Litigation and Dispute Resolution Division

About the Division

LADR (the Forum’s Litigation and Dispute Resolution Division) presents the following case update so that Forum Members can stay current on important or interesting developments in franchise law.

We also want to invite you to connect with LADR’s Steering Committee for Breakfast on Thursday, October 11, 2018, at 7:00 a.m. at the ABA’s 41st Annual Forum on Franchising in Nashville, Tennessee. The substantive portion of the LADR Breakfast will discuss mediation best practices to follow and worst practices to avoid, with special guests and experienced Nashville-based mediators Marnie Huff and Matt Sweeney. Moderating will be our own John Gotaskie. Additionally, LADR is soliciting YOUR questions for our panelists to address. Those questions can be forwarded to John Gotaskie at [email protected]. App. 805, 812 S.E.2d 72 (2018)

How a franchisor elects to deal with a franchisee’s anticipatory repudiation of a long-term franchise agreement can have a profound impact on the franchisor’s remedies. This recent case teaches that if a franchisee repudiates and the franchisor elects to stop performing, then the franchisor should seek to recover both past due and future fees in one action or risk foregoing the future fees altogether.

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Six years into a 25-year franchise agreement for a daycare center, the franchisee gave notice of termination, said it would de-identify, and stopped paying monthly royalty and advertising fees. The franchisor immediately stopped providing services and support. The parties then engaged in serial lawsuits where the franchisor was barred from suing for future fees due under the remaining 19 years of the agreement.

The First Suit

The franchisee sued the franchisor for  negligent misrepresentation and violation of federal franchise rules. The franchisor counterclaimed for breach of the agreement, seeking all sums owed under the 25-year franchise agreement, including all unpaid fees. The franchisor characterized its claim as involving future damages and involving fees through the term of the agreement. When it became apparent that it might not be able to prove its claim for future fees, the franchisor abandoned its claim at trial. The court entered judgment for the franchisee on its misrepresentation and negligence claims and for the franchisor on its counterclaim for past unpaid fees.  Both parties appealed.

The Second Suit

While the appeals of the first suit were pending, the franchisor sued the franchisee claiming breach of contract for failure to pay royalty and advertising fees for two months. In a summary judgment motion, the franchisee asserted res judicata, contending the issue of future fees could have been litigated in the first suit but was abandoned by the franchisor and a final judgment entered. The trial court found an issue of material fact as to the franchisor’s choice of remedy.

After a bench trial, the court concluded that the franchisor had accepted the franchisee’s repudiation and elected to treat it as a breach of the entire agreement. Thus, in the first suit the counterclaim was for a breach of the entire agreement—including for all future monthly fees—and there was “nothing left after that lawsuit to sue under.” Res judicata barred the franchisor’s claim for future fees.

The Appeal Of The Second Suit

The franchisor appealed, but there was more than sufficient evidence to support the court’s finding.  Upon repudiation, the franchisor had three options: (1) rescind the contract altogether and recover the value of its performance on principles of quasi-contract; (2) treat the repudiation as a breach of the entire agreement and bring an action for damages; or (3) continue to fulfill its obligations while waiting for the franchisee’s time for performance and then bring suit after the time had arrived. If the franchisor chose either the first or second option, it would have been relieved of its obligation to continue performing under the franchise agreement. But, if it chose the third option, it would be required to continue performing, regardless whether the franchisee fulfilled its obligations.

The court concluded the franchisor chose the second option because it stopped performing and sued for all fees. The franchisor could not reverse or change its election by giving notice at trial in the first suit that it was not going to pursue the future fees.  Having accepted the franchisee’s anticipatory breach of the entire agreement, the franchisor should have pursued all the fees due under the agreement—both past and future—in the first suit or not at all.

Erica Calderas for LADR

Case Note from LADR

LADR presents the following case note so that readers can stay current on important or interesting developments in franchise law: Mujo v. Jani-King Int'l, Inc., 13 F.4th 204 (2d Cir. 2021).

