Friday, December 19, 2008

Terminated Franchisee Must Pay Franchisor Past Due, Future Royalties

This posting was written by Peter Reap, Editor of CCH Business Franchise Guide.

A child care business franchisee that was terminated for nonpayment of royalties was required to pay the franchisor both past-due and lost future royalties, according to a Texas appellate court, applying Georgia law pursuant to a contractual choice of law. A jury award of nearly $1.4 million—for both past-due and future royalties—was affirmed.

Contrary to the franchisee’s claim, the award was not so flagrantly excessive as to create a clear implication of bias on the part of the jury. There was no compelling evidence to overcome the presumption that the trial court’s approval of the verdict should not be disturbed.

Past-Due and Future Royalties

The court rejected the franchisee’s references to Postal Instant Press, Inc. v. Sealy (Business Franchise Guide ¶10,893) and its progeny for the proposition that a franchisor could not recover past due and future royalties after the termination of a franchise agreement.

The Sealy court found that a franchisor could not recover future profits where it had terminated the agreement because the damage was proximately caused by the franchisor’s termination rather than by the franchisee’s breach of contract. It expressly refused to consider whether damages for future damages would be available if the franchisee terminated the agreement, the court noted.

Moreover, the Sealy court did not preclude the award of future royalties if the franchisor terminated the agreement, where the franchisee’s conduct proximately caused the damages and the award was not excessive, oppressive, or disproportionate.

Nonpayment, Withdrawal, Breakaway Operations

Unlike in the Sealy case, this franchisee failed to make royalty payments, independently withdrew from the from the franchise system, and began operating its child-care facilities under a different name. The jury found that the franchisee had failed to comply with a material obligation of its agreements. Although the franchisor in Sealy terminated the franchise agreement prior to filing suit, the jury in this case found that the franchisor had not failed to comply with the parties’ agreements.

Amount of Damages

The jury verdict was supported by the evidence presented at trial, the appellate court held. The franchisor’s accountant and damage expert testified to prospective losses of royalty payments from the date of the franchisee’s last payment. He calculated past-due royalties for two facilities at more than $564,123 and set future lost royalties, based on continuing the 25-year franchise agreements, at more than $1,641,000.

The expert’s revenue calculations were based on the business records of the two franchises, including enrollment records, cash receipts, account deposit records, check registers, income tax returns, weekly revenue reports, sign-in sheets, tuition and income spreadsheets, and monthly royalty summaries.

Mere difficulty of fixing the exact amount of lost profits is not a legal obstacle to an award, the court held. In this instance, the jury award of $1,384,000 was “within the range of evidence presented at trial.” Thus, the award was upheld.

The decision is Progressive Child Care Systems v. Kids ‘R’ Kids International, Inc., Texas Court of Appeals, Second District of Texas, Forth Worth, CCH Business Franchise Guide ¶14,018.

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