Franchise 101: Romaine Rejection; and A Franchisor Without Urgency

Franchisor 101: Romaine Rejection

Many will recall the 2018 national outbreak of E. coli bacteria linked to romaine lettuce. In April that year, an Ohio franchisor ordered its restaurants to stop serving romaine lettuce and dispose of any remaining romaine lettuce in stock. Despite several notices, one franchisee continued to serve romaine lettuce into May 2018.

In July 2018, the franchisor terminated the franchisee. The termination notice said that serving romaine lettuce was a serious violation of the franchise agreement that endangered public health and threatened the existence of the franchise system. The franchisee denied all accusations.

The franchisor sued to enjoin the franchisee from further use of its trademark and trade dress to operate the restaurant. Three days later, the franchisee filed a Chapter 11 bankruptcy petition. The franchisor moved to dismiss the bankruptcy, arguing no reorganization was possible since the franchisor terminated the franchise agreement.

The bankruptcy court disagreed and let the franchisee debtor proceed with his petition, finding the franchisor’s termination of the franchise agreement was invalid. The court agreed that serving romaine lettuce during the E. coli outbreak threatened public safety, and that the franchisee did not have the right to substitute its own judgment for the franchisor’s. The court interpreted the franchise agreement’s “public health and safety” clause as an “emergency” provision that could be invoked only while a threat or danger was ongoing. The court ruled the termination was invalid because the franchisor tried to terminate the franchise agreement after the threat passed.

An appellate panel upheld the ruling. It agreed that terminating a franchise agreement due to a current or ongoing threat or danger to public health and safety, without an opportunity to cure, was a reasonable reading of the clause, allowing termination without notice to avoid an immediate threat or danger. But the panel found that once the threat or danger passed, the franchise agreement required notice and an opportunity to cure before termination.

Terminating a franchisee without allowing an opportunity to cure is extreme, absent specific circumstances, especially in states with relationship laws. Prior to terminating a franchise, franchisors should consult franchise counsel to assess if an opportunity to cure must be provided and enforceability of post-termination provisions, especially when the franchisee may file for bankruptcy protection.

Franchisee 101: A Franchisor Without Urgency

A federal court in Alabama denied an urgent care franchisee’s motion to dismiss a suit brought by its franchisor. The franchisee argued the franchise agreement required suits to be brought within a one-year period. But the court found the franchisor’s suit was timely.

The franchise agreement was to operate an urgent care facility using the name “Doctors Express.” The original franchisor was “Doctors Express Franchising.” Later, Doctors Express sold the franchise system to AFC Franchising, LLC. Under the franchise agreement, the franchisee was obligated to comply with the franchisor’s directions to modify or stop use of certain trademarks. After acquiring the franchise system, AFC directed franchisees to change the name to “American Family Care” or “AFC Urgent Care.” The franchisee refused and continued to operate as “Doctors Express.”

AFC sued in Alabama, AFC’s home state, to enforce the brand change. The franchisee moved to dismiss, arguing that AFC waited too long to sue, because the franchise agreement required claims be brought within one year of discovering the facts of the claim. The franchisee also argued that the franchise agreement said it would be governed by Maryland law.

The court noted that while Maryland law would enforce contractual time limits that are shorter than the state’s statute of limitations, Alabama has a six-year limitation period, and the court would not enforce the franchise agreement’s shorter period. Under Alabama choice-of-law rules, Alabama law controls if the contract’s time limit is considered “procedural,” but Maryland law controls if the contractual time limit is considered “substantive.” The court ruled that the contractual limit was procedural. Therefore Alabama’s six-year statute of limitations applied to AFC’s claims, and the suit was timely.

State law may modify franchise agreement provisions. If involved in a lawsuit, franchisees should consult their franchise counsel to analyze potential conflicts of state law to determine if a contractual provision is enforceable.

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