, a list of existing and former franchisees was provided in the disclosure document, although, unbeknownst to the plaintiffs at the time, it turned out that many of them were relatives of the franchisor's principals who did not pay royalties or other charges and, as a result, provided somewhat unrealistic information to the plaintiffs.

The plaintiffs' store, although ranking in the top third of Wireless Toyz stores and actually selling over 200 phones a month, did not achieve satisfactory profits because of the extent of the hits and chargeback rates experienced. The plaintiffs also discovered that the franchisor has a poor, and even nonexistent, relationship with leading cellular service providers; its stores experienced high inventory costs (the plaintiff found it was cheaper to purchase its inventory at Walmart rather than through the franchisor), and its training was inadequate in certain aspects of the business. Several years after it opened, the plaintiffs' store closed.

Suit was filed based on a number of theories, including silent fraud. All of the various claims, except for the silent fraud count, were either dismissed or rejected by the jury. The jury found in the plaintiffs' favor on the silent fraud claim and awarded them $20,000, representing the single-store franchise fee they paid, and $180,600 based on the amount they paid for their development agreement.

After the trial, the trial judge retired and a different judge, but one who had heard most of the pre-trial proceedings, heard the post-trial motions. This judge granted the defendant's JNOV motion based on the language of the Franchise Agreement's merger clause, also stating that there was insufficient evidence of silent fraud and that the plaintiffs' failed to prove reliance on the matters at the base of their silent fraud claim.

The Michigan Court of Appeals reviewed the JNOV motion de novo. Under such a review, the jury's verdict is upheld unless the evidence fails to support the claim after considering all legitimate inferences in a light most favorable to the claimant.

By stressing the fact that information was deliberately withheld rather than misrepresented, the franchisee was able to convince the appellate court that the disclaimer/merger/integration clause could not be used to defeat his claims. The court held that the statutory duty to disclose material facts so as not to make misleading the statements in the disclosure document established the element of concealment, violalting the franchisor's duty to reveal negative information concerning chargebacks and hits, among other things, particularly when responding to the direct inquiries of the plaintiffs. When questioned about the absence of information in Item 19 except for the gross commission income, the franchisor stated that it made a conscious decision not to make these disclosures but rather to allow the prospect to determine the negative factors by talking to other franchisees. One problem the court found with this was that some of the franchisees to whom the plaintiffs talked were related to the owners or employees of the company and did not have the same type of deal that was being offered to the plaintiffs. The franchisor also argued that supplying this information could have led to inaccurate disclosures because chargebacks and hits occurred in different years, which would render a one-year snapshot inaccurate. These arguments fell on deaf ears, with the court focusing on the obligation to disclose negative facts based on the Michigan Franchise Law's requirement that disclosures not be misleading. The salesperson's limited responses, even though truthful, subjected the franchisor to liability since they were incomplete or omitted material information.

The judge who granted the JNOV motion found that the merger clause ' the provision stating that all representations on which the parties have relied are contained in the Franchise Agreement ' prohibited oral evidence about representations outside the four corners of that agreement. The appellate court disagreed, holding that such evidence was proper in this case since the omissions were not part of pre-contractual negotiations and were, in fact, matters that were withheld from the plaintiffs. The merger/integration clause could not be used to block those claims because, by definition: “Undisclosed material facts that were never the subjects of pre-contractual negotiations are not absorbed by a contract.” In other words, by crafting the claim as a concealment claim, a franchisee can, at least in Michigan, avoid any parol evidence problems. The court also acknowledged the general rule that parol evidence can be introduced to prove fraud or deceit. In addition, the court pointed to language of the merger/integration clause which dealt only with “prior or contemporaneous agreements,” and “previous written and oral agreements or understandings” rather than representations in general. Because the merger/integration clause did not refer to “representations” or “inducements,” it did not apply, said the court, in this case. Were it otherwise, stated the court, a merger clause would immunize a party who suppressed information that it was duty-bound to disclose.

On the issue of reliance, aside from finding that the defendant had waived any argument that the evidence did not support this element of the cause of action by agreeing to jury instructions that did not contain this factor, the court held that the disclaimers in the Franchise Agreement would not preclude the plaintiffs' reliance on the statements and omissions of the franchisor's salesman, as has been held in many cases. This is because the disclaimers, according to the appellate court, could only avoid representations that were actually made, not facts that were concealed. So again, by making the case one of concealment, the franchisee was able to avoid the disclaimer clause, something that has doomed many franchisee claims.

