Originally presented to the American Bar Association Forum on Franchising in 2003

1. Excerpts by Carmen D. Caruso from
WHAT LIES BENEATH?
THE FRANCHISEE PERSPECTIVE ON
FRANCHISE CLAIMS BEYOND THE WRITTEN AGREEMENT
Presented to the American Bar Association Forum On Franchising (2003)
I. INTRODUCTION
Franchisors, franchisees, and their respective attorneys too often wrongly assume that
their respective rights and responsibilities are completely defined in the written agreements. In
fact, both franchisors and franchisees have rights and responsibilities that may be different from,
or even contrary to, the specific language of the written documents.
In our judgment, as attorneys who regularly represent franchisees and dealers, a proper
evaluation of claims that may be brought on behalf of a franchisee beyond those arising out of
the written agreement requires the following analysis:
(1) Review the written agreement;
(2) Determine all actual and arguable reasons for the conduct in question;
(3) Determine the availability of a state or federal statutory claim; and
(4) Consider the potential for common-law contract and tort claims.
In our experience, both franchisors and franchisees typically do a particularly good job on
step 1, but frequently fail to thoroughly complete steps 2 through 4, oversights that can, and
have, cost them a great deal of money!
In this presentation, we will take you through these steps and make a few
recommendations for thinking beyond the written agreement when evaluating all the possible
claims that may be brought on behalf of a franchisee in the face of harmful conduct by the
franchisor.1
II. TO “LOOK BEYOND” THE WRITTEN AGREEMENT, IT IS IMPORTANT TO FIRST
LOOK AT THE WRITTEN AGREEMENT
A. Identify Language That Supports A Franchisee’s Potential Claims Under
The Agreement
1 No effort is made in this Article to completely survey the law in all fifty states or in any territories. We will,
however, attempt to present a representative sample of claims that will most likely be asserted going forward.
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2. Franchisors practice risk management in drafting their franchise agreements. An
attempt is made to minimize the franchisors’ potential exposure to liability and damages to their
franchisees in any future litigation or arbitration. In the first instance, franchisors seek to limit
their express duties to their franchisees, thus minimizing the likelihood of breach. In franchise
agreements, the franchisors’ express duties are often stated in one paragraph or less. Beyond
the basic grant of the franchise and certain pre-opening occurrences such as a limited amount
of training, possibly some assistance on site selection, and the provision of an operating
manual, franchisors usually phrase the balance of their “duties”, and especially their ongoing
“duties” to a franchisee over the projected term, in discretionary (“may”) rather than mandatory
(“must” or “shall”) language.
Thus, it is a relatively rare (but by no means non-existent) case in which a franchisee
may prevail in a claim for breach of an express written contractual duty by the franchisor. This
article presents a methodology for franchisee counsel to analyze potential claims beyond those
for breach of an express written contractual term.
From the franchisee’s perspective, the minimization of a franchisor’s mandatory duties
that might give rise to a claim for breach of an express contract term would not be particularly
problematic if the franchisee could be assured of aggressive and consistent judicial enforcement
of the implied covenant of good faith and fair dealing (“implied covenant”), which would impose
a substantial degree of accountability on the franchisor for its decision-making when those
decisions impact the franchisee. Historically, franchisees have relied on the implied covenant
for judicial protection against abusive franchisor conduct in carrying out its discretionary “duties”
or in exercising its discretionary rights. In virtually every state, courts have recognized that a
covenant of good faith and fair dealing is implied in every contract.2 The implied covenant is an
aid to the interpretation of the parties’ duties under their franchise agreement. It may not
typically contradict the agreement’s express terms, and is not typically an independent source of
contractual duties.3 The implied covenant may, however, impose additional duties upon a party
in the course of its performance pursuant to an express contract term. For example, a district
court recently held that where an agreement gives one party an express right of termination, the
party that intends to terminate “must act with good faith and fair dealing in keeping the other
party adequately aware of its plans to terminate. It cannot encourage the other party to expand
or incur additional expenses where, unlike the other party, the terminating party knows
information that leads it to believe actual termination is likely.”4
The means of establishing a claim for breach of the implied covenant of good faith and
fair dealing are discussed below. The first step, however, is to read the agreement to determine
whether the duty of good faith expressly applies—and why shouldn’t it also apply, we ask, when
we are involved in negotiating the terms of the written agreement?
2 See Martindale v. Lake Shore Nat’l Bank, 15 Ill.2d 272, 286, 154 N.E.2d 683 (1958). Some states (including
Illinois) permit “express disavowal” of the implied covenant, which is a holding the authors do not agree with.
3 Zeidler v. A&W Rests., Inc., 301 F.3d 572, 575 (7th Cir. 2002) (“‘Bad faith’ is a term of art in contract law; it
refers to one party's manipulation of contractual terms in order to take commercial advantage of another party”).
4 Morris Silverman Mgmt. Corp. v. W. Union Fin. Servs., 2003 U.S. Dist. LEXIS 10569, *18 (N.D. Ill. June 20,
2003) (applying New Jersey law).
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3. A second inquiry is whether the franchisor is “given wide discretion” in taking any action
that impacts the franchisee, leaving the franchisee to “hope the discretion is exercised fairly.”5
When one party to a contract is vested with contractual discretion, we submit that the law
requires that it must exercise that discretion reasonably and with proper motive, and may not do
so arbitrarily, capriciously or in a manner inconsistent with the reasonable expectations of the
parties.6 “This principle ensures that parties do not try to take advantage of each other in a way
that could not have been contemplated at the time the contract was drafted or to do anything
that would destroy the other party’s right to receive the benefit of the contract.”7
The duty of good faith and fair dealing may also be invoked where there is some “gap” in
the agreement which evidences the context by which the agreement is entered into, or where
the drafters did not attempt to delineate every possible situation that may arise over the course
of the parties’ relationship over its projected term.8
B.
Identify Language That Hurts The Franchisee
1. Expressly Negating The Claimed Right
The most obviously harmful language with respect to any potential claim based on the
franchise agreement would be a clause that expressly negates the claimed right that the
franchisee is seeking to assert, e.g., a clause that expressly provides that the grant of the
franchise at a specific location does not create an exclusive territory and does not preclude the
franchisor from opening competing locations in close proximity to the franchised location.
Frequently, such clauses appear to be added by franchisors in response to judicial decisions in
which the courts upheld bad faith claims on issues where the agreements had been silent.9
2. “No Implied Agreements”
Next, the franchisor may include language providing that the agreement is complete as
written and that there are no “implied agreements.” Franchisors argue in litigation that a “no
implied agreements” clause should be interpreted as negating the implied covenant of good
faith and fair dealing in its entirety. That assertion arguably has no merit. Since the implied
covenant of good faith and fair dealing is not typically viewed as an independent source of
5 Dayan v. McDonald’s Corp., 125 Ill. App. 3d 972, 990, 466 N.E.2d 958 (1st Dist. 1984).
6 Id. at 991.
7 Voyles v. Sandia Mortgage Co., 196 Ill.2d 288, 296, 751 N.E.2d 1126 (2001) (citations omitted).
8 See Original Great Am. Chocolate Chip Cookie Co. v. River Valley Cookie, Ltd., 970 F.2d. 273, 280 (7th Cir.
1992) (“Good faith is … the duty to avoid taking advantage of gaps in [a franchise agreement] in order to exploit the
vulnerabilities that arise in performance”); see also, Fox and Su, Franchise Regulation: Solutions In Search Of
Problems, 20 Okla. City U. L. Rev. 241, n. 17 (1995) (“A [franchise agreement] is relational to the extent that the
parties are incapable of reducing important terms of the arrangement to well-defined obligations. Such definitive
obligations may be impractical because of inability to identify uncertain future conditions or because of inability to
characterize complex adaptations adequately even when the contingencies themselves can be identified in
advance”).
9 See Scheck v. Burger King Corp., 798 F. Supp. 692 (S.D. Fla. 1992) and Burger King Corp. v. Weaver, 169
F.3d 1310 (11th Cir. 1999). In the 1992 case, the district court had concluded from the agreement’s grant of a
franchise at a particular location coupled with silence on the subject of territorial protection that the franchisor’s
implied duty of good faith included a duty not to encroach. By the time of the 1999 case, Burger King had modified its
franchise agreement to expressly negate any claim of protection from encroachment.
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4. contract-in-fact duties, but rather is a contract-in-law aid in interpreting the existing agreement,
the covenant’s existence should not be affected by a clause stating that there are “no
[independent] implied agreements.”10 If a franchisor is attempting to negate the existence of the
implied covenant of good faith and fair dealing, the authors urge that it do so expressly, and
thus put the prospective franchisee on fair notice that this claim may not be available.11
3. Integration And “No Reliance” Clauses
Integration clauses are a third major way that franchisors seek to categorically limit a
franchisee’s rights. For fraud claims, it remains unsettled whether a provision that the written
agreement is complete will bar a franchisee from claiming reliance upon misrepresentations that
induced the investment. In a recent Seventh Circuit case, the court held that if a contract was
procured by fraud, an integration clause reciting that the written agreement was complete would
not preclude a fraud claim arising from the parties’ discussions before the contract was signed;
the integration clause “would go down the drain with the contract of which it was a part.”12 The
court of appeals explained, however, that parties seeking to avoid fraud claims could still protect
themselves by specifically providing that there was “no reliance” upon any oral or written
representations not included in the final agreement. There is other authority to the contrary (as
there should be, given the authors’ view that “actual” reliance is an inherently factual question,
regardless of what the boilerplate language, inserted by the party with all the bargaining power,
provides).13
Particularly problematic for franchisees are attempts by franchisors to utilize a “no
reliance on prior representations” clause to deprive the franchisee from asserting a claim for
misrepresentations contained in the Offering Circular. That application of an integration clause
arguably violates public policy, since, after all, franchisors provide Offering Circulars to comply
with the Federal Trade Commission’s Franchise Rule14 and state laws, if applicable. “No
waiver” clauses in applicable state franchising laws arguably bar the application of a “no-
reliance” clause to statutorily required disclosures.15 Further, if the integration or “no reliance”
10 See Johnstone v. Bank of Am., 173 F. Supp. 2d 809 (N.D. Ill. 2001) (the implied covenant is not a source of
independent duties).
11 See Interim Health Care of Northern Illinois, Inc. v. Interim Health Care, 225 F.3d 876 (7th Cir. 2000)
(holding that under Illinois law, the covenant can be expressly negated). We question the soundness of this holding.
If, in fact, the covenant is, as we argue, a contract-in-law provision added by courts and legislatures as a matter of
fundamental public policy, should not this covenant, like franchise acts generally, be immune from elimination by the
party with all the bargaining power? Moreover, we submit that it is impossible to eliminate all discretion from the
performance of a long-term contract, and that attempts to completely eradicate good faith, i.e. to leave one party
completely at the mercy of other, would arguably violate public policy.
12 Vigortone AG Prods., Inc. v. AG Prods., Inc., 316 F.3d 641 (7th Cir. 2002) (citing, inter alia, Olympia Hotels
Corp. v. Johnson Wax Dev. Corp., 908 F.2d 1363, 1371 (7th Cir. 1990)).
13 See e.g., Healy v. Carlson Travel Network Assocs., 227 F. Supp. 2d 1080, 1094 (D. Minn. 2002) (franchisee
tried to negate a no-reliance clause in the boilerplate contract provisions of a franchise agreement. Because the
franchisee could not make out a viable claim of fraud based on evidence at the trial, the court merely declared the
issue moot. It did note, however, that “no defendant may escape liability for actual fraud through the use of general
disclaimers” ) (citing Commercial Props, Inv., Inc. v. Quality Inns Int’l, Inc., 938 F.2d 870 (8th Cir. 1991)).
14 Disclosure Requirements and Prohibitions Concerning Franchising and Business Opportunities Ventures, 16
C.F.R. § 436 (2000) (hereinafter “Franchise Rule” or “FTC Franchise Rule”).
15 See 815 Ill. Comp. Stat § 705/41(the “no waiver” provision of the Illinois Franchise Disclosure Act ). If the
franchisee has an unwaivable right to receive these disclosures, then the franchisee must have an unwaivable right to
rely upon them.
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5. clause does not expressly refer to representations made in the Offering Circular, such an
interpretation should not be inferred. The presumption should be that the parties did not intend
to waive statutory or regulatory protection, absent proof that the waiver was voluntary, knowing
and intentional (and even then, the waiver should be void).16 17
As for contract claims, integration clauses are commonly enforced, leaving a party
seeking to avoid its application to try to establish that the franchise agreement was incomplete
(which is rare), ambiguous, or that the proposed additional term is actually a separate
agreement that was not part of the subject matter of the agreement containing the integration
clause.18
4. Choice-Of-Law Provisions
Franchisors use choice-of-law clauses in an attempt to control the substantive law that
will govern the parties’ agreement. Where the parties have selected the law of a state other
than the forum state, courts determine whether to apply the foreign state law by applying this
four-part test (or a close variation): (1) Did the parties agree to the choice of law in advance?
(2) Are the contacts of the parties evenly divided between the chosen state and the plaintiff’s
state? (3) Are the parties of relatively equal bargaining strength? and (4) Is the application of
the chosen law repugnant to the public policy of the franchisee’s state?19
Problems arise when franchisors seek to use choice-of-law clauses to circumvent state
franchising acts. With both the proliferation of state laws regulating the termination or
substantial alteration of franchise relationships and the wide disparity in the nature and amount
of regulation, enforceable choice-of-law provisions may dramatically affect the rights of those on
both sides of the franchise relationship. Historically, state statutes regulating the conduct of
parties to a franchise agreement have been viewed by courts as embodying the fundamental
public policy of the state, and, as such, in the past, courts have consistently held that these
statutes prevailed over conflicting language in the agreements between the parties.20
16 See Gibson v. Neighborhood Health Clinics, 121 F.3d 1126, 1129 (7th Cir. 1997) (requirements for waiver).
Further, we submit that the presumption should be that the parties intended for their agreement to be legal, and not
violative of statutory no-waiver clauses. See Aronson v. Arakelian, 154 F.2d 231 (7th Cir. 1946) (presumption against
judicial construction that would render contract illegal).
17 As discussed below with respect to Little FTC Acts, franchisees might also turn to state consumer fraud or
deceptive business practice laws to avoid the potential application of integration clauses in general, and as applied to
UFOC disclosures in particular.
18 See Miniasian v. Standard Chtd. Bank, 109 F.3d 1212, 1215 (7th Cir. 1997) (if an integration clause is to
have any application, the “subject matter” of the alleged false promises must be fully integrated into “an unambiguous
contract provision”).
19 See Modern Computer Sys. v. Modern Banking Sys., 871 F.2d 734 (8th Cir. 1989). See also TeleSave
Merchandising Co. v. Consumers Distrib. Co., 814 F.2d 1120 (6th Cir. 1987).
20 See Luis Rosario, Inc. v. Amana Refrigeration, 733 F.2d 172, 173 (1st Cir. 1984) (holding that the public
policy of the Puerto Rico Dealer’s Act was to prevent dealer termination without just cause); Arnott v. American Oil
Co., 609 F.2d 873 (8th Cir. 1979) (holding that the South Dakota Franchise Act indicated the state’s public policy
regarding franchise terminations); Cutter v. Scott & Fetzer Co., 510 F. Supp. 905 (E.D. Wis. 1981) (applying the
Wisconsin Fair Dealership Law notwithstanding a contrary choice-of-law provision); 33 Flavors, Inc. v. Bresler’s 33
