Monday, May 02, 2011

Franchisee’s Contract Breaches Caused Franchisor Future Damages

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

A motor vehicle repair shop franchisee’s breach of its four agreements with a franchisor—not the subsequent termination of those agreements by the franchisor—proximately caused the franchisor’s lost profits damages under North Carolina law, the U.S. Court of Appeals in Richmond, Virginia, has decided in a not-for-publication opinion.

A federal district court erred by concluding that the franchisor’s termination of the four agreements caused the franchisor’s lost profits.
The lower court’s ruling (CCH Business Franchise Guide ¶14,212) was reversed in part. In addition to the issue of proximate cause, the appellate court determined that the district court erred in several respects in assessing the franchisor’s entitlement to damages.

The dispute began when the franchisee closed each of its four shops well before the end of their contractual 15-year terms. The franchisor responded by sending termination letters to the franchisee and filing suit. The district court granted the franchisee partial summary judgment as to the franchisor’s claim for future damages for any prospective royalties and advertising fund contributions for periods after termination of the franchise agreements.

The issue on appeal was that portion of the district court ruling granting judgment to the franchisee on the franchisor’s claim for future damages.

Proximate Cause

The district court cited no legal authority directly supporting its conclusion about the cause of the franchisor’s damages, and the federal appellate court found none, noting that most of the relevant discourse appeared in various federal district court and state court opinions.

The proper approach to the issue was a straightforward application of the relevant North Carolina law concerning damages recoverable following a breach of contract, according to the appellate court. North Carolina law permitted a non-breaching party to recover damages that were the proximate consequence of a breach of contract and dictated that all damages must flow directly and naturally from the wrong.

The franchisee’s breach of the agreements was so comprehensive as to constitute a de facto abandonment of the agreements, resulting in the franchisor’s loss of royalties and advertising fund revenue that it was entitled to receive under the agreements.

The franchisor’s subsequent decision to terminate the agreements had certain legal consequences, but it did not cause the franchisee to stop operating its shops and generating revenues. Those events had already occurred, the court observed.

Lack of Contractual Authorization

In the absence of an express contractual provision barring future damages, the franchise agreements did not prohibit the recovery of those damages if they were otherwise recoverable under North Carolina law, the court determined. To the extent that the district court required the agreements to specifically provide for prospective damages as a mandatory condition precedent to preserve a non-breaching party’s right to recover such damages, it erred.

Although the agreements established that the franchisee was required to make payments of royalties and advertising fund contributions under the agreements, the contracts made no provision for the franchisor to recover amounts from the franchisee subsequent to the termination of the agreements. However, nothing in the agreements precluded future damages either. No principle of North Carolina contract law suggested that a contract must specifically provide for recovery of future damages in order to preserve a party’s right to recover them.

Calculation Method

The methodology employed by the franchisor to calculate its amount of future damages and the time period for which they were collectible was not unreasonably speculative, hypothetical or the result of conjecture, the appellate court ruled. The district court held that the franchisor's "generic calculation for lost profits" did not assess the specific profitability of each shop and therefore failed to measure the asserted lost profits with reasonable certainty. However, the calculations were not speculative simply because the franchisor used the same formula to calculate lost future royalties for each of the four shops, the court reasoned.

The franchisor used data specific to each shop to calculate the damages it sought from the closure of that shop. By using the shops’ actual past performance to calculate projected future royalties and advertising fund contributions, the analysis was not the sort North Carolina courts rejected as being too remote.

The decision is Meineke Car Care Centers, Inc. v. RLB Holdings, LLC, CCH Business Franchise Guide ¶14,586.

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