Antitrust Law Daily Wrap Up, FRANCHISING & DISTRIBUTION—N.D. Tex.: No franchisee action for violation of FTC Franchise Rule, (May 20, 2015)

By Edward L. Puzzo, J.D.

Franchisees could not maintain a counterclaim against a frozen yogurt franchisor based on alleged violations of the FTC Franchise Rule because the rule does not provide a private right of action, the federal district court in Dallas has ruled (Yumilicious Franchise, LLC v. Barrie, May 18, 2015, Lindsay, S.).

In May 2010, Texas-based frozen yogurt franchisor Yumilicious entered into franchise agreements with Why Not, LLC and its three individual principals to open two yogurt shops in South Carolina. Yumilicious later filed a lawsuit, alleging that the franchisees breached the franchise agreement by closing a yogurt store without prior authorization, failing to pay royalties, and failing to pay for yogurt products they ordered. The franchisees filed counterclaims for breach of contract, fraud, negligent misrepresentation, and violations of the Texas Deceptive Trade Practices Act (TDTPA).

On August 14, 2014, the court dismissed defendants’ counterclaim of TDTPA violations as time-barred under the applicable two-year statute of limitations, since the franchise agreement was entered into in May 2010 and the defendants filed suit long after May 2012.

On April 22, 2015, the court denied reconsideration of its order dismissing franchisees’ TDTPA counterclaim. The court conceded that its earlier dismissal, based on the statute of limitations was inappropriate, because Texas civil practice rules allow a counterclaim to be filed within 30 days after the date the party’s answer is due, even when the claim would be time-barred if filed as a separate action. However, the court found an alternate basis for dismissal: a failure to show intentional misrepresentations by the franchisor and detrimental reliance by the franchisees. According to the court, the defendants did not allege that assurances and omissions as to vendors and distributors were intentionally made by Yumilicious or that the franchisees detrimentally relied on or were induced into entering into the franchise agreements based on those representations. The court further ruled that the lack of certain financial performance disclosures in the franchise agreements, while technical violations of the Franchise Rule, were insufficient to state a claim under the TDTPA.

On April 23, 2015, the court noted that the FTC can bring suit to enjoin a franchisor’s failure to furnish a prospective franchisee with the information specified in its Franchise Rule, but no private right of action is available to franchisees under these regulations. For that reason, the court sua sponte raised the issue for summary judgment. Accordingly, the court directed the franchisees to show cause why their remaining counterclaim—alleging misrepresentations and omissions in the Franchise Disclosure Document—should not be dismissed either for lack of a private right of action, or for failure to allege the counterclaim with sufficient particularity under Rule 9(b) of the Federal Rules of Civil Procedure.

This week, the court ruled that franchisees’ counterclaim, alleging violations of the Franchise Rule, should be dismissed for lack of a private right of action. While alleged as separate causes of action, the franchisees’ counterclaim for violations of the FTC Franchise Rule was subsumed within their TDTPA counterclaim. The court noted that it had previously dismissed that TDTPA counterclaim for failure to state a claim under Section 17.46 of the TDTPA.

The franchisees conceded that the FTC Franchise Rule did not create a private right of action, but claimed that the Texas Business Opportunity Act did provide a private right of action for violations of the FTC Franchise Rule. The court disagreed, stating that, absent a TDTPA counterclaim, the franchisees lacked a basis to bring a separate counterclaim for violations of the Franchise Rule. Consequently, the court ruled, the remaining counterclaim based on alleged violations of the Franchise Rule failed to state a claim and should be dismissed.

The case is Civil Action No. 3:13-CV-4841-L.

Attorneys: Todd C. Donohue (The Wolf Law Firm, PC) for Yumilicious Franchise LLC. Gary E. Smith (Law Office of Gary E. Smith) for Matthew Barrie, Kelly Glynn, Brian Glynn, and Why Not, LLC.

Companies: Yumilicious Franchise, LLC; Why Not, LLC.

Cases: FranchisingDistribution StateUnfairTradePractices TexasNews