Flavors, 475 F. Supp. 217, 227 n.29 (D. Del. 1979) (“The Delaware courts have recognized the Franchise Act as
being an expression of the public policy of the State of Delaware”).
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6. State franchising statutes or regulations typically prohibit contract terms that would
provide for a choice of law other than the state where the franchise is located.21 However,
some courts have disregarded these statutory provisions and have enforced a choice of law
clause that was intended to override the state statute. In both Tele-Save Merchandising Co. v.
Consumers Distrib. Co. and Modern Computer Sys. v. Modern Banking Sys., the courts
determined that, despite the non-waiver language of the state statutes at issue, the public policy
supporting freedom of contract was at least as important as the public policy which favored
applying a state’s franchise protection statutes. Applying the four-part test stated above, both
the Tele-Save and Modern Computer courts examined the bargaining history and relative
bargaining strength of the would-be franchisor and franchisee and concluded that, in fact, both
parties were of relatively equal bargaining strength and had bargained in good faith. Both
courts therefore found that the strong public policy favoring the parties’ freedom of contract
should prevail over strong public policy favoring enforcement of state statutes; the courts gave
legal effect to the choice-of-law provisions because, in essence, the would-be franchisees had
intentionally bargained away their statutory protection.22
After Tele-Save and Modern Computer were decided, franchisee lawyers feared that
federal courts subsequently facing the issue might expand the holdings beyond their particular
facts to conclude that choice-of-law provisions always prevail over otherwise applicable state
statutes. Some case law addressing this issue has confirmed this fear.23 But not all
jurisdictions have followed what these franchisee lawyers see as a particularly disturbing trend.
The most comprehensive rejection of the Tele-Save/Modern Computer reasoning came in
Wright-Moore Corp. v. Ricoh Corp., wherein the Seventh Circuit refused to apply the Modern
21 See 14 Ill. Admin. Code § 200.608, enacted pursuant to authority conferred by the Illinois Franchise
Disclosure Act, which contains the non-waiver provisions cited above.
22 See also Computrol, Inc. v. Newtrend L.P., 203 F.3d 1064; 2000 WL 14311 (8th Cir. 2000) (noting that,
“exculpatory or limitation of damages clauses are not favored and must be strictly construed against a benefiting
party, but may be enforceable in certain circumstances where overriding, strong public policy exists).
23 See Anderson v. United Air Specialists, Inc., Bus. Franchise Guide (CCH) ¶ 9,600 (D. Minn. 1990)
(accepting that the choice-of-law provision eliminated the otherwise applicable franchise statute, without any finding
that the provision was intentionally and freely negotiated by parties of relatively equal bargaining strength);
Commercial Property Inv., Inc. v. Quality Inns Int’l, Inc., 1991 WL 122372 (8th Cir. 1991) (skipping its earlier four-step
analysis entirely, the Eighth Circuit simply concluded that Modern Computer required it to uphold a choice-of-law
provision in a distributorship agreement despite a franchise act’s anti-waiver provision); Perry v. TCBY Sys., Inc.,
Case No. LR-C-91-97 (E.D. Ark. Aug. 27, 1991) (holding that a choice-of-law provision in a form franchise agreement
precluded applying an otherwise applicable franchise act, without employing the Modern Computer four-part analysis
or even addressing the franchisee’s claim that the anti-waiver provisions of the franchise act should be given legal
effect); JRT, Inc. v. TCBY Sys., Inc., 52 F.3d 734, Bus. Franchise Guide (CCH) ¶ 10,652 (8th Cir. 1995) (holding that
a choice-of-law stipulation was not voided by the Michigan Franchise Investment Law’s anti-waiver provision because
the Law’s provision did not expressly speak to stipulations). See also Cherokee Pump & Equip., Inc. v. AuroraPump,
38 F.3d 246, Bus. Franchise Guide (CCH) ¶ 10,594 (5th Cir. 1995) (holding that Illinois choice-of-law provision did
not violate Louisiana public policy, despite the fact that Illinois law permitted termination of the distributorship in a
manner Louisiana would not because nothing in Louisiana law indicated strong public policy prohibiting such
terminations; Cottman Transmissions Sys., Inc. v. Melody, Bus. Franchise Guide (CCH) ¶ 10,558 (E.D. Pa. 1994)
(applying a two-pronged test concerning whether there was (1) a reasonable relationship between the dispute and
the Pennsylvania choice-of-law state; and (2) whether California, the franchisee’s state, had a materially greater
interest in the case’s outcome and upholding the Pennsylvania choice-of-law provision, finding that (1) the parties’
contacts with both states were equal; and (2) that applying Pennsylvania law to the dispute, rather than California
law, would not produce a materially different outcome); TCBY Sys., Inc. v. RSP Co., 33 F.3d 925, Bus. Franchise
Guide (CCH) ¶ 10,518 (8th Cir. 1994) (enforcing an Arkansas choice-of-law clause over Minnesota law and ruling
that the anti-waiver amendment to the Minnesota Franchise Act could not be applied retroactively and holding that
the Arkansas choice-of-law provision was valid because it did not violate Arkansas’s public policy).
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7. Computer analysis, finding it contrary to the public policy of Indiana as evidenced by the Indiana
Franchise Law24 and state choice-of-law rules.25 The court held that a party cannot opt out of
the state statute by an indirect waiver, such as a choice of foreign law, at least where the
franchisee’s state has a materially greater interest in the resolution of the dispute.26 Many other
courts have since resisted enforcing choice-of-law provisions that effectively take away
franchisees’ and dealers’ statutory protections.27 In Electrical and Magneto Serv. v. AMBAC Int’l
Corp., the Eighth Circuit, which had to that point been among the most aggressive in enforcing
choice-of-law provisions in distribution agreements, departed from that trend.28 In Magneto, the
court held that a Missouri statute requiring 90 days prior written notice of termination
represented a fundamental policy of the state of Missouri and therefore applied to the
termination of a Missouri distributor, despite a contract provision selecting South Carolina law.
In doing so, the Eighth Circuit reversed the trial court’s decision.29 The trial court had attached
no significance to the distributor’s claimed lack of bargaining power and had indicated in its
opinion that it would enforce all choice-of-law clauses in form agreements unless either strong
evidence existed that the agreement was an adhesion contract or unless the Missouri
legislature amended the statute at issue to add an anti-waiver provision.30
24 The Indiana state statute at issue in Ricoh contains the type of general anti-waiver language found
inadequate by the court considering the Minnesota state statute in Modern Computer, i.e., the Indiana statute
prohibits contractual provisions “requiring the franchisee to prospectively assent to a release,...waiver or estoppel
which purports to relieve any person from liability to be imposed by this chapter” (Ind. Code §23-2-2.7-1). The
Minnesota anti-waiver language provided that “[a]ny condition, stipulation or provision purporting to bind any person
acquiring any franchise to waive compliance with any provision of the [Act]...is void” (Minn. Stat. 80C.21)
25 908 F.2d 128 (7th Cir. 1990).
26 See also Solman Distribs., Inc. v. Brown-Forman Corp., 888 F.2d 170 (1st Cir. 1989) (holding that the
statutory protection sought to be avoided with the choice-of-law language in the contract reflected the strong public
policy of the state and could not be waived).
27 Sutter Home Winery, Inc. v. Vintage Selections, Ltd., 971 F.2d 401, Bus. Franchise Guide (CCH) ¶ 10,002
(9th Cir. 1992) (interpreting a contractual choice-of-law provision providing for the application of California law “except
as otherwise required by applicable law” to permit the court to apply an Arizona liquor franchise act to an Arizona
distributor).
28 941 F.2d 660, Bus. Franchise Guide (CCH) ¶ 9,888 (8th Cir. 1991).
29 745 F. Supp. 1501 (W.D. Mo. 1990).
30 See also Kinnard v. Shoney’s Inc., 100 F. Supp. 2d 781 (M.D. Tenn. 2000) (there is a general legislative
policy against waivers of potentially applicable franchise laws through contractual choice-of-law provisions). But see
Baxter Int’l, Inc. v. Morris, 976 F.2d 1189 (8th Cir. 1992) (abrogating its decision in AMBAC and applying the following
three step process set forth in Restatement (Second) of Conflicts of Law § 187 in its entirety: (1) which states law
would apply absent the provision; (2) which state has a materially greater interest in the outcome; and (3) whether
application of the chosen law would be contrary to a fundamental policy of the default state); Pride Tech., Inc. v. Sun
Microsystems, Bus. Franchise Guide (CCH) ¶ 10,407 (N.D. Cal. 1994) (holding that New Jersey’s strong public
policy to protect its franchisees trumped a contrary choice-of-law provision); Flynn Beverage, Inc. v. Joseph E.
Seagram & Sons, Inc., 815 F. Supp. 1174 (C.D. Ill. 1993) (ruling that the strong public policy embodied in the
arguably applicable Illinois Franchise Disclosure Act overrode the choice of New York law in the distributor
agreement); Cherry Invs., Inc. v. Yogurt Ventures USA, Inc., Bus. Franchise Guide (CCH) ¶ 10,224 (E.D. Mich. 1992)
(holding that the fundamental policy of the Michigan Franchise Investment Law overrode the choice of Georgia law in
the franchise agreement); Unarce v. Staff Builders, Inc., 61 F.3d 912, Bus. Franchise Guide (CCH) ¶ 10,746 (9th Cir.
1995) (holding that California law governed the termination and release agreement of a franchisee notwithstanding a
New York choice-of-law provision because the validity of agreement itself had been questioned); but see Banek v.
Yogurt Ventures USA, Inc.; 6 F.3d 357 (6th Cir. 1993) (enforcing exactly the same choice-of-law clause invalidated in
Cherry).
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8. Other problems may occur if a choice-of-law clause provides for the law of the state
where the franchisor has its headquarters or principal place of business, but if the franchisor
then relocates after the agreement is signed. In that situation, courts must determine whether
the parties’ rights were fixed at the time the contract was signed, or whether the choice of law
floats with the franchisor.
Franchisees should also be aware that choice-of-law provisions may be used
offensively, as well, to afford them protection they would not otherwise have.31 For example,
franchisees may seek the protection of a California statute providing that non-compete clauses
that would restrain a person from engaging in a “lawful profession, trade or business of any
kind” are void.32
C. Identify Ambiguous Language
Despite skilled draftsmanship, “[i]t is a rare contract that needs no interpretation.”33 The
concept of ambiguity in contract law has been well defined. “[C]ontract terms are given their
ordinary meaning … A contract is ambiguous if its language is reasonably and fairly susceptible
to more than one meaning…. Meaning is given to each provision of the contract, and the fact
that the parties dispute the meaning of a contract provision does not render the contract
ambiguous.”34 “[T]here must be either contractual language on which to hang the label
ambiguous or some yawning void … that cries out for an implied term.”35
31 See Tractor and Farm Supply, Inc. v. Ford New Holland, Inc., 898 F. Supp. 1198 (W.D. Ky. 1995) (upholding
Michigan choice-of-law provision and Kentucky dealer’s Michigan Franchise Investment law claim, even though
neither dealer nor manufacturer were located in Kentucky at the time of the suit, because the agreement was drafted
by the manufacturer and the manufacturer had substantial contacts with Michigan at the time the contract was
created); Diesel Injection Serv. v. Jacobs Vehicle Equip., 1998 WL 950986 (Conn. Super. Ct. 1998) (upholding
choice-of-law provision and applying chosen state’s Franchise Act even though, under the plain language of the Act,
it would not apply to an out-of-state franchisee); Department of Motor Vehicles v. Mercedes-Benz, 408 So. 2d 627,
630 (Fla. 1981) (same); Candleman Corp. v. Farrow, Bus. Franchise Guide (CCH) ¶ 11,635 (D. Minn. 1999) (applying
Minnesota Franchise Act to non-Minnesota franchisee because Minnesota franchisor chose Minnesota law in the
Franchise Agreement).
32 Cal. Bus. & Prof. Code § 16600. See Budget Rent A Car Corp. v. G.M. Truck Rental, 2003 U.S. Dist. LEXIS
11323 (N.D. Ill. June 26, 2003) (applying California law over a franchisor’s objection that Massachusetts law should
apply, and denying the franchisor’s motion for a TRO to enforce a post-termination non-compete because the
covenant was “unlikely” to be enforced under California law).
33 See E. Farnsworth, Farnsworth On Contracts, § 7.8 at 257 (2d Ed. 1998) (hereinafter “Farnsworth”).
34 Eurosteel Corp. v. M/V Millennium Falcon, 2002 U.S. Dist. LEXIS 15905 *5 (N.D. Ill. August 22, 2002).
35 Bidlack v. Wheelabrator Corp., 993 F.2d 603, 608 (7th Cir. 1993) (en banc); see also Century 21 Real
Estate Corp. v. Meraj Int’l Inv. Corp., 315 F.3d 1271, 1277 (10th Cir. 2003) (“the question whether a contract is
unambiguous can be a difficult one. It is not that rare for language to seem clear and definite until some extrinsic
evidence demonstrates that the contracting parties used that language to mean something rather different”). Century
21 involved the presumably unusual situation of a franchisor arguing that its own agreement was partially ambiguous,
a contention that was rejected. The court added: “The task of contract interpretation is not a game in which a party
succeeds only by drafting a ‘perfect’ contract. It is almost always possible to write a contract provision with greater
precision, although often the possibility is not apparent until a dispute has arisen. Contract interpretation is an
altogether human endeavor to determine what is communicated by a given set of words. What is communicated here
is rather clear.” Id.
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9. The potential for ambiguity in franchise agreements, or at least arguable ambiguity, is
nearly endless (which should not be surprising, given the extensive ongoing relationship which
is being addressed by the writing). Here are some examples:
a. An agreement provides that the franchisor shall “furnish national account leads”
to the franchisee. What does it mean to “furnish” a business “lead”? How is a
“national account” defined, absent a definitions clause elsewhere in the
agreement? Is the “duty” to “furnish national account leads” impacted by the
question of whether the franchisee has a defined territory in which it might
attempt to service a national account?
b. An agreement provides that franchisor shall not open any competing outlets
within a defined franchise territory. Is the franchisor barred from soliciting sales
from residents in the territory via the Internet, by mail order, or by sending its
sales personnel into the territory? Does precedent regarding older technology
provide a clue toward interpreting what the parties “agreed to” regarding the
Internet in an older agreement that did not anticipate the Internet’s development?
Can these particular issues be decided without the presentation of evidence as to
the nature of the particular franchise; and in particular, evidence as to the way
most sales are made and the role of the “outlet” in the sale process?
c. An agreement provides that franchisee is licensed to conduct business within a
specific territory? The word “exclusive” is not mentioned, and the agreement is
silent on whether the franchisor or other franchisees can compete in that territory.
Can exclusivity ever be established as an implied term? If not, can the
franchisee establish that any degree of territorial protection is expressly or
impliedly created by the agreement?
d. An agreement provides that franchisor may designate the sources of product
supply, and the Offering Circular discloses that the franchisor may derive a profit
from the franchisee purchases either in the form of supplier rebates, or by
designating an affiliate as the approved supplier? Is there any limit on the prices
that the franchisee may be charged as a result of being a captive customer?
May the franchisor reject requests to approve alternative suppliers?36
Case law plays an important but limited role in arguing the presence or lack of ambiguity.
Unless there is a precedent involving the same language in a comparable business, prior cases
are almost always capable of being distinguished to some degree. It must be emphasized that
courts are reluctant to find that a written franchise agreement is ambiguous, and that a trial
would be needed to establish the parties’ intentions.37 Nonetheless, in the following case
examples, franchisees had some success:
36 Co-author Carmen Caruso addressed some of these hypothetical cases at the 1999 meeting of the
American Franchisee Association in a paper entitled “Ambiguity In Your Franchise Agreement: Negotiate Now or
Litigate Later!”
37 See e.g., Interim Health Care of Northern Illinois, Inc. v. Interim Health Care, 225 F.3d 876 (rejecting the
contention that an agreement which provided that a franchisee with the exclusive right to “establish an office” in a
defined territory was ambiguous on the subject of whether the franchisor could “poach patients” by opening an office
in close proximity to the territory and then sending its health care workers into the territory to serve patients). See
also Mail Boxes Etc. v. Maurob, Inc., currently pending as case no. 02-3288 (C.D. Ill. May 1, 2003) (holding that an
9

