Monday, December 17, 2012

Bakery Distributorships Were Not “Franchises” Within the Washington Franchise Investment Protection Act

This posting was written by John W. Arden.

Pepperidge Farm bakery distributorships were not “franchises” within the Washington Franchise Investment Protection Act because Pepperidge Farm did not exercise the level of control over the distributors to satisfy the “marketing plan” requirement, the distributors were not substantially associated with the Pepperidge Farm trademarks, and the distributors did not pay a franchise fee, according to the federal district court in Richland, Washington (Atchley v. Pepperidge Farm, Incorporated, December 6, 2012, Shea, E.).

Since Pepperidge Farm was not a franchisor doing business within Washington, it was not required to register a franchise disclosure document or provide a disclosure document prior to entering a distributorship agreement.

Pepperidge Farm entered into consignment agreements with third-party independent contractors, granting them geographically exclusive distributorships. In 2003, Michael Gilroy purchased an existing distributorship from David Spangler for $299,550. In 2004, John Atchley purchased a distributorship from Jason Godwin for $225,000. For both purchases, payment was nominally made to Pepperidge Farm, which facilitated the transactions. Pepperidge Farm credited the payments to outstanding loans or other financial obligations owed by the selling distributors and then furnished all remaining monies directly to the selling distributors.

Each distributor voluntarily entered into a separate consignment agreement with Pepperidge Farm and received an exclusive right to distribute Pepperidge Farm products in retail stores within their territories. The distributors received commission payments for the sale of Pepperidge Farm goods or a percentage of the net proceeds, depending on the products. Despite the territorial exclusivity provision of the agreements, Pepperidge Farm retained the right to sell and deliver its products to customers in the distributors’ territories.

After business reversals, the distributors brought separate claims against Pepperidge Farm, alleging violation of the Washington Franchise Investment Protection Act and negligent misrepresentation. Both cases were eventually assigned to Senior Judge Fred Van Stickle, who granted partial summary judgment for Pepperidge Farm and then consolidated the cases. Judge Van Stickle granted summary judgment on the remaining negligent misrepresentation claims and held a trial on Pepperidge Farm’s counterclaim for Gilroy’s failure to repay the loan that enabled him to purchase the distributorship. The court found that factual issues regarding whether the forced sale of Gilroy’s distributorship was commercially reasonable precluded summary judgment.

After a three-day trial in February 2009, the court entered a finding that the sale of the distributorship was commercially reasonable. The distributors appealed to the Ninth Circuit, which largely affirmed the district court rulings, but reversed the decision with respect to the Franchise Investment Protection Act, concluding that there was a genuine issue of material fact about whether the distributors paid franchise fees. The appeals court remanded the case for further proceedings.

On remand, the district court dismissed the Franchise Investment Protection Act claims on the ground that the distributorships were not “franchises” within the meaning of the Act. Under the statute, a “franchise” is an agreement by which (i) a person is granted the right to engage in the business of offering, selling, or distributing goods or services under a marketing plan prescribed in substantial part by the grantor; (ii) the operation of the business is substantially associated with a trademark, trade name, or other commercial symbol owned by or licensed by the grantor; and (iii) the person pays or is required to pay a franchise fee.

Marketing Plan

Although Pepperidge Farm controlled pricing of products directly sold and provided pricing schedules for the purpose of calculating commissions, it did not exercise control over many other factors used to determine the existence of a marketing plan, the court found. These factors included: (1) hours and days of operations; (2) advertising; (3) retail environment; (4) employee uniforms; (5) trading stamps; (6) hiring; (7) sales quotas; and (8) management training. While Pepperidge Farm provided the distributors with financial support by guaranteeing the initial loan to finance purchases of the distributorships, it was not show to provide any other financial support.

Thus, the distributors failed to satisfy the marketing plan element of the “franchise” definition of the Washington Franchise Investment Protection Act.

Association with Trademark

To satisfy the “substantial association” element of the “franchise” definition, the distributors were required to show a substantial association with Pepperidge Farm trademarks or trade names beyond the act of distributing the Pepperidge Farm products. Although Atchley used the Pepperidge Farm logo on his business card and on one business form and his delivery trucks, such association was limited and incidental, the court ruled. The use of the Pepperidge Farm trademarks did not rise to the level of “substantial association.”

Payment of Franchise Fee

A “franchise fee” is a payment for the right to enter into a business under a franchise agreement and does not include “any payment for the mandatory purchase of goods or services or any payment for goods or services available only from the franchisee.” Also excluded from the definition are payments for purchases at a bona fide wholesale price. Ordinary business expenses are not “franchise fees” because they are paid during the regular course of business and not for the right to do business.

Thus, the distributors did not pay, agree to pay, or were required to pay a “franchise fee” within the meaning of the Washington Franchise Investment Protection Act, in the court’s view.

The case is No. CV-04-452-EFS.

Howard R. Morrill (Simburg Ketter Sheppard Purdy) for John R. Atchley. Forrest A. Hainline, III (Goodwin Procter LLP) for Pepperidge Farm Inc.

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