A recent case from the United States Court of Appeals for the Second Circuit demonstrates that the question of whether a franchisee can assert a claim for misclassification under the several state laws in the United States remains a live issue.

Jani-King is a franchisor of commercial cleaning services. Jani-King receives payment directly from its customers for cleaning services provided by its franchisees, and then Jani-King pays its franchisees after deducting fees from the customer's payments. The fees are agreed upon in each franchisee's agreement. Jani-King negotiates the terms of the customer contract and offers the customer to one its franchisees.

Plaintiff-Appellants Simon Mujo and Indrit Muharremi, franchisees of Jani-King International, Inc., brought claims against Jani-King for improperly reducing their wages under Connecticut law and for unjust enrichment under Connecticut's anti-kickback statute. Plaintiff-Appellants contended that their franchisees were misclassified as independent contractors, but are actually Jani-King's employees. The Second Circuit Court of Appeals affirmed the district court in dismissing Appellants' claims of improper wage deductions and unjust enrichment because even if the franchisees were considered employees, the franchisees had agreed in their franchise agreements to deductions in their gross revenue.

Under Connecticut law, service is deemed to be employment unless it is shown that (i) the individual has been and will continue to be free from the control and direction in connection with the performance of such service, (ii) such service is performed either outside the usual course of the business for which the service is performed, and (iii) the individual is customarily engaged in an independently established trade, occupation, profession or business of the same nature involved in the service performed. This test is commonly known as the ABC test and is also applied in other jurisdictions.

If Plaintiff-Appellants were employees of Jani-King, then Jani-King would be subject to the Connecticut Minimum Wage Act and Connecticut's anti-kickback statute. The Connecticut Minimum Wage Act states that an employer cannot withhold wages unless (1) the employer is required or empowered to do so by state or federal law, (2) the employer has written authorization from the employee for deductions on a form approved by the commissioner, (3) the deductions are authorized by the employee, in writing for certain health care expenses, (4) the deductions are for contributions attributable to automatic enrollment, or (5) the employer is required under the law of another state to withhold income tax of that state. The Connecticut anti-kickback statute implicated in this matter prohibits employers from deducting any part of the wages with the representation that the fee is necessary to secure or continue employment.

Connecticut also defines a franchise under the Connecticut Franchise Act. The opinion cited to a decision from the Connecticut Appellate Court, Jason Roberts, Inc. v. Administrator, 127 Conn.App. 780 (2011), which held that an individual can be both an employee under the ABC test while simultaneously classified as a franchisee.

Appellants contended that Jani-King violated the Connecticut Minimum Wage Act by deducting fees from their compensation, and those fees were not permitted under the Wage Act. The Wage Act did not define "wages." However, the Connecticut Supreme Court previously found that the wages should be defined under the employment contract. In this case, the Court found that the franchise agreement was also the employment agreement.

Based on this analysis, the Court agreed with the district court in finding that the Appellants failed to state a claim under the Wage Act because the franchise agreement allowed the deductions. Even if the Appellants were employees, the franchisees' wages constitute the franchisees' profit after Jani-King makes its deductions under the franchise agreement. Therefore, the Wage Act did not apply to the portion of gross franchise revenue that the parties agreed is not part of the franchisees' compensation.

The Court further agreed with the district court in granting Jani-King summary judgment on Appellants' unjust enrichment claim. Connecticut law expressly authorizes bona fide franchise agreements, in which the franchisee receives the benefit of the franchisor's intellectual property and support services in exchange for franchise fees and recognizes that franchisees may simultaneously be classified as employees. These employee-franchisees may enter into compensation agreements that define the franchisees' compensation as the portion of gross revenue attributable to the employee-franchisees' work after the franchise fees are subtracted. The Court found that the parties agreed to the structure of the payments, and that the Appellants did not show that the franchise agreement was not a bona fide franchise agreement.