10. a. In a case decided under California law, an initial agreement regarding the waiver
of a franchise fee was found to be ambiguous.38 Additionally, the court found
that evidence of a contemporaneous oral contract agreeing to permanently waive
the franchise fee should have been allowed into evidence despite the integration
clause in the written agreement.
b. A dealership agreement was found to be facially ambiguous in defining the
minimum showroom space requirements that the dealer would guarantee the
exclusive use of to a particular automobile distributor. The stated space
requirements varied between several documents, and the court concluded that
the agreement on its face did not allow any certainty as to which document and
space requirement would control. Thus, the agreement was ambiguous on its
face and was not sufficiently clarified by any surrounding circumstances that
might help to determine the parties’ intent. The court then stated that “a contract
open to more than one interpretation must be construed against the party which
drafted it,” and ruled in favor of the dealer.39
c. An agreement that provided for the right of “first opportunity” for a franchisee to
provide additional coverage in its territory before an additional franchise was
granted was found ambiguous because it did not specify how long the franchisee
would have to comply with the notification that additional facilities were needed.
Without a set time limit, the jury was allowed to find a reasonable time, and the
jury found that the franchisor had improperly acted in announcing the forfeiture of
the right of first refusal.40
D. Identify Procedural Limitations On Franchisee Claims
The final category of contract language that may become harmful to a franchisee is
limitations on the franchisee’s remedies. 41 These may include:
1. Forum Selection Clauses
MBE franchise agreement was not ambiguous on the issue of whether a franchisee would be required to comply with
its “post-termination” obligations under the agreement, including the non-compete clause, where the agreement had
expired at the end of its ten year term and was not renewed, and where expiration was not included in an express
listing of the events that would cause “termination” and thus, arguably, serve as the trigger for the “post-termination”
obligations).
38 Atlantic Richfield Co. v. Alfred Ramirez, 1999 U.S. App. LEXIS 8669, *4, *5 (9th Cir. 1999) (citing A. Kemp
Fisheries, Inc. v. Castle & Cooke, Inc., 852 F.2d 493, 497 n.2 (9th Cir. 1988)).
39 G.A. Imports, Inc. v. Subaru Mid-America, Inc., 799 F.2d 1200, 1206 (8th Cir. 1986).
40 Patton v. Mid-Continent Sys., Inc., 841 F.2d 742 (7th Cir. 1988).
41 The clauses described in this section, among other provisions of a “typical” turn-of-the-Millennium franchise
agreement, create a dilemma for prospective franchisees at the time of their investment decision. For those
franchisees that will be fortunate enough to have a long, happy and prosperous franchise relationship, these clauses
may actually serve to protect the franchisee’s investment since all of the “good” franchisees would arguably suffer if
their franchisor was regularly subjected to ruinous litigation brought by under-performing disgruntled franchisees who,
for example, might not be adhering to system standards. However, the fact remains that prospective franchisees and
dealers are routinely asked to check many of their legal rights at the door, thus ensuring that if they are later
victimized, the pursuit of their legal claims will be challenging. At bottom line, the authors believe that these clauses
ultimately harm franchising by rewarding bad behavior.
10

