Wait! You, Too? Litigation Brought by Nonsignatories to Franchise Agreements

August 1, 2014 Published Work
Franchise Law Journal, Summer 2014

Wait! You, Too? Litigation Brought by Nonsignatories to Franchise Agreements. Originally published in the Franchise Law Journal, Vol. 34, No. 1, Summer 2014. © 2014 by the American Bar Association.

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In the business world, the rear view mirror is always clearer than the windshield.—Warren Buffett

Hindsight has always been 20/20. But why wait for our own hindsight when learning from another's past can guide our future conduct? This is especially true in the business of franchising to avoid potential conflicts with nonsignatories. Over the past several years, there has been an increase in lawsuits brought by nonsignatories involved in the franchise relationship. Given this reality, during the negotiation process with a prospective franchisee, franchisors should look around to see who might be standing in the shadows and may later step out into the light to claim rights. Generally, nonsignatories who sue franchisors are franchisee spouses and/or investors. Although there is no private right of action under the FTC Franchise Rule,1 many nonsignatories assert violations of the federal regulations as a "backdoor" way of asserting a state law claim for violation of the FTC Franchise Rule. Typical claims brought by nonsignatories include state law "little FTC Act" violations, franchise law violations, breach of contract, and common law torts. When nonsignatories assert these claims, common threshold issues involve challenges to standing and choice of law disputes.

Unfortunately, there are few judicial decisions concerning nonsignatory franchise litigation because many of these cases settle before any substantive rulings are issued. The decisions that do exist, however, suggest that the out-comes are fact-specific and depend on the circumstances and relationships between and among the franchisor, franchisee, and nonsignatory parties. Nonsignatory lawsuits could change how franchisors manage their franchise relationships by considering a prospective franchisee's investors and spouses and how the franchisor, directly or indirectly, distributes information that reaches those individuals. This article provides an overview of the threshold issues that arise when nonsignatories bring claims against franchisors and addresses the implications of franchise investor/spouse litigation for franchisors.

1. See 16 C.F.R. § 2.2(a) (2013) (noting that "[a]ny individual, partnership, corporation, association, or organization may request the Commission to institute an investigation in respect to any matter over which the Commission has jurisdiction"); Disclosure Requirements and Prohibitions Concerning Franchising and Business Opportunities, 72 Fed. Reg. 15,444, 15,478 n.350 (Mar. 30, 2007) [hereinafter FTC Rules and Regs.] (amending 16 C.F.R. pts. 436 and 437) (noting that "there is no private right of action to enforce the Franchise Rule").