Court Watch

The court first held that the forum-selection clause was invalid due to the application of section 20040.5 of the California Business & Professions Code (invalidating out-of'state forum selection clauses involving a franchise business operating within California.) The franchisor unsuccessfully tried to show that '20040.5 was inapplicable. It first argued that the franchisee never operated in California, as it chose to rescind shortly after it signed the Master Franchise Agreement. While the statute could be read to require that a franchise “operate” in California, the court was required to interpret '20040.5 liberally as referring to franchise agreements that concern the operation of the business in California, whether or not it is actually operated there.

The franchisor next argued that the statute was inapplicable because no claims were brought pursuant to the Franchise Relations Act. The court quickly disposed of that argument because the statute did not require claims to be brought under the Act.

Lastly, the franchisor, relying on several other District Court cases, argued that '20040.5 voided forum selection clauses only when they unfairly forced franchisees to litigate outside of California. The court also summarily rejected that argument since it was contrary to the plain language of '20040.5.

After the above arguments were disposed of, the court turned to consideration of the forum non-conveniens argument under 28 U.S.C. '1404(a). It took the forum selection clause, which played such a big role in Atlantic Marine, out of the forum non-conveniens analysis because it was invalid by virtue of section 20040.5. Without the forum-selection clause, the franchisor had to rely on the traditional factors to be considered by the court, such as convenience of parties, place where the contracts were negotiated, plaintiff's choice of forum, familiarity with governing law, contacts, use of compulsory process and costs of litigation. While some of these factors cut both ways, the court was influenced by the fact that the English company registered its franchise in California, knew that its forum-selection clause might not be valid in California and that disputes were likely be litigated in California. Accordingly, it denied the motion.

This case gives us a good road map of how motions to transfer venue are likely to fare in California after Atlantic Marine. The forum selection clause will be given no weight. The franchisor will thus have to rely on traditional factors governing forum non-conveniens , and will have an uphill battle.

Court, Not Arbitrator, Determines Whether Party Waived Right to Arbitrate

Some arbitration provisions have carve-outs, permitting parties to seek injunctive relief in court without it being deemed a waiver of the right to arbitrate. A recent California federal district court decision dealt with such a provision and made clear that it will be construed strictly by a court and not an arbitrator. In Riso Inc., v. Witt Company, WK Bus. Fran. Guide, '15,375 (CD CA Sept. 16, 2014), a dealer filed suit to enjoin a termination, and sought damages as well. That action was dismissed with prejudice. The dealer then commenced an arbitration seeking rescission of the dealership agreement based on fraudulent inducement. The distributor filed a court action for declaratory relief that the dealer waived its right to arbitrate by virtue of the court filing, and the dealer sought to compel arbitration of that claim. The alignment of the parties was different than the typical case where the dealer or franchisee files suit and the distributor or franchisor seeks to compel arbitration.

Here, the key move was by the distributor: filing in court seeking a declaration that the dealer had waived its right to arbitrate, rather than raising the issue in the arbitration. In the usual case, it is the franchisee that makes the waiver argument against the franchisor to avoid having to arbitrate, but here the dealer initiated the arbitration and the distributor was seeking to avoid it by claiming waiver. The court noted that some courts had decided that waiver was to be decided by the arbitrator, treating it as a procedural issue within the province of an arbitrator. While Howsam v. Dean Witter Reynolds, Inc., 537 U.S. 79 (2002), held that procedural issues were to be determined by the arbitrator, various lower courts have also held that waiver would only be a procedural issue if it pertained to compliance with contractual conditions precedent, not litigation conduct. The Riso court decided to follow these decisions and reach the waiver issue.

