Timelines of Franchisee Termination

The Alabama Supreme Court ruled that a motor vehicle manufacturer could terminate a dealer due to the deteriorating condition and appearance of the dealership’s facility even though the manufacturer was aware of the appearance problems more than 180 days before giving notice of termination to the franchisee. The Court held that, because the problems were both evolving and continuous, the time-notification requirement set forth in the Alabama motor vehicle dealer law was not violated.

The Alabama law prohibits automobile manufacturers from premising a termination decision on a breach that is over 180 days stale before notice of termination is given. However, the Court found that the breaches by the franchisee were repeat occurrences of the same conduct and held that each new occurrence “restarted the clock” for purposes of notice. Courts in jurisdictions with similar statutes have likewise held that each instance of noncompliance with a franchise agreement should be considered a new ground for termination.

In contemplating the termination of a franchisee, franchisors should consider the significance of timing. State laws often impose notice requirements, and such requirements can vary from state to state.

Smith’s Sports Cycles, Inc. v. American Suzuki Motor Corporation, Ala. Sup. Ct., No. 1100400, October 14, 2011.

Franchisor’s Liability for Workers’ Compensation Benefits

The Kentucky Supreme Court recently found that a sandwich shop franchisor was not responsible for paying workers’ compensation claims on behalf of a franchisee who failed to maintain workers’ compensation insurance. At issue was a Kentucky statute that makes “contractors” liable for workers’ compensation benefits even where the injured worker is not the contractor’s direct employee.

After the state’s Uninsured Employers’ Fund paid benefits to a franchisee’s employee, the Fund brought a claim for repayment against the franchisor. The statute defines a contractor as an individual who “contracts with another…to have work performed of a kind which is a regular or recurrent part of the work of the trade, business occupation, or profession of such person.” The Court noted that the franchisor in this case “was in the business of franchising, not the business of selling sandwiches.” Thus, the Court held that the franchisee did not perform a regular or recurrent part of the franchisor’s business, and that the franchisor could not be deemed a contractor for purposes of the statute.

This decision may be interpreted as a victory for franchisors seeking to avoid liability as an employer of their franchisees. However, while the Court did rule in favor of the franchisor, it noted that franchisors are not categorically excluded from being deemed contractors. Instead, each case depends on the exact nature of the relationship at issue. A carefully drafted franchise agreement can help to clarify and limit a franchisor’s responsibilities to its franchisee’s employees.

Doctors’ Associates, Inc. v. Uninsured Employers’ Fund, Ky. Sup. Ct., No. 2010-SC-000658, November 23, 2011.

Covenant of Good Faith and Fair Dealing

The Utah Supreme Court recently held that a manufacturer’s failure to provide a distributor with certain marketing materials was not a breach of the implied covenant of good faith and fair dealing, and did not excuse the distributor’s failure to meet performance guarantees set forth in its agreement with the manufacturer.

The agreement in question required the manufacturer to pay monthly minimum advance payments that would be offset by commission payments earned by the distributor. When the distributor failed to meet the agreement’s performance guarantees, the manufacturer sued for the difference between the advance payments it had made and the commissions actually earned by the distributor. In its defense, the distributor claimed that it had been induced to enter into the agreement by the manufacturer’s oral promises to provide a website and other marketing materials.

According to the Court, the purpose of the covenant of good faith and fair dealing is to prevent a party from taking actions that would intentionally destroy the other party’s right to receive the fruits of the contract. Here, the Court remarked, the distributor sought to impose on the manufacturer an affirmative duty to distribute marketing materials that was not found in the language of the integrated distributor agreement. Furthermore, such duty was not universally established through industry custom or the parties’ course of dealing. Thus, the Court held that the failure to provide marketing materials could not excuse the distributor’s breach of its agreement with the manufacturer.

Young Living Essential Oils, L.C. v. Marin, Utah Sup. Ct., No. 20090875, October 21, 2011.

Compelling Arbitration

In an important ruling for businesses desiring to settle their legal disputes through arbitration, the U.S. Supreme Court has held that, where a complaint contains both arbitrable and non-arbitrable claims, a court must compel arbitration of the arbitrable claims. A court may not refuse to compel arbitration merely because it will lead to piecemeal litigation.

The ruling arose from an action brought by individuals and entities who bought partnership interests in funds co-invested with financier Bernie Madoff. After these investors allegedly lost millions of dollars as a result of Madoff’s scheme to defraud, they brought claims against numerous parties including the accounting firm that had previously audited the funds.

The accounting firm moved to compel arbitration of the claims against it based on an audit services agreement between the firm and a co-defendant. A Florida state trial court denied the motion because two of the four claims against the firm were non-arbitrable, and a state appellate court affirmed.

On appeal, the Supreme Court held that the state court erred in denying arbitration of the two arbitrable claims. According to the Court, the Federal Arbitration Act “leaves no place for the exercise of discretion by a district court, but instead mandates that district courts shall direct the parties to proceed to arbitration on issues as to which an arbitration agreement has been signed.”

KPMG LLP v. Robert Cocchi et al., U.S. Sup. Ct., No. 10-1521, November 7, 2011.