While the court called the case a “silent fraud” case, its description of the fraud indicates how closely it resembles a misrepresentation case, and how a franchisee can turn a misrepresentation case into a concealment case. In viewing the evidence, the court found that it supported a concealment claim because the defendants “knowingly eased plaintiffs' concerns by providing falsely deflated figures, asserting that chargebacks affected only five to seven percent of total commissions 'and that a good operator could keep the percentage much lower than that.'” That sounds like a misrepresentation claim. But the court turned it into a concealment claim by focusing on what was not disclosed and relying on its interpretation of the Michigan Franchise Law as imposing a duty to make those disclosures.

As previously discussed in this column (April 2013, pp 3-4, April 2013), courts are increasingly reluctant to allow a contracting party to hide behind a merger or integration clause when fraud or misrepresentation is present. Closing questionnaires and similar statements signed by franchisees when signing their Franchise Agreements may not protect a franchisor from what the franchisee did not know or statements that did not contain the whole truth.

Charles G. Miller is a shareholder and director, and Darryl A. Hart is an attorney with Bartko, Zankel, Bunzel & Miller in San Francisco. They can be reached at 415-956-1900 or at [email protected] and [email protected], respectively.

Massage Therapist Gets 25 Years for Assault; Franchisor Faces Civil Claims

A Fulton County judge has sentenced a former massage therapist to 25 years in prison following his conviction for aggravated sexual battery, but that is not the end of it; a civil suit being brought by a second alleged victim, naming the masseur and the Massage Envy franchisor, ME Camp Creek, is still pending.

William Charles Stringfellow, 35, was charged after being accused of fondling and performing “various sexual acts” upon a young woman at a Massage Envy franchise in December 2010, according to a release from the office of Georgia's Fulton County District Attorney Paul Howard. A friend had paid for the 21-year-old victim to have a massage session as a birthday present, it said, “a first time experience for her.”

Once inside the private massage room, Stringfellow “proceeded to massage the victim and shortly afterwards began to touch her inappropriately,” it said, first fondling her and forcibly performing various sexual acts “even after she repeatedly told him to 'stop.'”

The victim went to a hospital and called police; Stringfellow was arrested after an “extensive investigation,” the release said.

The criminal case went to trial March 10, and the jury deliberated from Thursday, March 13 through Monday, March 17 before returning a guilty verdict, according to DA spokeswoman Yvette Brown. On March 21, Fulton County Superior Court Judge Todd Markle sentenced Stringfellow to the mandatory minimum of 25 years in prison, followed by life on probation. Stringfellow must also register as a sex offender, Brown said.

Stringfellow faces criminal charges in a similar incident that allegedly occurred two months later, in February 2011, at the same Massage Envy franchise in the Camp Creek Marketplace II shopping center. That incident also is the subject of a civil suit in Fulton County State Court. The complaint, which names Stringfellow and the franchiser, ME Camp Creek, apparently makes reference to the subject of the recently decided criminal action, stating that Stringfellow had been accused of sexually assaulting another Massage Envy patron in December 2010, but remained employed there.

The attorney for ME Camp Creek, Mabry McClelland partner James Budd, was unavailable for comment.

The attorney for the Jane Doe in the Feb. 2011 case, Conley Griggs Partin partner Ranse Partin, said the earlier guilty verdict bolsters his client's case. “This confirms the allegations we've made all along: that they had an employee who was a danger to their clients. He was arrested and charged in the first instance, and the business allowed him to remain working there during the pendency of those charges.”

' Greg Land, Daily Report

Merger Clause Did Not Protect Franchisor from Claim of 'Silent Fraud'

In a recent “Not for Publication” opinion, the Michigan Court of Appeals overturned a judgment notwithstanding the verdict (JNOV) for the defendant franchisor following a jury verdict for the plaintiff franchisees based on a claim of “silent fraud” ' also known as misrepresentation by omission or fraudulent concealment. While the opinion cannot be cited, it shows the way, and offers arguments, that franchisee lawyers may use to avoid the impact of merger/integration and disclaimer clauses.

In Abbo v. Wireless Toyz Franchise L.L.C., Bus. Fran. Guide (CCH) '15,226 (Mich. Ct. of Appeals, Feb. 4, 2014), the plaintiffs had first purchased a single store and then a development agreement for the defendant's wireless telephone store franchise. During the franchisor's Discovery Day, the plaintiffs' principals asked about “hits” ' telephone purchase price discounts given to consumers to induce a purchase ' and “chargebacks” ' reductions in a store's commissions when a service contract is canceled by a consumer before its term expires. In response to the plaintiffs' questions the franchisor's representatives understated the effect of both hits and chargebacks, and exaggerated various other aspects of the business, such as the franchisor's relationships with the various cellular carriers, the benefits of the franchisor's bulk purchasing of telephones and its “formidable” training program. The salesperson said selling 75 telephones a month would allow a store to break even but if a store sold 200 or more it was highly profitable.