Surprisingly, the court held, without citing any authority, that by filing the lawsuit, knowing full well of its arbitration obligation, the dealer had waived its right to arbitrate. The court acknowledged that the suit sought an injunction, which was carved out from the arbitration clause, but in addition, sought substantial damages, not carved out. It is not at all clear whether the rescission or fraudulent inducement claim was part of the original litigation, but the court seemed to reject that argument. The court also held, without citing any authority, that the distributor suffered prejudice to sustain a waiver by virtue of the fact that it had incurred costs and expenses in defending the suit. This comes somewhat as a surprise because there is well-grounded authority that the mere filing of a lawsuit and incurring costs and fees in its defense does not constitute waiver or prejudice. See, Saint Agnes Medical Center v. PacifiCare of California, 31 Cal.4th 1187, 1203; 8 Cal.Rptr.3d 517, 529-530 (2003) (discussing federal cases as well). As Saint Agnes Medical Center recognized, there has to be litigation on the merits, as opposed to simply filing the suit. It appears that no litigation on the merits in the court action occurred as the case was dismissed pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure.

One take-away from this case is that, to the extent a party wants to take advantage of an injunction or equitable relief carve-out in an arbitration provision, it should clearly limit its relief to those remedies. There is a tendency among litigators to attempt to seek other relief, such as damages, once a case is filed, and this should be avoided. Had the dealer in the Riso case done so, it would not have been deemed to have waived its right to arbitration. Another take-away from this case is that if there is going to be a waiver of arbitration argument, the case has to be postured to make certain that argument is made to the court. In Riso, the distributor filed a declaratory relief action so that the issue would be decided by the court, and not the arbitrator.

Charles G. Miller, a member of this newsletter's Board of Editors, is shareholder and director of Bartko, Zankel, Bunzel & Miller in San Francisco. Darryl A. Hart is an attorney with the firm. They can be reached at 415-956-1900 or at [email protected] and [email protected], respectively.

California Court Refuses to Enforce Forum Selection Clause Post- Atlantic Marine

A recent California case is a good indication of how important a role a forum selection clause will play after the U.S. Supreme Court's recent decision in Atlantic Marine Const. Co. Inc. v. U.S. Dist. Court for W. Dist. Of Texas, 134 S.Ct. 568 (2013). Atlantic Marine made clear that while a motion to dismiss or transfer venue based on a forum selection clause could not be made on the grounds of improper venue under 28 U.S.C. '1406, the forum selection clause should be given controlling weight in all but the most exceptional cases under a forum non-conveniens analysis under 28 U.S.C. '1404. However, this assumes a valid forum selection clause.

In Frango Grille USA Inc. v. Pepe's Franchising Ltd., WK Bus. Fran. Guide '15390 (C.D. CA. July 21, 2014), a master franchisee, before it began to operate, filed suit against the franchisor in California. The Master Franchise Agreement had a London, England, forum selection clause, since the franchisor was headquartered there, as well as an English choice-of-law clause. The franchisor moved to dismiss or to transfer for forum non conveniens under 28 U.S.C. '1404(a).

The court first held that the forum-selection clause was invalid due to the application of section 20040.5 of the California Business & Professions Code (invalidating out-of'state forum selection clauses involving a franchise business operating within California.) The franchisor unsuccessfully tried to show that '20040.5 was inapplicable. It first argued that the franchisee never operated in California, as it chose to rescind shortly after it signed the Master Franchise Agreement. While the statute could be read to require that a franchise “operate” in California, the court was required to interpret '20040.5 liberally as referring to franchise agreements that concern the operation of the business in California, whether or not it is actually operated there.

The franchisor next argued that the statute was inapplicable because no claims were brought pursuant to the Franchise Relations Act. The court quickly disposed of that argument because the statute did not require claims to be brought under the Act.

Lastly, the franchisor, relying on several other District Court cases, argued that '20040.5 voided forum selection clauses only when they unfairly forced franchisees to litigate outside of California. The court also summarily rejected that argument since it was contrary to the plain language of '20040.5.

After the above arguments were disposed of, the court turned to consideration of the forum non-conveniens argument under 28 U.S.C. '1404(a). It took the forum selection clause, which played such a big role in Atlantic Marine, out of the forum non-conveniens analysis because it was invalid by virtue of section 20040.5. Without the forum-selection clause, the franchisor had to rely on the traditional factors to be considered by the court, such as convenience of parties, place where the contracts were negotiated, plaintiff's choice of forum, familiarity with governing law, contacts, use of compulsory process and costs of litigation. While some of these factors cut both ways, the court was influenced by the fact that the English company registered its franchise in California, knew that its forum-selection clause might not be valid in California and that disputes were likely be litigated in California. Accordingly, it denied the motion.