11. Forum selection clauses that would require a franchisee to litigate outside its home state
are often void under state franchising acts.42 Presumably, franchisees are protected in the
registration process from approval of franchise agreements that would purport to require
litigation in another state, in violation of a state law.43 Franchisees who fear suit in other states
may be well advised to file a declaratory judgment action in their home state to establish their
preferred jurisdiction.
2. Arbitration Clauses
The debate on the merits of arbitration versus litigation could fill a separate article, and
need not be repeated here. Arbitration clauses remain generally enforceable as of the date of
this article.44 Even where there is fraud in the inducement of an arbitration clause, courts remain
driven to uphold as much of the clause as possible.45 There is contrary Ninth Circuit case law,
holding that arbitration clauses may be void as contracts of adhesion, where, in particular, the
agreement compels arbitration of the “weaker party’s” claims, but allows the “stronger party” to
proceed with litigation.46 One particularly burdensome aspect of arbitration clauses is that,
based on the Federal Arbitration Act, courts appear much more likely to order a franchisee to
arbitrate in another jurisdiction than to litigate outside the state in which the franchise is
located.47
4. Jury-Trial Waivers
In federal cases, a contractual agreement can operate to waive the right to a jury trial,
but, consistent with the status of jury trials as a constitutional right, such agreements are strictly
and narrowly construed. Four factors courts use to consider contractual jury-trial waivers are:
(1) the relative bargaining power of the parties; (2) the extent to which the party opposing the
waiver understood that provision; (3) the extent to which the provision was negotiated; and (4)
the conspicuousness of the provision. Courts place the burden of establishing these factors on
42 See e.g., 815 Ill. Comp. Stat. § 705/4.
43 Item 17 of a UFOC requires disclosure of choice of law and choice of forum provisions in an agreement.
44 See Doctor’s Assocs. v. Casorotto, 517 U.S. 681, 116 S. Ct. 1652 (1996).
45 See Great Earth Cos. v. Simons, 288 F.3d 878 (6th Cir. 2002), where the court of appeals held that while
the franchisor defrauded a Michigan franchisee into signing a clause that would have permitted the franchisor to
require that an arbitration be held in New York, the venue aspect of the arbitration clause was severable, and thus,
the franchisee was ordered to arbitrate, rather than litigate, in its home state of Michigan.
46 See Ticknor v. Choice Hotels, Inc., 265 F.3d 931 (9th Cir. 2001). The franchisor was permitted to litigate
claims for injunctive relief against the franchisor, while the franchisee had to arbitrate any damages claims.
47 See KKW Enters., Inc. v. Gloria Jeans Gourmet Coffees Franchising Corp., 184 F.3d 42 (3d Cir. 1999)
(holding that the supremacy of the Federal Arbitration Act, 9 U.S.C. § 3 required enforcement of a franchise
agreement clause requiring arbitration outside the franchisee’s state and overriding the Rhode Island Franchise
Investment Act (RIFIA), R.I. Laws § 19-28.1-14, which would have required litigation in Rhode Island). Even where
there was fraud in the inducement of an arbitration clause, courts remain driven to uphold as much of the clause as
possible. But see Great Earth Cos. v. Simons, 288 F.3d 878 (6th Cir. 2002), where the court of appeals held that
while the franchisor defrauded a Michigan franchisee into signing a clause that would have permitted the franchisor to
require that an arbitration be held in New York, the venue aspect of the arbitration clause was severable, and thus,
the franchisee was ordered to arbitrate, rather than litigate, in its home state of Michigan.
11

12. the party seeking to enforce a waiver provision. Franchisees can argue against these
provisions with success.48
5. Punitive-Damage Exclusions
Regardless of whether the franchise agreement requires arbitration or permits litigation,
the agreement might provide for limitations on the right of either party to seek punitive damages
from the other. Arguably, these provisions should be given no effect, since punitive damages
are rarely (if ever) available in contract actions, and if the claim is based on fraudulent
inducement, then damage limitations should be stricken as part of the fraud. There is, however,
no broad rule striking down these clauses.49 Whether a punitive damage waiver applies to
RICO claims in arbitration has been held to be a matter for the arbitrators to decide in the first
instance.50
6. Waivers Of The Right To Seek Class Action Certification
The right to bring a class action in federal court is viewed as a procedural right that can
be waived.51
7. Shortened Limitations Periods
These clauses are usually upheld, even in the Ninth Circuit (although it remains possible
for the authors to conceive of provisions that would be so short as to arguably become
unconscionable).52 Moreover, fraudulent concealment and/or the discovery rule should continue
to apply even where the franchisor has imposed a shortened period.
III. LOOK FOR ALL ACTUAL AND ARGUABLE REASONS FOR THE FRANCHISOR’S
CONDUCT
A second key step in analyzing franchisor conduct is to determine all actual and
arguable reasons for that conduct. Ultimately, a fact finder may determine whether the
franchisor’s conduct is lawful based on its conclusion as to the real reason(s) or justifications for
the conduct. From the franchisee’s perspective, the franchisee should not blindly accept the
announced reason for the harmful conduct in question. Rather, a thorough investigation,
48 See MZ Ventures v. Mitsubishi Motor Sales of Am., Inc., 1999 U.S. Dist. LEXIS 14421 (C.D. Cal. August 30,
1999) (holding that franchisor failed to establish the effectiveness of a jury trial waiver).
49 See Gannon v. Circuit City Stores, 262 F.3d 677, 681-82 (8th Cir. 2001) (observing that the district court had
refused to enforce a waiver of punitive damages in an employee’s dispute resolution agreement, where the employee
alleged the intentional tort of sexual harassment, but noting that the employer did not appeal the issue, and there was
a lack of precedent on the issue).
50 See Larry’s United Super v. Werries, 253 F.3d 1083 (8th Cir. 2001).
51 See Arnold v. Goldstar Fin. Sys., Inc., 2002 U.S. Dist. LEXIS 15564 (N.D. Ill. August 20, 2002) (rejecting the
contention that an arbitration agreement was void because it would have required the prospective plaintiff to waive its
right to file a class action under a federal consumer protection law). For a discussion of class actions in franchising,
see Broussard v. Meineke Discount Mufflers, 155 F.3d 331 (4th Cir. 1998), where the court of appeals overturned a
verdict for a combined class of current and ex-franchisees, finding that the two sub-classes had distinct interests in
the survival of the system.
52 See Soltani v. W. & S. Life Ins. Co., 258 F.3d 1038, 1042 (9th Cir. 2001).
12

