David J. Kaufmann
David J. Kaufmann ()

The bedrock of franchising is uniformity: Uniformity of franchised unit appearance (with some variation). For quick serve restaurants, it’s uniformity of product offerings, ingredients and recipes. In guest lodging, it’s uniformity of hotel appearance, guest room features, meeting facilities, food and beverage offerings and Wi-Fi availability. In the convenience store setting, it’s uniformity of store appearance and décor; food, beverage and other items offered for sale; inventory requirements; and hours of operation. In franchising, the goal is replication—a McDonald’s Big Mac should taste the same in Boston as it does in Los Angeles and a Holiday Inn hotel should have the same look and feel in Pittsburgh as it does in Portland.

This is what the public wants—indeed, demands. Consumers have come to associate franchisors’ trademarks and service marks with certain standards of quality, product offerings, unit appearance and an array of other attributes. And the public expects those to be reflected in every franchised unit it frequents.

From a legal perspective, how do franchisors accomplish this goal of fostering such uniformity among its franchised and company-owned units? The answer is simple: through a plethora of detailed “brand standards” which must be adhered to throughout the life of the franchise relationship. Every franchise agreement vests in the franchisor the ability to promulgate such standards; add to, delete or modify any one of them from time to time; and, require franchisee adherence to all such standards (as changed or modified). This is how franchise networks maintain the flexibility required to swiftly respond to changed consumer preferences; demographic changes; new technologies; and newly developed products or services. (If a franchisor instead merely set forth all such standards today in its franchise agreement, which typically has a term of ten years, such a franchisor would swiftly find itself obsolete as its competition moved and shifted its standards in response to marketplace changes.)

How far will the judiciary permit franchisors to enforce their standards and to compel franchisees to immediately adopt and deploy new or changed standards? That is the subject of today’s column.

Background

It was only in the late 1950s and the decade of the 1960s in which franchising was first widely used as a means of product and service distribution. It did not take long for a franchisee to challenge its franchisor complaining of newly imposed system standards.

The franchisor in question—Burger King—was not so “mature” at the time, namely 1966. It was then that a franchisee, in Trail Burger King v. Burger King of Miami, 187 So.2d 55 (Dist. Ct. of App. of Fla. 3d Dist. 1966), complained of Burger King changing certain standards and specifications—including an increase in the quantity of meat to be used in making hamburgers. The franchisee refused to comply with Burger King’s new standards. According to the court, the franchisee deliberately sold hamburgers containing less meat than Burger King’s new specifications required; refused to provide adequate condiments on tables; refused to provide background music; refused to paint his building; and utilized unauthorized drink dispensers. The franchisee filed suit over Burger King’s threatened termination of his franchise.

Following a motion for judgment on the pleadings, the Court found that there was no question of fact to be determined and held that Burger King had the right “to set and maintain standards and specifications for the operation of plaintiff(s) restaurant and to make reasonable changes in such standards and specifications from time to time as circumstances may dictate … .” Id. at 57.

Affirming the lower court’s decision in this 1966 case, the judiciary early on sounded a theme that has carried through to today, namely: that a franchisor’s modification of its system is not equivalent to modification of the underlying franchise agreement but, rather, a mere effectuation of that agreement, as follows:

We have found that the (court below) was correct in determining that such changes are not modifications or amendments to the agreement, but were provided for in the agreement. It is clear from the language of the instrument that one of the objects is to provide uniformity among all franchised “Burger King” restaurants. Review of the clauses of the agreement … reveals that this uniformity is accomplished by providing that the defendant set and maintain standards and specifications which the plaintiff must follow or suffer termination of the agreement. The (court below) has interpreted the agreement in accordance with the natural and ordinary meaning of the language employed.

Id. at 58.

That franchisees complaining of proposed system modifications are actually the intended beneficiaries thereof was made clear in Principe v. McDonald’s, in which the U.S. Court of Appeals for the Fourth Circuit observed:

[P]ervasive franchisor supervision and control benefits the franchisee … His business is identified with a network of stores whose very uniformity and predictability attracts customers.