To complicate matters, the Item 19 financial performance representations in the disclosure document given to the plaintiffs indicated only average gross commission revenue and noted that the commission revenue of a store could be affected by the amount of chargebacks. However, the disclosure document did not provide any information about the amount of chargebacks actually experienced by the stores on which the revenue representations were based. That prevented prospective franchisees from knowing the average net commissions the stores experienced, the money they actually ended up with as a result of selling telephone services. As is usual, the disclosure document itself contained abundant disclaimers about sales, costs and profits as did the Franchise Agreement and, later, the development agreement. The Item 19 disclosure advised prospective franchisees to conduct independent investigations into the costs and expenses they would incur in operating the franchised business. As required, a list of existing and former franchisees was provided in the disclosure document, although, unbeknownst to the plaintiffs at the time, it turned out that many of them were relatives of the franchisor's principals who did not pay royalties or other charges and, as a result, provided somewhat unrealistic information to the plaintiffs.

The plaintiffs' store, although ranking in the top third of Wireless Toyz stores and actually selling over 200 phones a month, did not achieve satisfactory profits because of the extent of the hits and chargeback rates experienced. The plaintiffs also discovered that the franchisor has a poor, and even nonexistent, relationship with leading cellular service providers; its stores experienced high inventory costs (the plaintiff found it was cheaper to purchase its inventory at Walmart rather than through the franchisor), and its training was inadequate in certain aspects of the business. Several years after it opened, the plaintiffs' store closed.

Suit was filed based on a number of theories, including silent fraud. All of the various claims, except for the silent fraud count, were either dismissed or rejected by the jury. The jury found in the plaintiffs' favor on the silent fraud claim and awarded them $20,000, representing the single-store franchise fee they paid, and $180,600 based on the amount they paid for their development agreement.

After the trial, the trial judge retired and a different judge, but one who had heard most of the pre-trial proceedings, heard the post-trial motions. This judge granted the defendant's JNOV motion based on the language of the Franchise Agreement's merger clause, also stating that there was insufficient evidence of silent fraud and that the plaintiffs' failed to prove reliance on the matters at the base of their silent fraud claim.

The Michigan Court of Appeals reviewed the JNOV motion de novo. Under such a review, the jury's verdict is upheld unless the evidence fails to support the claim after considering all legitimate inferences in a light most favorable to the claimant.

By stressing the fact that information was deliberately withheld rather than misrepresented, the franchisee was able to convince the appellate court that the disclaimer/merger/integration clause could not be used to defeat his claims. The court held that the statutory duty to disclose material facts so as not to make misleading the statements in the disclosure document established the element of concealment, violalting the franchisor's duty to reveal negative information concerning chargebacks and hits, among other things, particularly when responding to the direct inquiries of the plaintiffs. When questioned about the absence of information in Item 19 except for the gross commission income, the franchisor stated that it made a conscious decision not to make these disclosures but rather to allow the prospect to determine the negative factors by talking to other franchisees. One problem the court found with this was that some of the franchisees to whom the plaintiffs talked were related to the owners or employees of the company and did not have the same type of deal that was being offered to the plaintiffs. The franchisor also argued that supplying this information could have led to inaccurate disclosures because chargebacks and hits occurred in different years, which would render a one-year snapshot inaccurate. These arguments fell on deaf ears, with the court focusing on the obligation to disclose negative facts based on the Michigan Franchise Law's requirement that disclosures not be misleading. The salesperson's limited responses, even though truthful, subjected the franchisor to liability since they were incomplete or omitted material information.

The judge who granted the JNOV motion found that the merger clause ' the provision stating that all representations on which the parties have relied are contained in the Franchise Agreement ' prohibited oral evidence about representations outside the four corners of that agreement. The appellate court disagreed, holding that such evidence was proper in this case since the omissions were not part of pre-contractual negotiations and were, in fact, matters that were withheld from the plaintiffs. The merger/integration clause could not be used to block those claims because, by definition: “Undisclosed material facts that were never the subjects of pre-contractual negotiations are not absorbed by a contract.” In other words, by crafting the claim as a concealment claim, a franchisee can, at least in Michigan, avoid any parol evidence problems. The court also acknowledged the general rule that parol evidence can be introduced to prove fraud or deceit. In addition, the court pointed to language of the merger/integration clause which dealt only with “prior or contemporaneous agreements,” and “previous written and oral agreements or understandings” rather than representations in general. Because the merger/integration clause did not refer to “representations” or “inducements,” it did not apply, said the court, in this case. Were it otherwise, stated the court, a merger clause would immunize a party who suppressed information that it was duty-bound to disclose.