13. looking for all actual or arguable bad faith reasons, must be conducted. For the franchisee, a
key issue is determining “who benefits” from the questioned conduct, as franchisors often claim
that they are acting for the good of the “system.”
In cases where the credibility of a franchisor’s explanation for its conduct is at issue,
expert testimony may be crucial. In a case involving alleged racial discrimination in the denial of
a franchise transfer from a white to an African-American owner, the franchisor disclosed an
opinion of a well-known franchising consultant, who opined that the franchisor’s stated business
reasons for denying approval of the transfer were valid, and that, allegedly, no other decision
would have made sense from the franchisor’s point of view. The franchisee countered with
expert testimony that approving the transfer would have made equal or greater business sense,
arguably leaving the franchisor in a position where it could not explain its decision not to
approve the sale to a minority person.53
A franchisor’s failure to list certain alleged breaches as reasons for the franchisor’s
conduct may constitute waiver of those breaches.54 Accordingly, franchisee counsel should be
alert to not allow franchisors to try to insert “after the fact” alleged reasons for the conduct being
challenged.
IV.
LOOK FOR STATUTORY PROTECTION
Where statutory remedies are available, they may provide the franchisee’s best claim(s).
In addition to casting a wider net that may encompass a broader range of conduct than is
actionable at common law, a statutory remedy may include attorneys’ fees and costs, plus the
prospect of punitive or enhanced damages. 55
A. State Franchise Acts
In those states that have enacted franchise protection statutes, franchisees usually turn
to these laws as their primary effort to state an actionable claim.56 These laws are not uniform.
Sixteen states have enacted registration and disclosure acts.57 Two other states require pre-
sale disclosure without registration.58
53 See Home Repair, Inc. v. Paul W. Davis Sys., Inc., 2000 U.S. Dist. LEXIS 929 (N.D. Ill. 2000).
54 See Frank Chevrolet Co. v. General Motors Corp., 304 F. Supp. 307 (W.D. Ohio 1968).
55 In discussing the statutory protection that is available, or not available, to franchisees or dealers, we write
from the perspective of trial lawyers who must plead our clients’ claims based on existing statutes. We do not agree,
however, that current federal and state statutes are adequate to protect the equity investments of franchisees or
promote balance in the franchise relationship. For a more detailed, recent statement of the case for increased
legislative protection in the sales process, see Burke & Abel II, Franchising Fraud, The Continuing Need For Reform,
40 Am. Bus. L.J. 355 (Winter 2003) (hereinafter “Burke & Abel”).
56 See Burke & Abel, infra n. 57, for a summary of the available state statutes.
57 As complied by Burke & Abel, infra n. 57, states that have enacted registration and disclosure statutes are:
Arkansas (Ark. Code Ann. §§ 4-72-201 to -210 (2001); California (Cal. Corp. Code §§ 31100-31516 (2001));
Delaware (Del. Code Ann. tit. 6, §§ 2551-2556 (2000)); Hawaii (Haw. Rev. Stat. §§ 482E-1 to -12 (2000); Illinois
(815 Ill. Comp. Stat. Ann. 705/1 to /44 (2001)); Indiana (Ind. Code Ann. §§ 23-2-2.5-1 to -51 (2000)); Iowa (Iowa
Code §§ 523B.1 to .3 (2001)); Maryland (Md. Code Ann. [Bus. Reg.] §§ 14-201 to -233 (2001); Minnesota (Minn.
Stat. §§ 80C.01 to - 30 (2000)); New York (N.Y. Gen. Bus. Law §§ 680-695 (2001)); New Jersey (N.J. Stat. §§
56:10-1 to -29 (2001)); North Dakota (N.D. Cent. Code §§ 51-19-01 to -17 (2000)); Oregon (Ore. Rev. Stat. §§
650.005 to 650.085 (1999)); Rhode Island (R.I. Gen. Laws §§ 19-28.1-1 to -34 (2001)); South Dakota (S.D. Codified
13

14. 1. Applicability
State franchise acts generally apply to franchises within the state’s borders, but may
also apply where the sale is made within the state, although the franchise is located elsewhere.
For example, while the registration provisions of the Illinois Franchise Disclosure Act (IFDA)
apply only when the franchise is to be located in Illinois, the anti-fraud provisions of the IFDA
apply whenever “an offer to sell or buy a franchise is made within this State and accepted within
or outside of this State.”59 Attorneys for franchisees should review the relevant statutes of the
states where the franchise is located and where the sale is made to determine which state laws,
or laws of multiple states, are applicable.
2. Franchise Definition
A threshold issue is to determine exactly whether a business arrangement constitutes a
“franchise.” The statutory definition of a franchise varies. Most, but not all, states require the
franchisee to pay consideration to the franchisor in order for the relationship to qualify as a
franchise. Arkansas, an exception, defines a franchise as the right to use a franchisor’s
trademark or the right to sell goods or services plus the grant of an exclusive territory.60
Similarly, Connecticut requires only a prescribed marketing plan to constitute a franchise
arrangement,61 while Wisconsin simply requires a “community of interest” without requiring a
fee.62 Florida requires (1) that the franchisor grant the right to offer or sell goods or services, (2)
that the franchisee constitute a component of the franchisor’s distribution system, and (3) that
the franchisee be substantially reliant on the franchisor for his supply of goods.63
Closer to the FTC definition, the Illinois Franchise Disclosure Act (IFDA) defines a
franchise as including a marketing plan, association with the franchisor’s trademark or other
name or symbol, and payment of a franchise fee in excess of $500.64 In To-Am Equip. Co. v.
Mitsubishi Caterpillar Forklift Am., Inc., a dealer obtained the protection of the IFDA, even
though its agreement did not acknowledge, and perhaps even disclaimed, the existence of a
franchise.65 The Seventh Circuit held that a manufacturer’s requirement that a dealer purchase
sales and service manuals in excess of $500 constituted a franchise fee, and thus the
unregistered sales of the “franchises” had been unlawful.
Laws §§ 37-25A-1 to -87 (2001)); Virginia (Va. Code Ann. §§ 13.1-557 to -574 (2001)); Washington (Wash. Rev.
Code §§ 19.100.010 to .940 (2001)); and Wisconsin (Wis. Stat. §§ 553.01 to .78 (2000)). See also Fla. Stat. §
559.802(1) (2000), which “exempts franchises from filing as long as the franchisor files notice with the proper
authority that the franchisor is in substantial compliance with the FTC Rule and pays the required fee.” Burke & Abel
at 271, n. 90.
58 See Mich. Comp. Laws § 19.854(8) (2000); and Ohio Rev. Code Ann. § 1334.02 (Anderson 2001).
59 See Illinois Franchise Disclosure Act, 815 Ill. Comp. Stat. §§ 705/1, /5, /6 and /10.
60 Ark Stat. § 4-72-202(1)(A).
61 Conn. Gen. Stat. § 42-133e(b),
62 Wis. Stat. § 135.02(1).
63 Fla. Stat. § 817.416(1)(b).
64 815 Ill. Comp. Stat. § 705/3(1).
65 152 F.3d 658 (7th Cir. 1998).
14

15. 3. Registration and Disclosure Claims
A state franchising act will typically prohibit the sale of franchises that are not registered,
or that are sold without providing a disclosure statement.66 Careful analysis of a franchisor’s
registration and offering circular is therefore the first step in analyzing a franchisee’s potential
claims.
4. Remedies For Fraud In The Sales Process
With some typicality, and in language that is generally modeled after the federal
securities laws, a state franchise act will specifically define and prohibit “fraudulent practices.”
For example, the IFDA provides:
In connection with the offer and sale of any franchise made in this State, it is
unlawful for any person, directly or indirectly, to:
(a) employ any device, scheme or artifice to defraud.
(b) make any untrue statement of a material fact or omit to state a material
fact necessary in order to make the statement made in the light of the
circumstances under which they are made, not misleading.
(c) engage in any act, practice, or course of business which operates or
would operate as a fraud or deceit upon any person.67
The protection afforded by these provisions is limited primarily by the limited scope of
disclosure that franchisors are presently required to make, which, as has been noted by many
others, is in reality quite limited.
The degree of intent that must be proven to state a fraud claim under the state
franchising laws varies between states and even within the statutes of some states, such as
Indiana’s, making generalization dangerous.68 However, using the IFDA as an example, the
plain language of the statute supports the argument that while intent must be proven to
establish “fraud” or “deceit” in subparagraphs (a) and (c), the provisions of paragraph (b) serve
to create strict liability for the “mak[ing] of any untrue statement of a material fact…”
Claims for promissory fraud are actionable under the IFDA and generally under other
state acts, where the promises are made in bad faith and intent to deceive.69
In contrast with Little FTC Acts, as discussed below, and consistent with the securities
laws, proof of actual and reasonable reliance is generally required to state a claim under the
66 Id. at § 5.
67 Id.
68 See Motor City Bagels L.L.C. v. American Bagel Co., 50 F. Supp. 2d 460, 468 (D. Md. 1999).
69 Healy v. Carlson Travel Network, 227 F. Supp. 1080, 1092 (D. Minn. 2002). Proof of intent in cases of
promissory fraud usually requires independent proof of a fraudulent scheme that goes beyond the mere making of the
promise that was not kept. See Houben v. Telular Corp., 231 F.3d 1066 (7th Cir. 2000).
15

16. anti-fraud provisions of state franchising laws.70 Thus, issues concerning integration and “no
reliance” clauses, discussed above, permeate fraud claims brought under state franchising acts.
5. Post-Sale Protection For Franchisees
Some of the more comprehensive state laws, such as the Iowa Franchise Investment
Act, address “relationship” problems such as transfer, termination, non-renewal, and also
protects the franchisee from territorial encroachment resulting from the franchisor’s subsequent
sales.71 In addition, the Illinois Act (the IFDA) contains a specific prohibition against retaliation
against franchisees that join any trade associations, which would include an independent
franchisee association.72 The IFDA also prohibits discrimination by the franchisor among
franchisees operating within the state “in the charges offered or made for franchise fees,
royalties, goods, services, equipment, rentals or advertising services, if such discrimination will
cause competitive harm…”73
Creative litigation under state franchise acts continues to flourish. In Beilowitz v.
General Motors Corp., which involved the New Jersey Franchise Practices Act (NJFPA), the
court enjoined a franchisor from implementing a new business plan in place of an old
distribution agreement.74 The franchisee was a major distributor of GM auto parts that sold
parts throughout the country. GM sought to implement a new distribution program that would
have sharply limited the franchisee’s trade area, while permitting competition in that area. The
franchisee did not sign the agreement and thus risked the loss of its distributorship. The court
accepted that the franchisee demonstrated a likelihood of success on its NJFPA claim against
the franchisor for “impos[ing] unreasonable standards of performance upon a franchisee.”75 The
new distribution plan was arguably an “unreasonable standard” upon the franchisee because it
required the franchisee to sacrifice $11 million in sales, or nearly 40%, of its total sales.76 The
new plan would have also likely caused the franchisee to incur pre-tax operating losses, and it
was “clearly an ‘unreasonable standard of performance’ within the meaning of the NJFPA to
require a franchisee to operate at a substantial financial loss while the franchisor attempts to
implement a new and unproven marketing strategy.”77 Under the NJFPA, a franchisor’s failure
to renew a franchise is prohibited without good cause.78 Since GM offered no reason, other
than a change in business strategy, for its failure to renew the franchise, the court concluded
that the franchisee was likely to succeed on its claims under the NJFPA.79
70 See e.g. Hardees v. Hardees Food System, Inc., 31 F.3d 573, 579 (7th Cir. 1994) (reasonable reliance
required to state a fraud claim under the Indiana Franchise Act, Ind. Code § 23-2-2.5-1 et seq.).
71 See Iowa Code §§ 523B.1 to .3 (2001); see also, the Illinois act (IFDA), 815 Ill. Comp. Stat. §§ 705/19 and
20.
72 Id. at § 17.
73 Id. at § 18 (with exceptions noted).
74 233 F. Supp. 2d 631 (D.N.J. 2002).
75 Id. at 643.
76 Id. at 643-44.
77 Id. at 644.
78 Id.
79 Id.
16