631 F.2d 303 (4th Cir. 1980), cert den. 451 U.S. 970 (1981).

In Frusher v. Baskin-Robbins Ice Cream Co., 146 B.R. 594 (D.R.I. 1992), the court had before it a franchisee who had failed to implement systemic changes implemented by Baskin-Robbins, including remodeling, refurbishing, and selling a wider range of non-Baskin-Robbins products such as Coca-Cola. In September 1990, the franchisee closed her store, filed for bankruptcy and commenced an adversary proceeding against Baskin-Robbins, alleging inter alia that Baskin-Robbins’ refusal to grant her the new product line (including yogurt) unless she remodeled was tantamount to breach of contract.

The court, on Baskin-Robbins’ motion, dismissed each and every claim advanced by the franchisee, observing:

[W]e conclude that [the franchisee's] failure to shape up and live up to the conditions in the new [franchise] agreement gave Baskin-Robbins reasonable cause to refuse her the new product line. In addition, Baskin-Robbins has introduced credible … testimony indicating numerous, although from [the franchisee's] standpoint, picayune violations of the franchise agreement. Her allegation of breach of contract against Baskin-Robbins is not supported by the evidence, while her own shortcomings as a franchisee are pretty well established.

Id. at 598.

Over the years, virtually every court asked to rule on a franchisor’s ability to modify its system and concept have sided with the franchisor. For example, in Economou v. Physicians Weight Loss Centers of America, 756 F. Supp. 1024, CCH Bus. Franchise Guide ¶9771 (N.D. Ohio 1991), at issue was a franchisee’s claim that its weight loss franchisor’s change of program diet, consequent decrease in the franchise network’s consumer weight loss guarantee and the franchisor’s directive that the franchisee disseminate an information sheet warning about certain risks associated with its diet caused such grave economic harm to the franchisee that it was entitled to declare the contract terminated and to operate free of the subject franchise agreement’s covenant not to compete.

Denying’s the franchisee’s motion for a preliminary injunction, the court observed: “In any event, the fact remains that the franchise agreements specifically allow [the franchisor] to make such changes … These contractual clauses serve to defeat plaintiffs’ breach of contract claim. .. In sum, this court finds that defendants have shown a substantial likelihood of success on the merits.” Id. at CCH page 22,001. In turn, the court granted the franchisor’s cross-motion for a preliminary injunction enforcing its covenant not to compete.

Similarly, in Great Clips v. Levine, 1991 WL 322974 and 1991 WL 322975, CCH Bus. Franchise Guide ¶9933 (D. Minn. 1991), the court had before it a franchisee complaining that its franchisor’s policy amendments incorporating new retail price restrictions amounted to a breach of contract, violation of the Sherman Act and violation of the implied covenant of good faith and fair dealing. The court disagreed, granting to franchisor Great Clips its requested declaratory judgment that no Sherman Act violation was extant; that no violation of the implied covenant had transpired; and further granted to the franchisor the above-referenced affirmative injunction.

Lastly, the case of Burger King Corporation v. E-Z Eating 41 Corporation, 572 F.3d 1306 (11th Cir. 2009), very strongly affirms the ability of a franchisor—in this case a quick service restaurant franchisor—to modify its operations manual in such a fashion as to compel franchisee participation in the Burger King “Value Menu” program. In E-Z Eating, a Burger King franchisee alleged that Burger King breached its franchise agreement and the implied covenant of good faith and fair dealing by requiring said franchisee to participate in the Burger King system-wide “Value Menu” program. Strongly rejecting the franchisee’s contention, the Court of Appeals held:

We agree with the district court … Section 5(A) of the Franchise Agreements provided that the franchisee “agrees that changes in the standards, specifications and procedures may become necessary and desirable from time to time and agrees to accept and comply with such modifications, revisions and additions to the … Manual which BKC in the good faith exercise of its judgment believes to be desirable and reasonably necessary.” There is simply no question that (Burger King Corporation) had the power and authority under the Franchise Agreements to impose the Value Menu on its franchisees.

In a subsequent but entirely parallel case whose impact would be felt system-wide within the Burger King network (since plaintiff was Burger King’s National Franchisee Association), the U.S. District Court for the Southern District of Florida issued two opinions. In the first—rendered in May 2010—the court held that under the Burger King franchise agreement, “[plaintiff's] claim that [the Burger King franchise agreement] does not grant BKC the authority to impose maximum prices…fails as a matter of law.” National Franchisee Association v. Burger King, 715 F. Supp. 2d 1232 (S.D. Fla. May 20, 2010).

