Franchise Agreements’ Arbitration Clauses Are Enforced Over Forum Selection Clauses in Subsequent Agreements with Franchisor

Franchise agreements’ arbitration clauses are enforceable even when subsequent agreements between the same parties contain forum selection clauses requiring litigation in different forums. Additionally, a trial court’s decision to prevent parties from presenting witnesses at trial due to missed deadlines was upheld.

Franchise Agreements with Arbitration Clauses

On September 26, 2017, Hayden Epstein and Joshua Epstein, members of Red Fit, LLC and Cali Red, LLC, entered into multiple franchise agreements and area development agreements (“ADAs”) for the San Diego area with Red Effect International Franchise, LLC. Each agreement mandated arbitration. Later, the Epsteins assigned their rights under these agreements to Red Fit, which later assigned its ADA rights to Cali Red.

In 2018, Red Fit and Red Effect International executed franchise agreements and ADAs for Orange County and LA County. A year later, Red Fit sold its rights back to Red Effect International through the 2019 Repurchase Agreements. Additionally, on November 12, 2019, the parties executed Franchise Termination and Mutual Release Agreements (“TRAs”), releasing each other from all liabilities related to previous agreements.

Subsequent Franchise Agreements with Forum Selection Clauses

The parties later entered into new franchise agreements for Orange County and LA County. Importantly, these agreements omitted arbitration provisions and included forum selection clauses requiring that any disputes between the parties be resolved in the Eastern District of Michigan or the state courts of Oakland County, Michigan.

Disputes and Arbitration

Disputes over royalties owed under the San Diego Franchise Agreements prompted Red Effect International to initiate arbitration. Red Fit objected and argued that the forum selection clauses in the 19 subsequent agreements with Red Effect International should prevail over the arbitration clauses contained in the San Diego Franchise Agreements. However, the arbitrator ruled for Red Effect International and determined that each agreement was separate and independent, and subsequent agreements did not apply retroactively.

Franchisees Sue in Michigan State Court

On February 12, 2021, Red Fit and Cali Red sued Red Effect International in Oakland Circuit County and alleged breach of contract and violations of both Michigan and California franchise investment laws. The defendants moved for partial summary judgment.

The trial court ruled that claims related to the San Diego Franchise Agreements were subject to binding arbitration and dismissed those claims. It also found that the TRAs signed on November 12, 2019, released Red Effect International from any liability arising out of agreements covered by the release clause. The trial court dismissed those claims as well.

Only the plaintiff’s breach of contract claim based on the 2019 Repurchase Agreements and violations of Michigan and California franchise investment law claims remained.

Franchisees Miss Pre-Trial Deadline

The trial court’s amended schedule order required witnesses and exhibit lists to be submitted to opposing counsels and the court by a court-imposed deadline. While the defendants complied, the plaintiffs missed the deadline.

Then, the plaintiffs’ motion to extend the deadline and stay proceedings was denied due to lack of good cause for their failure to comply. In addition, the trial court sanctioned the plaintiffs for the section of their brief in which they blame the defendants for their failure to comply—an argument that the trial court found to be “completely devoid of factual and legal merit.” The plaintiffs were required to pay the defendants their reasonable attorney fees and costs for having had to respond to the baseless motion.

Judgment Against Franchisee Plaintiffs Is Upheld

At trial, the plaintiffs were barred from presenting witnesses due to non-compliance with the scheduling order. Because the plaintiffs would be unable to prove any damages without witnesses, the trial court dismissed the sole remaining claim. The plaintiffs appealed and the Michigan Court of Appeals upheld all trial court rulings.

First, the Court upheld the trial court’s dismissal of claims relating to the San Diego Franchise Agreements, as those claims were subject to binding arbitration as provided by the arbitration clause in those Agreements.

Second, the Court upheld the trial court’s grant of summary disposition for claims arising under agreements covered by the release clause in the TRAs signed on November 12, 2019. The Court disagreed with the plaintiffs’ argument that the TRAs were subject to rescission due to the defendant’s violations of Michigan and California franchise investment laws. Rather, the Court found that no violation of either states’ franchise investment laws had occurred, and therefore, the TRAs and contained release clause were enforceable.

Third, the Court found no abuse of discretion by the trial court for its refusal to extend the plaintiffs’ deadlines for filing witness lists and for striking the late-filed witness lists. In addition, the trial court had not abused its discretion when it sanctioned the plaintiffs by prohibiting them from calling witnesses.

Lastly, the Court found no clear error in the trial court’s decision to sanction the plaintiffs for attempting to blame the defendants for their own failure to comply with the scheduling order. The Court affirmed all the trial court’s rulings.

Special thanks to Charlotte Kim, a summer associate in Foley’s Dallas office, for her contributions to this article.