Dallas Bar Association
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Focus | Business Litigation/Franchise & Distribution Law
July 2021 Volume 46 Number 7
Living Legends
Focus
Franchise & Distribution Law
Avoiding the “Accidental” Franchise BY ERICA MAHONEY
On May 21, the DBA presented the next program in the DBA Living Legends series featuring Hon. Elizabeth Lang-Miers, of Locke Lord LLP, interviewed by Jennifer Ryback, McGuire, Craddock & Strother, P.C. Be on the lookout for the next program.
Focus
Business Litigation
“Breaking Up is Hard to Do”: How to Settle Business Cases BY DAVID COALE AND BARIRA MUNSHI
“Breaking up is hard to do,” says the song. Ending a business dispute is hard enough without trouble caused by ambiguities in the settlement agreement about exactly what is being released. Fortunately, two 2021 Dallas Court of Appeals opinions offer key points to remember in drafting and litigating settlement agreements. In Gharavi v. Khademazad, the court considered an agreement that released all claims “directly or indirectly attributable to the transaction or occurrences” involved in an earlier arbitration. The plaintiff subsequently sued for libel about a Yelp post in which the defendant voiced frustration over the unpaid arbitration award. The court found that, “[w]ithout question, the Yelp review was, if not directly, then indirectly attributable to [the] failure to pay” for services that gave rise to the arbitration. Thus, the court found that the release covered any claims related to the Yelp post, dismissed the libel claims, and entered judgment in favor of the defendant. In Headington Royalty Inc. v. Finley Resources, Inc., an oil-and-gas case, the court addressed the meaning of “predecessors” in a release. One side asserted that the term referred to anyone in the chain of title. The other claimed that it referred to predecessors in a particular corporate composition or structure. The court agreed with the latter position, relying on the so-called “associated words canon,” or “birds of a feather” construction rule, which means that words are known by the company they keep. The court rea-
soned that the placement of “predecessors” among words like “officers, directors, shareholders, employees, agents … and representatives,” unambiguously describes a corporate predecessor. The two cases remind us how important it is to determine just what is in dispute between the parties, and how simple changes in language can significantly affect the scope of a settlement. While Gharavi did not address the degree of relationship an “indirect” claim must have to a settled dispute to be released, it teaches that broad terms such as “indirect” can raise the risk of a party inadvertently releasing tangentially-related claims that it may intend to pursue later. Conversely, by expanding the scope of a release, such phrases can “buy peace” for a client from a broader range of potential disputes. Headington turned to traditional canons of construction to determine the meaning of an unclear term in a release. While it reached an answer, a lessdetailed agreement might be less instructive and could lead to even more uncertainty about how to interpret a release. In a complex multi-party setting such as the one presented by that case, the opinion instructs drafters to carefully consider all potential claims and parties contemplated by a release. The discerning drafter will identify the claims or parties it seeks to either include within, or carve out from, a broad release and will negotiate terms using ordinary and specific language to ensure that its intent is unambiguously captured. HN David Coale and Barira Munshi are attorneys at Lynn Pinker Hurst & Schwegmann LLP. They can be reached at dcoale@lynnllp.com and bmunshi@lynnllp.com, respectively.
Inside 14 Pretrial Rule Provides Alternative Procedure to Resolve “Legal Matters” 19 Business Interruption Coverage for COVID-19 23 Full Disclosure: Reducing Risk for LLC Managers
Franchise, distribution, and license agreements have significant commonalities in their transactional objectives: a person has developed certain goods or services under a trademark and seeks to expand its revenue potential by allowing another person to sell these goods and services using the same trademark for a fee. This arrangement is particularly popular with businesses seeking to expand without the additional liabilities attributable to self-expansion, such as real estate and payroll. Despite the overarching commonality in these agreements, the legal distinctions between them can have significant consequences on the grantor’s obligations and liabilities. Practitioners who are faced with preparing such an agreement should be familiar with these distinctions to ensure they provide the appropriate agreement and, if necessary, appropriate disclosures. A “franchise” is legally defined by federal rule. If the transaction meets the definition of a franchise, franchise laws and regulations will apply regardless of the agreement’s name or the parties’ intent. A franchise is defined under the amended Federal Trade Commission franchise rule as an arrangement that includes: (1) the grant of the right to use a trademark, service mark, or trade name in relation to the offer, sale, or distribution of goods or services; (2) significant control or assistance; and (3) the payment of at least $615 to the franchisor before or within six months after beginning operations. “Significant” control or assistance relates to the overall method of the franchisee’s business operation and has been determined to exist when the franchisor requires participation in marketing campaigns; provides training or site approval or design requirements; dictates hours of operation, production, or service techniques; or personnel or accounting procedures. The term “payment” is construed broadly but does not apply to certain inventory purchases. If a transaction meets the definition of a franchise and an exemption or exception does not apply, the franchisor must provide a franchise disclosure document (which
includes 23 disclosure items), and copies of the franchisor’s standard forms of agreement. Many states have also enacted state franchise laws, which may define “franchise” more broadly than the federal franchise rule or impose additional requirements on the franchisor. If a state’s franchise laws apply, the franchisor may be required to register with the state. Failing to meet these requirements creates liability exposure. While no private right of action exists under the federal rule, many states provide avenues for asserting claims against a franchisor, whether based on violations of state business-opportunity acts or a state’s “little FTC Act.” In Texas, a franchise will often constitute a business opportunity under the Texas Business Opportunities Act. Texas franchisors are exempt from complying with this act if they comply with the federal franchise rule. However, if the franchisor fails to comply with the federal franchise rule and the disclosure requirements under the Texas Business Opportunities Act, the franchisee can potentially bring a claim under the Deceptive Trade Practices Act, possibly asserting treble damages. Unlike franchise agreements, distribution and license agreements generally do not include significant control or assistance. The primary objective of a distribution agreement is for a manufacturer to grant others the ability to sell the manufacturer’s branded products. Usually, the distributor provides other goods and services in addition to the manufacturer’s branded products. Additionally, the manufacturer generally has little or no control over the distributor’s business or operations, although there is some control over the quality and standards for distributing the branded products. In some cases, the distributor may pay a fee to become a distributor. In other cases, the distributor may only pay for the products the distributor purchases for distribution. Under a license agreement, a licensor grants a licensee the right to use the licensor’s intellectual property, which may or may not include a trademark. The licensor retains some degree of quality continued on page 22
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