17. 6. Discrimination Claims
Claims of economic discrimination among franchisees are not commonly asserted, but
remain potentially powerful claims on the right facts. In Canada Dry Corp. v. Nehi Beverage
Co., Inc., the Seventh Circuit rejected a claim of discriminatory treatment on the facts of that
case, but held that the defense would be available if a franchisee presented sufficient proof that
the franchisor discriminated among similarly situated franchisees.80 The terminated franchisee
had sought to prove that neither its sales volume nor product quality were worse than the similar
performance of other franchisees, and yet, it was the only franchisee to be terminated for
alleged deficiencies in these areas. The franchisee asserted this defense to termination based
on the anti-discrimination provision of the Indiana Deceptive Franchise Practices Act, which
provided that:
It is unlawful for any franchisor who has entered into any franchise
agreement with a franchisee who is a resident of Indiana to engage in any
of these acts and practices in relation to the agreement:
(5) discriminating unfairly among its franchisees, or unreasonably failing or
refusing to comply with any terms of a franchise agreement . . . .81
The Seventh Circuit in Canada Dry held that claims of discrimination require proof of
“arbitrary disparate treatment among similarly situated individuals or entities.” In General
Aviation, Inc. v. Cessna Aircraft Co., the Sixth Circuit held that the anti-discrimination provisions
of the Michigan Franchise Act required a franchisor to offer renewal to its franchisees on the
same terms that were offered to similarly-situated franchisees.82 These cases remain good law
as stating the grounds for potential damages claims or as defenses to termination.
80 723 F.2d 512 (7th Cir. 1984).
81 Ind. Code § 23-2-2.7-2(5).
82 13 F.3d 178 (6th Cir. 1994), construing Mich. Comp. Laws, § 445.1527. The court observed:
The anti-discrimination clauses of other states' franchise regulations are most apposite
to our inquiry. Several states bar a franchisor from discriminating among franchisees.
See e.g., Franchise Practices Act, Ark. Stat. Ann. § 4-72-204(a)(2); Franchise
Investment Act, Hawaii Rev. Stat. § 482E-6(C) and (H)(requiring renewal absent cause
or in accordance with the current terms and standards established by the franchisor then
equally applicable to all franchisees); Franchise Protection Act, Wash. Rev. Code §
19.100.180(c) and (i)(unlawful to discriminate between franchisees in any business
dealing unless reasonable and not arbitrary); Iowa Franchise Act, Iowa Code, Title XX, §
523H.8 (refusal to renew may not be arbitrary). The plain language of these statutes and
the few cases interpreting them indicate that they seek to govern both a franchisor's
decision whether or not to offer a renewal to a franchisee and the terms of the renewal
packages offered. See e.g., Ziegler Co. v. Rexnord, Inc., 147 Wis. 2d 308, 433 N.W.2d
8, 12 (Wisc. 1988)(section regulates grantor's ability to [**11] cancel or fail to renew
franchise). In fact, all the renewal regulation provisions surveyed seek to govern the
decision whether or not to renew. See e.g., Witt v. Union Oil Co., 99 Cal. App. 3d 435,
438, 160 Cal. Rptr. 285 (1979)(section designed to prevent franchisors from arbitrarily
refusing to renew).
17

18. 7.
“Good Cause” For Termination
Arguably the most important post-sale protection that a franchise statute can provide is
protection from termination without “good cause.” The most common example of “good cause”
(and usually the easiest case for a franchisor to prove) would be the franchisee’s failure to pay
royalties as they come due. However, while a franchisee that cannot pay its royalties will
probably not be able to stop a termination, the franchisee may nonetheless have a damages
claim based on conduct by the franchisor that may have gone so far as to precipitate the
termination by injuring the franchise to the point it could not afford to pay its royalties. In Interim
Health Care, the Seventh Circuit reversed a summary judgment for the franchisor on a claim
that the franchisor breached the implied covenant of good faith and fair dealing in invoking the
termination clause after the franchisor had substantially damaged the franchisee.83 In other
words, “good cause” for termination was no defense to the lack of good faith!
In regard to the Illinois Franchise Disclosure Act, it was recently observed that the “act’s
prohibition against termination of franchises without good cause applies equally to franchise
relationships without a fixed duration and those with a fixed duration.”84 This issue would
deserve research in other states.
Manufacturers should also be aware that, even absent an overt, express termination,
they may be liable for the constructive or de facto termination of their dealers. When a
franchisor engages in conduct that interferes with a franchisee’s ability to conduct its business,
such as failing to fairly deal with the franchisee or imposing substantial changes at the time of
renewal, the franchisor may be liable for terminating the franchise agreement.85
8.
Personal Liability
Acts such as the Illinois Franchise Disclosure Act should strike fear into offenders as
they extend the threat of liability to any principal officer or other person who “directly or indirectly
controls a person [including an entity] liable” and who participated in the actionable misconduct,
thus creating a statutory exception to the “fiduciary shield” doctrine that would apply in a
common law fraud action.86
83 225 F.3d 876 (7th Cir. 2000).
84 M. Garner, Franchise Desk Book, (ABA 2001), p. 243 (D. Wieczorek, “Illinois) (citation omitted).
85 See Carlos C. Gelardi Corp. v. Miller Brewing Corp., 502 F. Supp. 637, 653 (D.N.J. 1980) (New Jersey
franchise statute covers indirect termination through failure to fairly deal with franchisees); Coast to Coast Stores
(Central Organization), Inc. v. Gruschus, 667 P.2d 619, 628 (Wash. 1983) (franchise agreement is terminated in fact
under Washington statute when the means of continuing the franchised business are taken away); Imperial Motors,
Inc. v. Chrysler Corp., 559 F. Supp. 1312, 1315 (D. Mass. 1983) (Federal Dealers’ Day in Court Act allows recovery
where coercion or intimidation amount to a constructive termination). See also 815 Ill. Comp. Stat. § 705/18; Minn. R.
2860.4400(B) (both prohibiting discrimination between franchises). Cf. Meyer v. Kero-Sun, Inc., 570 F. Supp. 402,
407 (W.D. Wis. 1983) (grantor effectively terminated dealership by imposing substantial changes on the dealer at the
time of renewal, although injunctive relief rather than termination remedies is the proper way to address changes in
competitive circumstances under Wisconsin law).
86 Id. at § 26.
18

19. B. “Little FTC Acts”
In one form or another, all states have enacted a consumer fraud or deceptive trade
practices act, commonly referred to as a “Little FTC Act.”87 These statutes arguably fill a critical
void created by Congress’ failure to create a private cause of action at the federal level for
violations of the FTC Act or the Franchise Rule.88
1.
Applicability To Franchising
Because Little FTC Acts were enacted to protect consumers, there is a threshold issue
of whether these statutes apply to franchising. For franchisees, the strongest argument, which
has been upheld in numerous states including Illinois and New Jersey, is that the franchisee is,
in fact, a consumer in the context of the franchise sales process, particularly when purchasing
directly from the franchisor.89 In Illinois, for example, a franchise sale is viewed as the purchase
87 Burke & Abel, infra n. 57, at 374.
88 These statutes should not be confused with the Uniform Deceptive Trade Practices Act, which prohibits a
variety of practices related to unfair competition. See Minn. Stat. § 325D.44.
89 Franchises have been held to be “merchandise”, and thus, franchise sales to “businessmen” are consumer
sales under the Illinois Consumer Fraud Act, as amended. See, People ex rel. Scott v. Cardet Int’l Inc., 24 Ill.App.3d
740, 321 N.E.2d 386, 391-92 (Ill. App. Ct. 1974). See also Bixby Food Sys. Inc. v. McKay, 985 F.Supp. 802, 807
(N.D. Ill. 1997) (purchaser of franchise is a consumer under the Illinois Consumer Fraud Act). But see, Peter v. Stone
Park Enters., 1999 U.S. Dist. LEXIS 11385 *19 (N.D. Ill. July 22, 1999), where the district court rejected a claim that a
trademark licensee had purchased a franchise, and held that a trademark licensee was a “consumer” under the ICFA.
The New Jersey courts have applied their Little FTC Act to franchises. In Kavky v. Herbalife Int’l of Am., 359
N.J. Super. 497; 820 A.2d 677 (N.J. Ct. App. 2003), a New Jersey appellate court recently held that franchisees may
bring suit as “consumers” under the that state’s Little FTC Act, N.J. Stat. Ann. § 56:8-1 et seq. The court rejected a
previous Third Circuit case, J & R Ice Cream Corp. v. California Smoothie Licensing Corp., 31 F.3d 1259, 1270-74
(3d Cir. 1994), which had predicted that the New Jersey Supreme Court would reject the application of that state’s
Little FTC act to franchise or distributorship sales on the grounds that sales of businesses could not be deemed
“consumer” sales. See also Morgan v. Air Brook Limousine, Inc., 510 A.2d 1197 (N.J. Super. Ct. Law Div. 1986), the
issue was specifically whether the New Jersey Consumer Fraud Act (Act) applied to a franchise relationship. The
court answered in the affirmative, concluding that “a franchise or business opportunity venture is ‘merchandise’ within
the intendment of the Act.” Id. at 86. The word “consumer,” while not a distinction applied in the Act, was
nonetheless evaluated by the court, as it stated, “The Act is not restricted to retail consumer consumption
transactions and its protective sweep includes transactions in which a person, like Morgan, makes an investment
rather than a consumption purchase.” Id. at 94.
Similar to the New Jersey Act, there is no use of the word “consumer” within the Connecticut Unfair Trade
Practices Act (CUTPA). The Act only states that it “prohibits any ‘person’ from engaging in unfair or deceptive acts or
practices in the conduct of any ‘trade or commerce.’” In Diesel Injection Service Co. v. Jacobs Vehicle Equip. Co.,
2002 Conn. Super. LEXIS 1227 (Conn. Super. Ct. 2002), the fraudulent misrepresentations of a manufacturer of truck
parts to the distributors concerning the future of their relationships were determined to fall under the scope of the
CUPTA. See also Bailey Employment, Inc. v. Clifford Hahn, 545 F. Supp. 62 (D. Conn. 1982) (holding the franchisor
to be in violation of the CUTPA as the sale of a franchise clearly fell within the “trade or commerce” definition of the
Act, and explaining that the CUTPA expanded the protection afforded to the franchisees, as it was to “permit
Connecticut’s courts to hold practices which had not yet been specifically declared unlawful by federal authorities to
be nevertheless unlawful under CUTPA, such that, even if the FTC had not promulgated a specific franchising rule,
the Connecticut courts would be free to find such practices unlawful simply if they had ‘the tendency or capacity’ to
deceive”). Id. at 71 (emphasis added).
In 2003, the United States District Court in the Northern District of Georgia also found the California Unfair
Trade Practices Act applicable to a franchise relationship in Athlete’s Foot Marketing Assocs., Inc. v. Inner Reach
Corp., Bus. Franchise Guide (CCH) ¶ 12,349 (N.D. Ga. 2003). The court held that contractual disclaimers that any
earnings claims were made was ineffective as a purported defense to the statutory claim.
19

