Franchise Litigation – the tide is turning?

Franchisors liable for misrepresentation

A recent High Court decision suggests that the legal tide may be starting to turn against Franchisors. Up until last year, UK case law precedent supporting the rights of franchisees against their franchisors was thin on the ground.  Franchisors had some confidence that they could enforce the terms of their franchise agreements exactly as drafted, and in particular that their agreements effectively excluded franchisor liability for misrepresentation.  The case of Papa-Johns (GB) Ltd v Elsa Doyley now throws this into doubt, and also hints at the courts’ growing sympathy towards the position of franchisees. As the saying goes: “Forewarned is forearmed”.  So Franchisors are well advised to take note, and take steps to protect themselves.

Background of the case

Mrs Doyley applied to become a Papa-John’s franchisee in 2004.  She had a background in nursing, had little commercial experience, and no knowledge at all of the quick-service restaurant sector.  She was granted a franchise and a sublease to operate a Papa-John’s outlet in Weymouth.  She set up a limited company and gave personal guarantees to Papa-John’s. Despite putting a considerable financial investment into the venture, it did not prosper and the business closed in 2008 without having ever made any profits. Papa-John’s sued Mrs Doyley under her personal guarantees.  She counterclaimed, alleging misrepresentations and negligent mis-statements by Papa-John’s.

What representations were made by Papa-John’s?

Prior to Mrs Doyley signing up to the franchise, Papa-John’s had provided her with various financials, including operating projections based on “Average Net Weekly Turnover” of £8k, £10k and £12k per week.  They included a “health warning”, to the effect that no guarantees or warranties were being given, and that franchisees must obtain their own independent advice. In fact, it came to light during the trial that median turnover figures for Papa John’s in the UK in the 3 years up to 2004 were actually around £4k per week. Papa John’s never expressly stated that the figures were based on actual sales figures for existing franchisees.  But neither did they ever point out that they were not.  Papa John’s franchise agreement had all the usual forms of disclaimers, including that the franchisee was not to be placing any reliance on representations, and that the franchisor would have no liability for any representation, unless it was annexed to the agreement

The decision

The Court decided in Mrs Doyley’s favour, leaving Papa-John’s liable for substantial damages and costs. The Court described Mrs Doyley as an “amateur business woman”.  They concluded that Papa-John’s were fully aware of her inexperience in business.  It was reasonable for Mrs Doyley to have taken the figures at face value.   The figures amounted to misrepresentation and negligent mis-statement. The provisions in the franchise agreement excluding liability for misrepresentation were held to be void under the Unfair Contract Terms Act 1977.  In this context, the judge found it significant that the franchise agreement was presented as non-negotiable.  He concluded that this put the franchisor in a dominant (and unfair) bargaining position.

Learnings

How can franchisors avoid falling into these traps, or at least reduce their legal risks?  The following tips may help:

1. If at all possible, avoid using “aspirational” figures, and base your figures on actual, past performance.  Whatever methodology you chose, make sure that it is clear in your literature what you have based it on.
2. Consider tailoring your financial projections so that they are relevant to the prospective franchisee you are talking to.  If, for example, your figures are better for one part of the country than they are for another, avoid giving the franchisee figures that rely on sales in a location that they are not in.
3. Remember that your pre-contract representations are not limited to your franchise brochure.  They extend to everything you say, every presentation, every email, prior to the contract being signed.
4. In the light of the detail of the PJs judgement, you may be well-advised to get your lawyers to double-check your standard agreements and update the wording, if they haven’t done so already.
5. Remember that the burden, and risk, is going to be greater for franchisors who recruit franchisees with limited business experience, or limited experience in your particular sector.  Those who recruit experienced or sophisticated operators might fare better.
6. And finally, ask your solicitors to review all the pre-contract information that you provide to franchisees.  It could be an extremely cost-effective way of managing what could otherwise be an expensive exposure.