Franchise 101: Defaults Sink Bathroom Remodel Franchisee; and Real Estate Amendment Not Up to Interpretation

June 2021

FRANCHISOR 101: Defaults Sink Bathroom Remodel Franchisee

On competing motions for a temporary restraining order (“TRO”) by ReBath – a nationwide bathroom remodeling franchisor, and its terminated franchisee, ReBath prevailed in restraining the ex-franchisee’s further operations. A federal court found the unambiguous franchise agreement language, and the franchisee’s failure to timely pay royalties and for product purchases, allowed termination.

In the franchise agreement, the franchisee agreed to pay monthly royalties on sales, purchase a yearly product quota from the franchisor and, on termination, not operate or engage in a  business offering similar products or services within a 20-mile radius of the franchisee’s territory.

ReBath had a nationwide agreement with Lowe’s hardware store for franchisees to provide installation services. The franchisee participated voluntarily in the Lowe’s program, which provided up to 40 percent of the franchisee’s sales. Lowe’s and the franchisor received customer complaints about the franchisee’s performance and timing to complete bathroom renovations. Lowe’s ultimately cancelled the arrangement with the franchisee.

Concerned with the franchisee’s exclusion from the Lowe’s program, loss of associated sales, and also its national relationship with Lowe’s, the franchisor sought to replace the franchisee with a new franchisee in the territory. While the franchise agreement did not require participation in the Lowe’s program, the franchisor ultimately terminated the franchisee based on its failure to pay past-due royalties and past-due product purchases. The termination came after a default notice, although the franchisee believed it cured the past-due amounts in response to the notice and continued to operate.

The franchisor then sued for trademark infringement, breach of contract and other claims. The franchisee counterclaimed for breach of contract and breach of implied covenant of good faith and fair dealing, among others. Each party filed motions for a TRO.

The court granted a TRO in favor of the franchisor and denied the franchisee’s TRO request. The court found the franchisor met its burden of showing it was likely to succeed on the merits based on the franchisee’s late payments and resulting termination, even though the franchisee cured the default. The court noted, “Harsh as this approach may be, it was specifically permitted by the Franchise Agreement,” which allows for termination when a franchisee fails to make timely payments on three or more occasions in a 12-month period, regardless of cure.

Prior to terminating a franchise agreement, a franchisor should work closely with franchise counsel to confirm the best course of action permitted under the franchise agreement and consult on potential claims that may be raised by franchisees in response to termination. Doing so places franchisors in a strong position to stave off counterattacks should litigation ensue.

ReBath LLC v. Foothills Service Solutions Company, No. 21-cv-00870-PHX-DWL, 2021 WL 2352426 (D. Ariz. June 9, 2021)

FRANCHISEE 101: Real Estate Amendment Not Up to Interpretation

A franchisee sued real estate franchisor Century 21 for a declaration whether the franchisee could end its franchise agreement early despite a provision that deleted the franchisee’s early termination right. Noting the lawsuit raised “a straightforward question of contract interpretation,” the court granted the franchisor’s motion to dismiss, finding the provision “means exactly what it says.”

The franchisee and franchisor entered a franchise agreement in 2011, which granted the franchisee a “one-time right to terminate.” The effective date of termination was to be the 10 year anniversary of opening provided the franchisee made a payment with its termination notice, of “any and all amounts not previously paid and/or forgiven under any existing promissory notes.”

In 2014, franchisee and franchisor executed an amendment, which deleted any termination right granted to the franchisee under the franchise agreement for “retirement, death, disability or any reason” and replaced such right with a new provision permitting early termination only when a majority franchise owner dies or becomes disabled. The franchisee contended this amendment was added by the franchisor merely to update its standard franchise agreement.

The franchisee argued that the amendment did not delete the original termination language because the “any reason” phrasing must be interpreted as limited to “retirement, death, or disability” and the use of “any reason” is ambiguous, negating dismissal at the pleadings stage.

The court easily rejected the franchisee’s argument that “any reason” was ambiguous and agreed with the franchisor that “any reason” has a “straightforward definition”: “reason” is an explanation, justification, motive, or ground; and “any” means “every,” “all,” or “one or another.”

The court was unpersuaded that “any reason” must be read in conjunction with “retirement, death, or disability.” Rather, it found that “any reason” should be given the meaning that is independent of the other terms, otherwise “any reason” would be superfluous.

The court noted the franchisee was aware of the franchise agreement’s original language when the franchisee agreed to delete the termination right, establishing clear intent of the parties.

Franchisees must review and understand all proposed modifications to the franchise agreement sought by the franchisor prior to signing, even if the changes appear “boilerplate.”

Modifications are often material and can have significant consequences to a franchisee’s previous rights. Franchise counsel can consult and advise over any modifications proposed by a franchisor to help franchisees understand and preserve their rights.

Everest Realty Group v. Century 21 Real Estate, No. 2:21-cv-00150-TC-DAO, 2021 WL 2592848 (D. Utah June 24, 2021)