Antitrust Law Daily Wrap Up, FRANCHISING & DISTRIBUTION—N.D. Ill.: Distributor’s New York franchise law claims dismissed, contract claim proceeds, (Nov 7, 2013)

By Linda O’Brien, J.D., LL.M.

In an action brought by a terminated health supplement distributor against its manufacturer, the federal district court in Central Islip, New York dismissed the distributor’s New York Franchise Sales Act claims but allowed a breach of contract claim to proceed (Nature’s Plus Nordic A/S v. Natural Organics, Inc., November 6, 2013, Spatt, A.).

The court found that the distributorship was not a “franchise” under the New York Franchise Sales Act and therefore the distributor was not entitled to the protections of the statute. However, it ruled that the distributor substantially performed its obligations with regard to the minimal sales requirement for the year 2008 and that genuine issues of material fact exist regarding the distributor’s performance of advertising obligations of the distributorship agreement. In order to succeed on its breach of contract claim, the distributor must prove at trial that it complied with the advertising requirements, according to the court.

Background. Natural Organics, Inc. (NOI) manufactured and supplied health supplement products sold under various trade names, including “Nature’s Plus.” The primary business of Nature’s Plus Nordic A/S (NPN) and its parent company, Dermagruppen A/S, was to distribute Nature’s Plus brand health supplements to retailers in Scandinavia. The health care supplements consisted of vitamins and other nutritional food items in pill and powder form.

In 2007, NPN entered into a sole distributorship agreement with NOI to distribute Nature’s Plus brand products to retail stores in Norway, Sweden, Denmark, and Finland from 2008 to 2018. The distributor’s parent company, Dermagruppen, was not a signatory to the agreement. The agreement provided that, in order for NPN to maintain the sole distributorship, it must purchase and pay for products from NOI in a minimum amount of $600,000 per year. The agreement also contained a provision allowing NOI to terminate the agreement for breaches of any terms or conditions after 30 days written formal notice and an opportunity to cure by NPN.

During the time the agreement was in effect, NPN purchased Nature’s Plus products from NOI. By the end of 2008, NPN allegedly failed to meet its annual sales goals by significant margins. In August 2009, NOI terminated its exclusive distributorship agreement with NPN, citing a failure to meet contractual minimum sales requirements for the 2008 calendar year. NOI subsequently announced that the new exclusive distributor of Nature’s Plus brand products was House of Nature A/S (HON), a business operated by Hans Lundestad, a former managing director at NPN.

NPN and Dermagruppen filed suit against NOI, HON and Lundestad, asserting claims under federal, state and Norwegian law, including breach of contract, tortious interference with contract, breach of fiduciary duty, violation of New York and Norwegian business practice laws, and violation of federal unfair competition law. Default judgments were entered against HON and Lundestad. The plaintiffs moved for partial summary judgment on their breach of contract claim. NOI moved to dismiss the contract and NYFSA claims.

Breach of contract. The plaintiffs, in their partial summary judgment motion, asserted that NOI’s calculation of the minimum sales requirement was not previously disclosed to NPN and read additional terms into the agreement. The plaintiffs maintained that the agreement did not exclude payments made in one year for products ordered and delivered in another year, payments for private label products derived from Nature’s Plus branded products, or payments for freight or other costs associated with product delivery. NPN and Dermagruppen also contended that NOI waived any alleged breach by its continued acceptance of NPN’s performance into 2009 and failed to provide NPN with written notice and an opportunity to cure.

In its motion for partial summary judgment, NOI argued that Dermagruppen lacked standing to sue with respect to the agreement because it was not a signatory or party thereto. On its breach of contract claim, NOI contended that NPN failed to show that it satisfactory performed under the agreement and that it sustained legally recognizable damages as a result of the alleged breach. NOI moved to dismiss the plaintiffs’ NYFSA claim on the ground that no franchise fee was contemplated under the agreement and franchise existed between NOI and NPN.

In denying the plaintiffs’ partial summary judgment motion on Dermagruppen’s breach of contract claim and granting NOI’s motion for partial summary judgment dismissing Dermagruppen’s breach of contract claim, the court found that the plaintiffs failed to prove the existence of a contract between Dermagruppen and NOI. Finding that Dermagruppen lacked standing to sue on the agreement, the court rejected the plaintiffs’ contention that Dermagruppen was a successor to NPN under the non-assignment clause of the agreement and that the de facto merger doctrine applied because there was no formal merger of the two companies under New York Business Corporation Law and both NPN and Dermagruppen could not simultaneously seek redress for the same underlying claim.

Further, the court ruled as a matter of law that NPN provided substantial performance of its obligations under the minimal sales requirement for 2008 but that genuine issues of material fact exist as to whether NPN performed its obligations with respect to the advertising requirements of the agreement. It was undisputed that NPN made approximately 99.5% of the total payments required and NOI’s failure to provide notice and opportunity to cure to NPN suggested that the breach by NPN was not willful. Since NPN’s alleged failure to advertise could serve as a basis to defeat its breach of contract claim—and there were genuine issues of material fact on this point—the court would not grant summary judgment to either party on that issue.

Lost profits. In denying NOI’s motion for partial summary dismissing NPN’s claim for lost profits, the court found that the comparison of competitive products to NPN’s products as a reliable indicator of NPN’s profitability could not be determined at the summary judgment stage. Thus, the court determined that a material issue of fact existed regarding the existence and amount of lost profits. The court reserved ruling on a motion in limine by NOI to exclude the testimony of plaintiffs’ expert, Warren Keegan, regarding NPN’s lost profits.

NYFSA claims. The court granted NOI’s motion for partial summary judgment dismissing the plaintiffs’ claim under NYFSA on the grounds that the agreement did not contemplate a “franchise” under the NYFSA and therefore the statute was inapplicable. A “franchise” is defined as an agreement by which (a) a franchisee is granted the right to engage in the business of offering or selling goods or services under a marketing plan or system prescribed in substantial part by a franchisor in exchange for the direct or indirect payment of a franchise fee or (b) a franchisee is granted the right to engage in the business of offering or selling goods or services substantially associated with the franchisor’s trademark in exchange for the payment of a direct or indirect franchise fee.

In this case, the distributorship agreement provided NPN with the right to distribute NOI’s goods under a marketing plan prescribed in substantial part by NOI and substantially associated with NOI’s trademarks. However, NOI asserted that no franchise existed because the agreement did not require the payment of a “franchise fee.”

NPN alleged that the contractual obligation to spend 5% of its net purchases of products on advertising and promotion constituted a franchise fee under the statute. However, the court held that this claim failed, since the advertising requirement was expressly made as “partial consideration” for the 17% pricing discount NPN received under the distributorship agreement. In other words, NPN did not make the advertising payments “for the right to enter into a business under a franchise agreement.” The 5% advertising expenditure did not cause NPN to pay more than the wholesale price for goods; it still received a 12.5% discount from NOI’s bona fide wholesale prices. Thus, there was no additional “fee.”

The case is No. 09-CV-04256.

Attorneys: Christopher Robert Kinkade (Fox Rothschild LLP) for Nature’s Plus Nordic A/S and Dermagruppen A/S. Kevin Schlosser (Meyer, Suozzi, English & Klein, P.C.) for Natural Organics, Inc.

Companies: Nature’s Plus Nordic A/S; Dermagruppen A/S; Natural Organics, Inc.

Cases: FranchisingDistribution NewYorkNews