Antitrust Law Daily Wrap Up, FRANCHISING & DISTRIBUTION—8th Cir.: Order compelling arbitration of cleaning service franchisees’ RICO claims upheld, (Mar 26, 2015)

By Linda O’Brien, J.D., LL.M.

The U.S. Court of Appeals in St. Louis has affirmed a district court order that five franchisees’ RICO claims against a system franchisor and its regional franchisors for allegedly engaging in a fraudulent scheme to induce the purchase of franchises were subject to an arbitration clause of their unit franchise agreements (Torres v. Simpatico, Inc., March 25, 2015, Wollman, R.).

Stratus Franchising LLC is a commercial cleaning services business. Stratus sells master franchises, which serve the exclusive franchisor in a regional market and sell unit franchises with that geographic area. Five owners of Stratus system unit franchises filed a class action suit against Stratus, three master franchisors which the franchisees contracted to purchase unit franchises, (Simpatico, PHSCCH SBS, and Stratus Building Solutions of Houston), several non-signatory master franchisors, and numerous individuals.

The franchisees alleged that the defendants fraudulently induced the plaintiffs to purchase unit franchises and extracted exorbitant fees from the franchisees without fulfilling their own contractual obligations in violation of RICO. The franchisees also alleged that the Stratus system was an illegal scheme that (1) defrauded unit franchisees by misrepresenting the system’s organization and nature; (2) misrepresented the unit franchisees’ financial prospects; (3) oversaturated geographical markets; (4) grossly underpriced the franchisees’ work to customers; (5) deceptively churned franchisee service accounts; and (6) charged undisclosed and inflated fees to the franchisees.

The franchise agreement between the unit franchisees and the master franchisors contained a broad arbitration provision. In February 2014, the defendants’ motion to compel arbitration was granted. The plaintiffs appealed.

The appellate court found that the district court did not err in its decision regarding the validity and scope of the arbitration clause. The Federal Arbitration Act (FAA) established a liberal federal policy favoring arbitration agreements, according to the court. The plaintiffs failed to show that the filing and hearing costs were cost prohibitive. Specifically, the average daily arbitrator fee quoted by the plaintiffs did not reflect the likely cost of arbitration, since some arbitrator fees were below the average. Moreover, none of the plaintiffs reside in the four geographic areas for which average daily arbitrator rates were provided. Similarly, the plaintiffs’ estimates of the theoretical cost and length of an individual arbitration hearing failed to show the likely cost of arbitration, and none of the plaintiffs provided affidavits attesting to their inability to pay the costs of arbitration.

The plaintiffs’ argument that the arbitration clauses were not enforceable as substantively unconscionable because they included a waiver of punitive damages and attorneys’ fees was rejected. The court noted that the issue of whether the prospective waiver violated public policy was a matter for the arbitrator in fashioning an appropriate remedy if the plaintiffs prevail on their RICO claim.

The plaintiffs’ contention that, even if the arbitration provision is enforceable, it can be invoked only by the master franchisors who actually signed the respective agreements—and not by non-signatory parties—was also rejected. Under Missouri law, third-party beneficiaries may enforce the terms of the contract where the contract clearly expresses an intent to benefit that party.

According to the court, the arbitration provision clearly set forth that all disputes must be submitted to binding arbitration and that the provision was intended to benefit and bind certain third-party non-signatories. The language of the provision was sufficiently broad and inclusive to express an intent to benefit not only the actual signatories and named beneficiaries, but also other non-signatories, all of whom were owners, operators, or employees of the master franchisors or Stratus Franchising. Therefore, the district court did not err in concluding that non-signatory parties could invoke and enforce the arbitration provision.

The case is No. 14-1567.

Attorneys: Jonathan Edward Fortman (Law Office of Jonathan E. Fortman, LLC) for Jose Torres. Glenn Eugene Davis (Hepler & Broom) for Simpatico, Inc., Stratus Franchising, LLC, PHSSCH SBS, LLC, Stratus Building Solutions of Arizona, Inc., and Colorado Cleaning Partners, Inc.

Companies: Simpatico, Inc.; Stratus Franchising, LLC; PHSSCH SBS, LLC; Stratus Building Solutions of Arizona, Inc.; Colorado Cleaning Partners, Inc.

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