However, since the subject Burger King franchise agreement language permitted Burger King to compel modifications of its system “which BKC in the good faith exercise of its judgment believes to be desirable and reasonably necessary,” the court in its first decision granted Burger King’s motion to dismiss its franchisees’ claim that it did not have the authority under said franchise agreement to set maximum prices but let proceed the franchisees’ claim that Burger King’s imposition of the $1.00 double cheeseburger violated its contractual duty of good faith.

However, on that issue, too, Burger King prevailed. In its second decision, the Southern District of Florida held:

The purpose of Section 5 [of the Burger King franchise agreement] is to give BKC broad discretion in framing business and marketing strategy by adopting those measures it judges are needed to help the business successfully compete … [T]o adequately raise a claim of bad faith, Plaintiffs must allege some facts suggesting that BKC did not believe that the prices would be helpful to the businesses competitive position, but, for some other reason, deliberately adopted prices that would injure Plaintiffs’ operations. As currently pled, none of the allegations support such an inference of bad faith. Plaintiffs rely principally on their allegation that franchisees could not produce and sell [a double cheeseburger or a double hamburger] at a cost less than $1.00, and therefore that franchisors suffer “a loss” on each of these items sold. Even taken as true, there is nothing inherently suspect about such a pricing strategy for a firm selling multiple products. There are a variety of legitimate reasons where a firm selling multiple products may choose to set the price of a single product below cost. Among other things, such strategy might help build goodwill and customer loyalty, hold or shift customer traffic away from competitors, or serve as “loss leaders” to generate increased sales on other higher margin products.

National Franchisee Association v. Burger King, Slip Copy, 2010 WL 4811912, at 9 (S.D. Fla, November 19, 2010).

So it is that the judiciary has granted franchisors great flexibility and affirmed their ability to modify their systems; promulgate new standards; and require franchisee adherence with such new or changed standards.

The bedrock of franchising is uniformity: Uniformity of franchised unit appearance (with some variation). For quick serve restaurants, it’s uniformity of product offerings, ingredients and recipes. In guest lodging, it’s uniformity of hotel appearance, guest room features, meeting facilities, food and beverage offerings and Wi-Fi availability. In the convenience store setting, it’s uniformity of store appearance and décor; food, beverage and other items offered for sale; inventory requirements; and hours of operation. In franchising, the goal is replication—a McDonald’s Big Mac should taste the same in Boston as it does in Los Angeles and a Holiday Inn hotel should have the same look and feel in Pittsburgh as it does in Portland.

This is what the public wants—indeed, demands. Consumers have come to associate franchisors’ trademarks and service marks with certain standards of quality, product offerings, unit appearance and an array of other attributes. And the public expects those to be reflected in every franchised unit it frequents.

From a legal perspective, how do franchisors accomplish this goal of fostering such uniformity among its franchised and company-owned units? The answer is simple: through a plethora of detailed “brand standards” which must be adhered to throughout the life of the franchise relationship. Every franchise agreement vests in the franchisor the ability to promulgate such standards; add to, delete or modify any one of them from time to time; and, require franchisee adherence to all such standards (as changed or modified). This is how franchise networks maintain the flexibility required to swiftly respond to changed consumer preferences; demographic changes; new technologies; and newly developed products or services. (If a franchisor instead merely set forth all such standards today in its franchise agreement, which typically has a term of ten years, such a franchisor would swiftly find itself obsolete as its competition moved and shifted its standards in response to marketplace changes.)

How far will the judiciary permit franchisors to enforce their standards and to compel franchisees to immediately adopt and deploy new or changed standards? That is the subject of today’s column.

Background

It was only in the late 1950s and the decade of the 1960s in which franchising was first widely used as a means of product and service distribution. It did not take long for a franchisee to challenge its franchisor complaining of newly imposed system standards.