This case gives us a good road map of how motions to transfer venue are likely to fare in California after Atlantic Marine. The forum selection clause will be given no weight. The franchisor will thus have to rely on traditional factors governing forum non-conveniens , and will have an uphill battle.

Court, Not Arbitrator, Determines Whether Party Waived Right to Arbitrate

Some arbitration provisions have carve-outs, permitting parties to seek injunctive relief in court without it being deemed a waiver of the right to arbitrate. A recent California federal district court decision dealt with such a provision and made clear that it will be construed strictly by a court and not an arbitrator. In Riso Inc., v. Witt Company, WK Bus. Fran. Guide, '15,375 (CD CA Sept. 16, 2014), a dealer filed suit to enjoin a termination, and sought damages as well. That action was dismissed with prejudice. The dealer then commenced an arbitration seeking rescission of the dealership agreement based on fraudulent inducement. The distributor filed a court action for declaratory relief that the dealer waived its right to arbitrate by virtue of the court filing, and the dealer sought to compel arbitration of that claim. The alignment of the parties was different than the typical case where the dealer or franchisee files suit and the distributor or franchisor seeks to compel arbitration.

Here, the key move was by the distributor: filing in court seeking a declaration that the dealer had waived its right to arbitrate, rather than raising the issue in the arbitration. In the usual case, it is the franchisee that makes the waiver argument against the franchisor to avoid having to arbitrate, but here the dealer initiated the arbitration and the distributor was seeking to avoid it by claiming waiver. The court noted that some courts had decided that waiver was to be decided by the arbitrator, treating it as a procedural issue within the province of an arbitrator. While Howsam v. Dean Witter Reynolds, Inc., 537 U.S. 79 (2002), held that procedural issues were to be determined by the arbitrator, various lower courts have also held that waiver would only be a procedural issue if it pertained to compliance with contractual conditions precedent, not litigation conduct. The Riso court decided to follow these decisions and reach the waiver issue.

Surprisingly, the court held, without citing any authority, that by filing the lawsuit, knowing full well of its arbitration obligation, the dealer had waived its right to arbitrate. The court acknowledged that the suit sought an injunction, which was carved out from the arbitration clause, but in addition, sought substantial damages, not carved out. It is not at all clear whether the rescission or fraudulent inducement claim was part of the original litigation, but the court seemed to reject that argument. The court also held, without citing any authority, that the distributor suffered prejudice to sustain a waiver by virtue of the fact that it had incurred costs and expenses in defending the suit. This comes somewhat as a surprise because there is well-grounded authority that the mere filing of a lawsuit and incurring costs and fees in its defense does not constitute waiver or prejudice. See, Saint Agnes Medical Center v. PacifiCare of California, 31 Cal.4th 1187, 1203; 8 Cal.Rptr.3d 517, 529-530 (2003) (discussing federal cases as well). As Saint Agnes Medical Center recognized, there has to be litigation on the merits, as opposed to simply filing the suit. It appears that no litigation on the merits in the court action occurred as the case was dismissed pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure.

One take-away from this case is that, to the extent a party wants to take advantage of an injunction or equitable relief carve-out in an arbitration provision, it should clearly limit its relief to those remedies. There is a tendency among litigators to attempt to seek other relief, such as damages, once a case is filed, and this should be avoided. Had the dealer in the Riso case done so, it would not have been deemed to have waived its right to arbitration. Another take-away from this case is that if there is going to be a waiver of arbitration argument, the case has to be postured to make certain that argument is made to the court. In Riso, the distributor filed a declaratory relief action so that the issue would be decided by the court, and not the arbitrator.

Charles G. Miller, a member of this newsletter's Board of Editors, is shareholder and director of Bartko, Zankel, Bunzel & Miller in San Francisco. Darryl A. Hart is an attorney with the firm. They can be reached at 415-956-1900 or at [email protected] and [email protected], respectively.