20. of intangible rights, which is within the statutory definition of “merchandise”; and which qualifies
the purchaser as a consumer so long as the franchise is purchased for the purchaser’s own
use, and not for resale.90 This argument will not succeed in every state, as some states have
specifically limited the statutory definition of a “consumer” to those individuals who are
purchasing goods or services for their personal, familial or household purposes.91
2. Actionable Conduct
The scope of actionable conduct under state Little FTC Acts is quite broad. For
example, the Illinois Consumer Fraud & Deceptive Business Practices Act (“ICFA”), 815 Ill.
Comp. Stat. § 505/1 et seq., provides in pertinent part that:
Unfair methods of competition and unfair or deceptive acts or
practices, including but not limited to the use or employment of any
deception, fraud, false pretense, false promise, misrepresentation or
the concealment, suppression or omission of any material fact, with
intent that others rely upon the concealment, suppression or
omission of such material fact, … in the conduct of any trade or
commerce are hereby declared unlawful whether any person has in
fact been misled, deceived or damaged thereby. In construing this
section consideration shall be given to the interpretations of the
Federal Trade Commission and the federal courts relating to Section
5 (a) of the Federal Trade Commission Act [15 U.S.C. § 45].
(emphasis added).
Using different language, the Texas Deceptive Trade Practices Act (the “TDTPA”),92
provides a cause of action against parties that engage in false, misleading, and/or deceptive
acts or practices, including e.g., the misrepresentation of the characteristics or benefits of a
“service”;93 the misrepresentation that “services” were of a particular standard, quality or grade
when they were of another;94 the misrepresentation that an agreement “conferred or involved
rights, remedies or obligations which it did not so confer or involve”;95 or a failure to disclose
information concerning goods and services which was known at the time of the transaction, with
the intent of inducing the consumer into entering into the transaction, which the consumer would
not have otherwise entered into;96 and failure to comply with filing and disclosure requirements
established by the TDPTA, including those requirements of the Texas Business Opportunity
Act.97
90 815 Ill. Comp. Stat. § 505/1(b).
91 Burke & Abel, infra n. 57, at 377-78.
92 Texas Bus. Com. Code § 17.50(a)(1).
93 Id. § 17.46(b)(5).
94 Id. § 17.46(b)(7).
95 Id. § 17.46(b)(12); See Anderson Tractor Sales v. Fiat Tractor North Am. Operations, No. 14Y1990034594
(A.A.A. 1996) (finding Fiat violated the TDTPA when it made false representations about the terms of its new
dealership agreements); cf.
96 Section 17.46(b)(24).
97 Texas Business & Commerce Code, Title 4, Chapter 41, Sections 41.001 through 41.303.
20

21. Virtually any deception in the franchise sales process, including but not limited to
conduct rising to the level of fraud, is arguably actionable under the Illinois, Texas and similar
statutes. Moreover, in Illinois, the legislature’s express directive that the courts should consider
both judicial and FTC “interpretations” of the FTC act, created a private cause of action, we
submit, that would encompass violations of the Section 5(a) of the FTC Act, which would further
include (but not be limited to) Franchise Rule violations.98 We submit that this result (the
availability of an action to redress Franchise Rule violations) is strengthened, but does not
depend, on this express directive contained in the Illinois act, and that the same result should
follow under the broad provisions of any comparable Little FTC Act.
The relationship between Franchise Rule violations and actionable claims under the FTC
Act – and hence under state Little FTC Acts – was recognized in Federal Trade Commission v.
Minuteman Press,99 where the district court held that a franchisor’s conduct was a concurrent
violation of both the Franchise Rule and Section 5(a), which prohibits “unfair or deceptive acts
or practices in or affecting commerce.” The court found that the franchisor violated Section 5(a),
in the first instance, by “making false gross sales and profitability claims to prospective…
franchisees. Such misrepresentations – which tend to bear directly on the economic viability of
the transaction under consideration – are both likely to deceive and material.”100 The court held
that this same conduct was also a violation of the Franchise Rule governing earnings claims,
and significantly, the court held further that the violation of the Franchise Rule was actionable by
the FTC under Section 5(a) of the FTC Act.101 The court awarded injunctive relief and damages
as a result of those violations.
The franchisees in Minuteman Press were fortunate to have the FTC litigate their claims.
Under Little FTC Acts, franchisees are arguably empowered to bring statutory claims for
98 In Saunders v. Michigan Ave. Nat’l Bank, 278 Ill. App. 3d 307, 662 N.E.2d 602 (1st Dist. 1996), the Illinois
Appellate Court recognized the linkage to the FTC Act:
Illinois courts determine whether conduct [violates] the Consumer Fraud Act on a case-
by-case basis. … In determining whether conduct is [violative of the ICFA], courts may
rely upon interpretations of the Federal Trade Commission Act. 815 ILCS 505/2. In
Federal Trade Comm'n v. Sperry & Hutchinson Co., the Supreme Court set out the
requirements for establishing unfair conduct: (1) whether the practice offends public
policy; (2) whether it is oppressive; and (3) whether it causes consumers substantial
injury. 405 U.S. 233, 31 L.Ed. 2d 170, 92 S. Ct. 898.
See also, Sullivan's Wholesale Drug Co. v. Faryl's Pharmacy, 214 Ill. App. 3d 1073, 573 N.E.2d 1370 (5th Dist. 1991)
(“Violations of the FTC Act are violations of the CFA where those violations result in injury to consumers”). See
Berggren et al. v. Bang & Olufsen of Am., Inc, 02 L 011171, Cook County Circuit Court (trial court has upheld, at the
pleading stage, a claim that dealers were consumers under the ICFA, and that the dealers have stated an actionable
claim under the ICFA for the manufacturer’s U.S. subsidiary’s alleged violations of the Franchise Rule).
99 53 F. Supp. 2d 248 (S.D.N.Y. 1998).
100 Id. at 258.
101 Id. The court noted that the “Franchise Rule defines earnings claims to include any oral, written, or visual
representations to a prospective franchisee which state specific actual or potential levels of sales, income, gross or
net profits, or to make representations that state other facts that suggest such specific levels. 16 C.F.R. § 436.1(b),
(c), (d); Final Interpretive Guides, 44 Fed. Reg. at 49,982.” In addition, the rule requires a franchisor that elects to
make earnings claims to prospective franchisees to “have written substantiating documentation on hand, see 16
C.F.R. Section 436.1(b)(2), (c)(2), and to furnish supporting ‘Earnings Claim Document[s]’ to those individuals to
whom representations were made. Final Interpretative Guides, 44 Fed. Reg. at 49,966, 49,982.”
21

22. fraudulent or deceptive practices in the franchise sales process, in which the prospective
franchisee is essentially a “consumer” of the franchise opportunity. Successful plaintiffs may
recover their actual damages, exemplary damages, and costs and attorneys’ fees, and may also
obtain injunctive relief.102 Moreover, under Minuteman Press, franchisees in private Little FTC
actions may properly allege conduct that would violate the FTC’s Franchise Rule as a statutory
violation. Improper earnings claims, for example, should arguably be grounds for a private
statutory claim under the same circumstances in which the FTC is empowered to bring an
enforcement action. On appropriate evidence, including expert testimony, the finder of fact
should be able to consider a franchisor’s violation of the Franchise Rule in deciding liability and
damages.
The franchisee’s ability to allege violations of the Franchise Rule in a Little FTC action is
a broad remedy. For example, there are several non-exclusive ways that a franchisor might
violate the earnings claim rule: providing false information in a UFOC; providing undocumented
information in a UFOC; providing earnings claims outside the UFOC; or failing even to provide a
UFOC. The same type of analysis would follow with respect to the other required disclosures
under the Franchise Rule, or to any other deceptive conduct that would violate the FTC Act and
hence a Little FTC Act.
3. Relaxed Proof Requirements
Perhaps more importantly, plaintiffs under a state’s Little FTC Acts, are generally not
required to prove actual reliance upon the alleged fraudulent or deceptive practices that induced
their franchise purchase.103 This holding is consistent with the federal court’s interpretation of
the FTC Act in Minuteman Press, where the court held that the FTC was not required to prove
actual reliance, and that, therefore, the claim was not defeated by disclaimers of reliance
contained in the offering circular.104 The test is generally whether a reasonable person would be
likely be misled by the material misrepresentations or omissions.105
In addition, plaintiffs under a little FTC Act need not prove intentional fraud by the
franchisor or its sales agents. As the court in Minuteman Press held, “[i]f erroneous information
is being disseminated in the marketplace, the availability of injunctive relief does not turn on
whether the person or entity making the false claims is acting fraudulently as distinct from
recklessly or due to sheer ignorance. The effect on consumers is the same in any event.”106
Illinois follows the same rule, as the franchisor or sales agent need not require proof of actual
reliance or intentional fraud when bringing a claim under the state Little FTC Act, the Illinois
Consumer Fraud Act (ICFA). The Illinois Supreme Court has repeatedly held that reliance is not
102 815 Ill. Comp. Stat. § 505/10a.
103 See Siegel v. Levy Org. Dev. Co., 153 Ill. 2d 534, 542-43, 607 N.E.2d 194 (1992).
104 53 F. Supp. 2d at 262-63. See also Athlete’s Foot Marketing Assoc., Inc. v. Inner Reach Corp., Bus.
Franchise Guide (CCH) ¶ 12,349 (N.D. Ga. 2003) (where the UFOC recited that: “[franchisor] and [franchisee]
expressly acknowledge that [franchisor] has made no representations, projections or earning claims to [franchisee]
with regard to the performance of or sales by each Store. It is expressly agreed between the parties that results and
performance of each Store are matter strictly within the control of the [franchisee].”) (emphasis added). The court
held that where the franchisor made earnings claims (despite the disclaimers), the disclaimers were violative of the
California Unfair Trade Practices (CUTP) Act, which was a fundamental public policy of California. Id.
105 Burke & Abel, infra n. 57, at 377.
106 53 F. Supp. 2d at 260.
22