The franchisor in question— Burger King —was not so “mature” at the time, namely 1966. It was then that a franchisee, in Trail Burger King v. Burger King of Miami , 187 So.2d 55 (Dist. Ct. of App. of Fla. 3d Dist. 1966), complained of Burger King changing certain standards and specifications—including an increase in the quantity of meat to be used in making hamburgers. The franchisee refused to comply with Burger King ‘s new standards. According to the court, the franchisee deliberately sold hamburgers containing less meat than Burger King ‘s new specifications required; refused to provide adequate condiments on tables; refused to provide background music; refused to paint his building; and utilized unauthorized drink dispensers. The franchisee filed suit over Burger King ‘s threatened termination of his franchise.

Following a motion for judgment on the pleadings, the Court found that there was no question of fact to be determined and held that Burger King had the right “to set and maintain standards and specifications for the operation of plaintiff(s) restaurant and to make reasonable changes in such standards and specifications from time to time as circumstances may dictate … .” Id. at 57.

Affirming the lower court’s decision in this 1966 case, the judiciary early on sounded a theme that has carried through to today, namely: that a franchisor’s modification of its system is not equivalent to modification of the underlying franchise agreement but, rather, a mere effectuation of that agreement, as follows:

We have found that the (court below) was correct in determining that such changes are not modifications or amendments to the agreement, but were provided for in the agreement. It is clear from the language of the instrument that one of the objects is to provide uniformity among all franchised “ Burger King ” restaurants. Review of the clauses of the agreement … reveals that this uniformity is accomplished by providing that the defendant set and maintain standards and specifications which the plaintiff must follow or suffer termination of the agreement. The (court below) has interpreted the agreement in accordance with the natural and ordinary meaning of the language employed.

Id. at 58.

That franchisees complaining of proposed system modifications are actually the intended beneficiaries thereof was made clear in Principe v. McDonald’s, in which the U.S. Court of Appeals for the Fourth Circuit observed:

[P]ervasive franchisor supervision and control benefits the franchisee … His business is identified with a network of stores whose very uniformity and predictability attracts customers.

631 F.2d 303 (4th Cir. 1980), cert den. 451 U.S. 970 (1981).

In Frusher v. Baskin-Robbins Ice Cream Co. , 146 B.R. 594 ( D.R.I. 1992 ) , the court had before it a franchisee who had failed to implement systemic changes implemented by Baskin-Robbins, including remodeling, refurbishing, and selling a wider range of non-Baskin-Robbins products such as Coca-Cola. In September 1990, the franchisee closed her store, filed for bankruptcy and commenced an adversary proceeding against Baskin-Robbins, alleging inter alia that Baskin-Robbins’ refusal to grant her the new product line (including yogurt) unless she remodeled was tantamount to breach of contract.

The court, on Baskin-Robbins’ motion, dismissed each and every claim advanced by the franchisee, observing:

[W]e conclude that [the franchisee's] failure to shape up and live up to the conditions in the new [franchise] agreement gave Baskin-Robbins reasonable cause to refuse her the new product line. In addition, Baskin-Robbins has introduced credible … testimony indicating numerous, although from [the franchisee's] standpoint, picayune violations of the franchise agreement. Her allegation of breach of contract against Baskin-Robbins is not supported by the evidence, while her own shortcomings as a franchisee are pretty well established.

Id. at 598.

Over the years, virtually every court asked to rule on a franchisor’s ability to modify its system and concept have sided with the franchisor. For example, in Economou v. Physicians Weight Loss Centers of America , 756 F. Supp. 1024 , CCH Bus. Franchise Guide ¶9771 (N.D. Ohio 1991), at issue was a franchisee’s claim that its weight loss franchisor’s change of program diet, consequent decrease in the franchise network’s consumer weight loss guarantee and the franchisor’s directive that the franchisee disseminate an information sheet warning about certain risks associated with its diet caused such grave economic harm to the franchisee that it was entitled to declare the contract terminated and to operate free of the subject franchise agreement’s covenant not to compete.

Denying’s the franchisee’s motion for a preliminary injunction, the court observed: “In any event, the fact remains that the franchise agreements specifically allow [the franchisor] to make such changes … These contractual clauses serve to defeat plaintiffs’ breach of contract claim. .. In sum, this court finds that defendants have shown a substantial likelihood of success on the merits.” Id. at CCH page 22,001. In turn, the court granted the franchisor’s cross-motion for a preliminary injunction enforcing its covenant not to compete.

