Antitrust Law Daily Wrap Up, FRANCHISING & DISTRIBUTION—WashSCt: Sandwich Shop Franchisor Was Not Entitled to Review of the Merits of Order Compelling Arbitration, (Jan 21, 2013)

By Peter Reap, J.D., LLM

Doctor’s Associates, Inc. (“DAI”), the franchisor of Subway sandwich shops, was not entitled to a review of the merits of an order by a Washington state trial court compelling arbitration of its dispute with two franchisees because DAI failed to show any prejudice as a result of that order, the Washington Supreme Court has decided (Saleemi v. Doctor’s Associates, Inc., January 17, 2013, Chambers, T.). Thus, a ruling by a Washington appellate court was affirmed and the dispute was remanded for entry of judgment on an arbitrator’s award of $230,000 to the franchisees.

Background

After a dispute developed between the parties, the franchisor sent a notice of termination to the franchisees and filed an arbitration demand pursuant to the arbitration clause in their agreements. The choice of law provision in the three franchise agreements between the Florida franchisor and the Washington franchisees stated “This Agreement will be governed by and construed in accordance with the substantive laws of the State of Connecticut, without reference to its conflicts of law, except as may otherwise be provided in this Agreement. The parties agree any franchise law or business opportunity law of the State of Connecticut, now in effect, or adopted or amended after the date of this Agreement, will not apply to franchises located outside of Connecticut.” A limitation of remedies provision in the franchise agreements limited damages to either compensatory damages not to exceed $100,000 or, in the alternative, all franchise fees and royalties paid to DAI by the franchisee during the preceding three years.

The franchisees subsequently filed suit against the franchisor in Washington state court, arguing that the franchisor breached the contracts and violated the Washington Franchise Investment Protection Act (WFIPA) and Washington’s Consumer Protection Act. A Washington trial court found the Connecticut forum selection clause in the franchise agreements to be “unconscionable and unenforceable” and ordered that all disputes between the parties be arbitrated in “Washington under Washington law, with no limitations on remedies.” The franchisor did not seek discretionary review of that order and arbitration was conducted, as required by the agreement, under American Arbitration Association rules.

The arbitrator denied all of the franchisor’s claims and found in favor of the franchisees. He found that DAI discriminated against the franchisees in violation of WFIPA and awarded the franchisees compensatory damages of $230,000. DAI appealed, arguing that the trial court’s initial order compelling Washington arbitration was in error and the error was structural. The Court of Appeals concluded that even if the trial judge’s order was incorrect, DAI had not shown prejudice and was not entitled to relief. DAI appealed.

Analysis

DAI argued that the trial court violated the Federal Arbitration Act by ordering and confirming arbitration. DAI argued the trial court erred in failing to strictly enforce the venue, choice of law, and damages limitations in the franchise agreement.

DAI asserted that Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440 (2006), stands for the proposition that “once the trial court determines that there is an enforceable agreement to arbitrate the dispute, then the trial court’s inquiry stops and the remaining matters are left for the arbitrator.” However, the Washington Supreme Court could find no such statement in Buckeye, it noted.

Rather, Buckeye holds that the question of whether the whole contract, as opposed to the arbitration provision, is void for the arbitrator, not the court, in the court’s view. The franchisees were not challenging the contract as a whole, only the enforceability of a few of its dispute resolution provisions.

A party did not waive its right to challenge an interlocutory order by not immediately seeking discretionary review, the Washington Supreme Court determined. But a party that failed to seek review of an order compelling arbitration on grounds of venue, damage limitations, or choice of law until after the arbitrators award is known must show prejudice before an appellate court will reach the merits and grant relief.

The Washington Supreme Court joined the “emerging consensus” of courts that a party who failed to seek discretionary review of an order compelling arbitration, must show prejudice as a condition of relief from the arbitration award. This approach promoted prime purposes of arbitration, speed and convenience, while allowing the truly aggrieved party to obtain relief, the court noted.

Choice of Law

DAI contended that the trial court erred in directing that Washington law applied. The agreements’ choice of law clause stated that the parties agreed that any Connecticut franchise or business opportunity law would not apply to franchises located outside of Connecticut but no alternative source of franchise law was identified in the choice of law clause. Thus, the classic choice of law question of whether Connecticut’s relevant laws violated fundamental public policies of the State of Washington was not presented, according to the court.

DAI conceded that WFIPA applied to this dispute. While Connecticut law may apply generally, WFIPA, not Connecticut’s franchise law, applied to this dispute, the court held.

The arbitrator’s ruling was primarily factual, the court noted The only law cited by the arbitrator was the WFIPA, which DAI conceded was the applicable law. Assuming that DAI was correct that only Connecticut law should apply except for franchise law, it failed to show how the choice of Washington’s law would have made any difference in the arbitrator’s award. Therefore, it demonstrated no prejudice, the court held.

Limits on Damages

The trial court ruled that there would be no limits on remedies during the arbitration. Under the franchise agreements, damages were limited to compensatory damages the greater of either $100,000 or franchise and royalty fees paid during the previous three years, the court observed. This remedy limitation provision could be unenforceable under Washington law.

The arbitrator awarded compensatory damages in the amount of $230,000 plus attorney fees and costs. At issue were three franchise agreements for three different sandwich shops and each agreement had a limit of $100,000. DAI failed to show that the $100,000 limit was not cumulative for a total of $300,000, the court held.

Further, the limits were in the alternative, to be computed by calculating the franchise fees and royalties paid by the franchisees on the three sandwich shops over the last three years. There was no evidence in the record that an award of $230,000 exceeded the franchise fees and royalties paid in the last three years. Therefore, DAI did not show that the arbitration award did not comply with the contractual limits and did not show prejudice.

Forum Selection

DAI contended it was prejudiced when the trial judge refused to enforce the forum selection clause in the franchise agreements. However, even assuming that the trial court erred in failing to change venue of the arbitration from Washington to Connecticut, no harm was apparent, according to the Washington Supreme Court. The arbitration in Washington was conducted by the same arbitration group and under the same rules as required by the franchise agreements. DAI was a Florida corporation, the parties, the sandwich shops, and the witnesses all appeared to be in Washington. Thus, DAI failed to show any harm or prejudice in the venue selection.

Concurring Opinion

In a concurring opinion, Chief Justice Barbara Madsen complained that the “edict” issued by the majority, “that if a party does not ask for discretionary review of an order compelling arbitration, a prejudice standard must be applied on judicial review” was “antiarbitration.” Most courts conclude that interlocutory review of orders to compel arbitration should rarely be granted, according to Madsen.

The majority’s new prejudice standard encouraged motions for interlocutory discretionary review—this would in turn encourage the delay that courts disfavored and contravened the goals of arbitration as an efficient, swift form of dispute resolution, she explained.

The case is No. 87062-4.

Attorneys: Gary Howard Branfeld (Smith Alling PS) for petitioner Doctor’s Associates Inc. Douglas Duane Sulkosky for respondent.

Companies: Doctor’s Associates, Inc.

Cases: FranchisingDistribution WashingtonNews