On the issue of reliance, aside from finding that the defendant had waived any argument that the evidence did not support this element of the cause of action by agreeing to jury instructions that did not contain this factor, the court held that the disclaimers in the Franchise Agreement would not preclude the plaintiffs' reliance on the statements and omissions of the franchisor's salesman, as has been held in many cases. This is because the disclaimers, according to the appellate court, could only avoid representations that were actually made, not facts that were concealed. So again, by making the case one of concealment, the franchisee was able to avoid the disclaimer clause, something that has doomed many franchisee claims.

While the court called the case a “silent fraud” case, its description of the fraud indicates how closely it resembles a misrepresentation case, and how a franchisee can turn a misrepresentation case into a concealment case. In viewing the evidence, the court found that it supported a concealment claim because the defendants “knowingly eased plaintiffs' concerns by providing falsely deflated figures, asserting that chargebacks affected only five to seven percent of total commissions 'and that a good operator could keep the percentage much lower than that.'” That sounds like a misrepresentation claim. But the court turned it into a concealment claim by focusing on what was not disclosed and relying on its interpretation of the Michigan Franchise Law as imposing a duty to make those disclosures.

As previously discussed in this column (April 2013, pp 3-4, April 2013), courts are increasingly reluctant to allow a contracting party to hide behind a merger or integration clause when fraud or misrepresentation is present. Closing questionnaires and similar statements signed by franchisees when signing their Franchise Agreements may not protect a franchisor from what the franchisee did not know or statements that did not contain the whole truth.

Charles G. Miller is a shareholder and director, and Darryl A. Hart is an attorney with Bartko, Zankel, Bunzel & Miller in San Francisco. They can be reached at 415-956-1900 or at [email protected] and [email protected], respectively.

Massage Therapist Gets 25 Years for Assault; Franchisor Faces Civil Claims

A Fulton County judge has sentenced a former massage therapist to 25 years in prison following his conviction for aggravated sexual battery, but that is not the end of it; a civil suit being brought by a second alleged victim, naming the masseur and the Massage Envy franchisor, ME Camp Creek, is still pending.

William Charles Stringfellow, 35, was charged after being accused of fondling and performing “various sexual acts” upon a young woman at a Massage Envy franchise in December 2010, according to a release from the office of Georgia's Fulton County District Attorney Paul Howard. A friend had paid for the 21-year-old victim to have a massage session as a birthday present, it said, “a first time experience for her.”

Once inside the private massage room, Stringfellow “proceeded to massage the victim and shortly afterwards began to touch her inappropriately,” it said, first fondling her and forcibly performing various sexual acts “even after she repeatedly told him to 'stop.'”

The victim went to a hospital and called police; Stringfellow was arrested after an “extensive investigation,” the release said.

The criminal case went to trial March 10, and the jury deliberated from Thursday, March 13 through Monday, March 17 before returning a guilty verdict, according to DA spokeswoman Yvette Brown. On March 21, Fulton County Superior Court Judge Todd Markle sentenced Stringfellow to the mandatory minimum of 25 years in prison, followed by life on probation. Stringfellow must also register as a sex offender, Brown said.

Stringfellow faces criminal charges in a similar incident that allegedly occurred two months later, in February 2011, at the same Massage Envy franchise in the Camp Creek Marketplace II shopping center. That incident also is the subject of a civil suit in Fulton County State Court. The complaint, which names Stringfellow and the franchiser, ME Camp Creek, apparently makes reference to the subject of the recently decided criminal action, stating that Stringfellow had been accused of sexually assaulting another Massage Envy patron in December 2010, but remained employed there.

The attorney for ME Camp Creek, Mabry McClelland partner James Budd, was unavailable for comment.

The attorney for the Jane Doe in the Feb. 2011 case, Conley Griggs Partin partner Ranse Partin, said the earlier guilty verdict bolsters his client's case. “This confirms the allegations we've made all along: that they had an employee who was a danger to their clients. He was arrested and charged in the first instance, and the business allowed him to remain working there during the pendency of those charges.”

' Greg Land, Daily Report