Similarly, in Great Clips v. Levine, 1991 WL 322974 and 1991 WL 322975, CCH Bus. Franchise Guide ¶9933 (D. Minn. 1991), the court had before it a franchisee complaining that its franchisor’s policy amendments incorporating new retail price restrictions amounted to a breach of contract, violation of the Sherman Act and violation of the implied covenant of good faith and fair dealing. The court disagreed, granting to franchisor Great Clips its requested declaratory judgment that no Sherman Act violation was extant; that no violation of the implied covenant had transpired; and further granted to the franchisor the above-referenced affirmative injunction.

Lastly, the case of Burger King Corporation v. E-Z Eating 41 Corporation , 572 F.3d 1306 ( 11th Cir. 2009 ) , very strongly affirms the ability of a franchisor—in this case a quick service restaurant franchisor—to modify its operations manual in such a fashion as to compel franchisee participation in the Burger King “Value Menu” program. In E-Z Eating, a Burger King franchisee alleged that Burger King breached its franchise agreement and the implied covenant of good faith and fair dealing by requiring said franchisee to participate in the Burger King system-wide “Value Menu” program. Strongly rejecting the franchisee’s contention, the Court of Appeals held:

We agree with the district court … Section 5(A) of the Franchise Agreements provided that the franchisee “agrees that changes in the standards, specifications and procedures may become necessary and desirable from time to time and agrees to accept and comply with such modifications, revisions and additions to the … Manual which BKC in the good faith exercise of its judgment believes to be desirable and reasonably necessary.” There is simply no question that ( Burger King Corporation ) had the power and authority under the Franchise Agreements to impose the Value Menu on its franchisees.

In a subsequent but entirely parallel case whose impact would be felt system-wide within the Burger King network (since plaintiff was Burger King ‘s National Franchisee Association), the U.S. District Court for the Southern District of Florida issued two opinions. In the first—rendered in May 2010—the court held that under the Burger King franchise agreement, “[plaintiff's] claim that [the Burger King franchise agreement] does not grant BKC the authority to impose maximum prices…fails as a matter of law.” National Franchisee Association v. Burger King , 715 F. Supp. 2d 1232 ( S.D. Fla. May 20, 2010 ) .

However, since the subject Burger King franchise agreement language permitted Burger King to compel modifications of its system “which BKC in the good faith exercise of its judgment believes to be desirable and reasonably necessary,” the court in its first decision granted Burger King ‘s motion to dismiss its franchisees’ claim that it did not have the authority under said franchise agreement to set maximum prices but let proceed the franchisees’ claim that Burger King ‘s imposition of the $1.00 double cheeseburger violated its contractual duty of good faith.

However, on that issue, too, Burger King prevailed. In its second decision, the Southern District of Florida held:

The purpose of Section 5 [of the Burger King franchise agreement] is to give BKC broad discretion in framing business and marketing strategy by adopting those measures it judges are needed to help the business successfully compete … [T]o adequately raise a claim of bad faith, Plaintiffs must allege some facts suggesting that BKC did not believe that the prices would be helpful to the businesses competitive position, but, for some other reason, deliberately adopted prices that would injure Plaintiffs’ operations. As currently pled, none of the allegations support such an inference of bad faith. Plaintiffs rely principally on their allegation that franchisees could not produce and sell [a double cheeseburger or a double hamburger] at a cost less than $1.00, and therefore that franchisors suffer “a loss” on each of these items sold. Even taken as true, there is nothing inherently suspect about such a pricing strategy for a firm selling multiple products. There are a variety of legitimate reasons where a firm selling multiple products may choose to set the price of a single product below cost. Among other things, such strategy might help build goodwill and customer loyalty, hold or shift customer traffic away from competitors, or serve as “loss leaders” to generate increased sales on other higher margin products.

National Franchisee Association v. Burger King , Slip Copy, 2010 WL 4811912, at 9 (S.D. Fla, November 19, 2010).

So it is that the judiciary has granted franchisors great flexibility and affirmed their ability to modify their systems; promulgate new standards; and require franchisee adherence with such new or changed standards.