Appellants sought an order certifying three questions of law: (1) Where workers are misclassified as independent contractors under the ABC test, is it a violation of Connecticut law to require the workers to make payments they could not have been required to make if they had been properly classified as employees? (2) Where misclassified workers are actually employees of a franchisor, do "franchise fees" they must pay in order to obtain janitorial work qualify as unlawful payments for a job under the Connecticut anti-kickback statute? (3) Is a contract purporting to authorize deductions from a worker's pay binding and enforceable where the same contract purporting to authorize the deductions also misclassifies the worker as an independent contractor such that the worker may not realize the deductions would be unlawful deductions from wages under the Connecticut Minimum Wage Act?

The Court found that Appellants' proposed questions did not warrant certification. The Court found there were authoritative Connecticut state court decisions supporting the conclusion that, even if the franchisees were employees, an employee and employer may enter into an employment contract where the employee's wages are defined as some sum of money less than the gross revenue received by the employer.

The dissent claimed that the Court should have certified because it believed there is still a question under Connecticut law as to the proper classification of Appellants as employees, franchisees, or a hybrid of the two. The dissent noted that the First Circuit Court of Appeals in Patel v. 7-Eleven, Inc., 8 F.4th 26 (1st Cir. 2021), recently certified to the Massachusetts Supreme Judicial Court whether the ABC test applies to the relationship between a franchisor and a franchisee. Because the consequence of the proper classification of Appellants directly impacted the ultimate outcome of the case, the dissenting judge considered it inappropriate to decide the merits without asking the Connecticut Supreme Court to weigh in. The dissent also criticized the majority's characterization of Jason Roberts, stating that the case actually suggests that when a worker qualifies as an employee, Connecticut employment law applies, regardless of whether a franchise agreement was signed.

Division Leadership

Chair

John Gotaskie
Fox Rothschild, LLP

Steering Committee

Xiaoyin Cao
Carmen D. Caruso Law Firm

Phil Carrillo
Mulcahy, LLP

Sally Dahlstrom
Haynes Boone, LLP

Mark Leitner
Laffey, Leitner & Goode, LLC

Anne Baroody
Parker, Hudson, Rainer & Dobbs, LLP

Frank Sciremammano
Lathrop GPM

Past LADR Case Notes - 2021

McDonald’s USA, LLC, et al. and Fast Food Workers Committee and Service Employees International Union, CTW, CLC, et al. Cases 02-CA-093893, et al. (December 12, 2019)

LADR (the Forum’s Litigation and Dispute Resolution Division) presents the following case update so that Forum members can stay current on important or interesting developments in franchise law.

On December 12, 2019, the National Labor Relations Board (“NLRB”) finally resolved the years-long McDonald’s joint employer dispute by directing an Administrative Law Judge to approve a settlement of the dispute. The essence of the litigation revolved around the employee’s theory that McDonald’s USA, LLC (“McDonald’s”), as a franchisor, was liable as a joint employer of its franchisees’ employees for alleged violations of unfair labor practices under the National Labor Relations Act.   The case did not involve allegations that McDonald’s independently violated the Act, but did involve allegations that McDonald’s “possessed and/or exercised” sufficient control over its franchisees’ labor relations policies that it should be held jointly and severally liable as a joint employer with the franchisees.  While the Administrative Law Judge initially had rejected the settlement in July of 2018, the Board directed the Administrative Law Judge to accept the settlement in light of the fact that any ultimate ruling would have limited precedential value due to the NLRB’s recent proposed rulemaking that would re-institute a finding of joint employer status only in situations where the employer/franchisor “possess[es] and actually exercise[s] substantial direct and immediate control over the essential terms and conditions of employment of another employer's employees in a manner that is not limited and routine” (i.e., the pre-Browning-Ferris test).

The Board determined that the settlement agreements met the “reasonableness” factors established in Independent Stave, 287 NLRB 740 (1987), including that the affected employees would be provided a full remedy under the settlement agreements.  Notably, the settlement agreements did not impose joint and several liability on McDonald’s as a joint employer, but did require McDonald’s to support the remedies agreed to by the franchisees and McDonald’s Restaurants of Illinois. 

Members Marvin E. Kaplan and William J. Emanuel joined in the majority opinion, and Member Lauren McFerran dissented.