23. needed to establish a consumer fraud claim. “[W]e must hold that a complaining party is not
required to establish reliance, either actual or reasonable, to state a claim under the Illinois
Consumer Fraud Act. This is in line not only with the Illinois Supreme Court’s statements
regarding the absence of a reliance requirement, but also the liberal policy behind the Act.”107
Additionally, it has long been held that a showing of intentional fraud is not required in Illinois as
well. “[A]n intent to deceive is not essential to a finding of unfair or deceptive conduct under
section 2 of the Consumer Fraud Act.”108 The focus is on the effect on the consumer and not
the intent of the seller:
[T]he “intent” required by the statute is only the intent that plaintiffs in the
primary action rely on the information that defendants gave them, as
opposed to any intent on defendants’ part to deceive. Furthermore, to
limit the application of the statute to intentional acts of deception would
be contrary to the legislative purpose. We thus conclude that a violation
of the Consumer Fraud Act may be based on an innocent or negligent
misrepresentation as well as one that is intentional.109
For all of these reasons, franchisees seeking to allege fraud in the franchise sales process
should consider the availability of a “consumer fraud or deceptive practice” claim under a state’s
Little FTC Act.110
C. RICO
We turn to the federal Racketeering Influenced & Corrupt Organizations Act, 18 U.S.C. §
1961 et seq., which provides a comprehensive remedy for serious fraud claims, and which can
award treble damages and attorneys’ fees. In essence, civil RICO is a private claim for
damages caused by conduct which is already illegal under one or more enumerated federal
statutes (i.e., RICO does not prohibit any conduct which is not already illegal). Proving a civil
RICO case is obviously much easier after a successful criminal prosecution, but that
circumstance is rare and non-existent thus far in franchising. However, private plaintiffs may
initiate a civil RICO claim in the absence of a prior criminal conviction under RICO or under the
specific statutes which outlaw the various defined acts of racketeering activity. Since 1985, the
United States Supreme Court has held that civil RICO claims can be filed even in the absence
of a prior criminal conviction (or even an indictment).111
107 Cozzi Iron & Metal, Inc. v. U.S. Office Equip., Inc., 250 F.3d 570, 576 (7th Cir. 2001). However, it does
remain incumbent on the plaintiff to prove proximate causation, which necessarily incorporates an element of actual
reliance. See Oliveira v. Amoco Oil Co., 201 Ill. 2d 134, 150-51, 776 N.E.2d 151 (2002)(leaving open the extent to
which proximate causation requires actual reliance under the Illinois Consumer Fraud Act).
108 People ex rel. Hartigan v. Stianos, 475 N.E.2d 1024,1027 (Ill. App. Ct. 1985).
109 Carl Sandburg Village Condo. Ass’n No.1 v. First Condo. Dev. Co., 557 N.E.2d 246 (Ill. App. Ct. 1990).
Minuteman Press, 53 F. Supp. 2d at 260-63; Martin v. Heinhold Commodities, Inc., 162 Ill.2d 33, 76 (1994) (citations
omitted) (“the test [under the Illinois act] is the effect the [deceptive] conduct might have on the consumer”) (emphasis
added); Burke & Abel, infra note 57, at 375.
110 And yet, because franchisors continue to litigate the applicability of these laws to franchising, in the first
instance, we remain desirous of a federal statute creating a private right of action under the FTC Act.
111 Sedima, S.P.L.R. v. Imrex Co., 473 U.S. 479 (1985).
23

24. At the outset of this discussion, it is fair to ask: Why are there not more “franchise fraud”
claims being filed as RICO claims? As much as we would all like to think that there are not
enough fraud claims to warrant RICO charges, we believe that a downturn in RICO claims in the
last several years is due to concern that the federal judiciary has collectively come to believe
that civil RICO should be reserved for very serious cases, as well as sharply increased
expenses incurred in asserting this type of complex claim in a federal court.
1. Elements
a. Predicate Acts (Fraud)
Reviewing the RICO act, the Seventh Circuit famously observed that RICO "is
constructed on the model of a treasure hunt."112 The “hunt” begins with a determination of
whether the defendant has violated any of the enumerated crimes, which are “predicate acts” of
racketeering activity for RICO purposes. For purposes of RICO in franchising, the most
important predicate acts are mail fraud or wire fraud. Mail fraud is prohibited by 18 U.S.C. §
1341, and wire fraud is prohibited by 18 U.S.C. § 1343. The fraud language in these two
sections is identical, and the elements of these violations are (1) the existence of a scheme to
defraud; (2) the defendant's knowing participation in that scheme; and (3) the use of the mail or
wires in furtherance of that scheme.113 In civil RICO cases, the federal courts have required
proof of common law fraud (plus the additional element of using the mails or wires) to establish
these predicate acts.114
112 Haroco Inc. v. American Nat. Bank and Trust of Chicago, 747 F.2d 384, 386 (7th Cir. 1984).
113 South Atlantic Ltd. v. Riese, 284 F.3d 518 (4th Cir. 2002).
114 Promissory fraud has been used to establish the predicate act of mail fraud under RICO. See, PMC, Inc. v.
Ferro Corp., 131 F.R.D. 184 (C.D.Cal. 1990); Bankcard America, Inc. v. Elliott, 1994 WL 49843 (N.D. Ill. Sept. 8,
1994). See Weeks v. Samsung Heavy Indus. Co., 126 F.3d 926, 942 (7th Cir. 1997) (holding promissory fraud is
actionable “only if it either is particularly egregious or, what may amount to the same thing, it is embedded in a larger
pattern of deceptions or enticements that reasonably induces reliance and against which the law ought to provide a
remedy”).
24

25. b. Pattern Of Racketeering Activity
The “hunt” for a RICO claim continues with a determination of whether the identified
predicate acts amount to a “pattern of racketeering activity” – which, at a bare minimum,
requires at least two acts of racketeering activity, the last of which occurred within ten years
(excluding any period of imprisonment) after the commission of a prior act of racketeering
activity.115 In other words, if there were at least two instances of mail or wire fraud in the last ten
years, the question becomes whether those acts are a “pattern” under the Supreme Court’s
“continuity plus relationship” test: (a) Relationship: Criminal conduct forms a pattern if it
embraces criminal acts that have the same or similar purposes, results, participants, victims, or
methods of commission, or are otherwise interrelated by distinguishing characteristics and are
not isolated events;116 (b) "Continuity" is both a closed and open-ended concept, referring to
either a closed period of repeated conduct, or to past conduct that by its nature projects into the
future with a threat of repetition. Predicate acts extending over a few weeks or months and
threatening no future criminal conduct do not satisfy this requirement.117
c. “Persons” Liable
The “hunt” then shifts to identify a potentially liable “person” which may be “any
individual or entity capable of holding a legal or beneficial interest in property.”118 The "persons"
who commit the predicate offenses cannot simultaneously be the "enterprise."
d. Enterprise
The RICO “enterprise” is the key to the RICO statute. An “enterprise” includes any
individual, partnership, corporation, association, or other legal entity, and any union or group of
individuals associated in fact although not a legal entity.119 Much confusion has related to the
concept of an “enterprise” comprised of “individuals associated in fact.” What this means is that
the enterprise may have no function apart from the criminal activity giving rise to the RICO
claim.120 Many courts have approved a "liberal" theory of enterprise, whereby "there is no
distinction between a duly formed corporation that elects officers and holds annual meetings
and an amoeba-like infra-structure that controls a secret criminal network."121
115 18 U.S.C. § 1961(5).
116 H.J., Inc. v. Northwestern Bell Telephone Co., 109 S. Ct 2983, 2902 (1989).
117 Id.
118 18 U.S.C. § 1961(3).
119 Id. at § 1961(4).
120 See U.S. v. Goldin Indust., 219 F.3d 1271 (11th Cir. 2000) (holding that a RICO enterprise need not possess
an "ascertainable structure" distinct from the associations necessary to conduct the pattern of racketeering activity).
121 See United States v. Elliott, 571 F.2d 880, 898 (5th Cir. 1978); and Gross v. State, 735 So.2d 39 (Fla. 2000)
(The Eleventh Circuit has interpreted RICO to reach any group of individuals “whose association, however loose or
informal, furnishes a vehicle for the commission of two or more predicate crimes.”)
25

26. e. RICO Violations
RICO prohibits four types of relationships between the person(s) who engage in a
pattern of racketeering activity and the enterprise:
i. Investing the proceeds of the pattern of racketeering activity (the
fraud) into an enterprise.122
ii. Acquiring or maintaining an interest in, or control over, an
enterprise through a pattern of racketeering activity.123
iii. Conducting or participating in the affairs of an enterprise through a
pattern of racketeering activity.124
iv. Conspiring to violate any of the other provisions of RICO.125
122 18 U.S.C. § 1962(a) provides that: “It shall be unlawful for any person who has received income, directly or
indirectly, from a pattern of racketeering activity or to use or invest, directly or indirectly, any part of such income, or
the proceeds of such income, in the acquisition of any interest in, or the establishment or operation of, any enterprise
which is engaged in, or the activities of which affect, inter-state or foreign commerce.”
123 18 U.S.C. § 1962 (b) provides that: “It shall be unlawful for any person through a pattern of racketeering
activity ... to acquire or maintain, directly or indirectly, any interest in or control of any enterprise which is engaged in,
or the activities of which affect, inter-state or foreign commerce.”
124 18 U.S.C. § 1962(c) provides that: “It shall be unlawful for any person employed by or associated with any
enterprise engaged in, or the activities of which affect, interstate or foreign commerce, to conduct or participate,
directly or indirectly, in the conduct of such enterprise's affairs through a pattern of racketeering activity....”
In Reves v. Ernst & Young, the Supreme Court held that participation in the conduct of an enterprise
requires an element of direction over the affairs of the enterprise. 113 S.Ct. 1163, 1170 (1993).
125 18 U.S.C. § 1962(d) provides that: “It shall be unlawful for any person to conspire to violate any of the
provisions of subsections (a), (b), or (c) of this section.”
26