March 21, 2023
By: Thomas O’Connell
Citation:
Full Tilt Boogie, LLC v. KEP Fortune, LLC, 2023 WL 3102622 (C.D. Cal. Mar. 21, 2023).
Executive Summary:
In this unpublished decision, Judge Otis D. Wright II of the United States District Court for the Central District of California granted Full Tilt Boogie, LLC’s (“Full Tilt”) motion for default judgment against KEP Fortune, LLC (“KEP”) and its principal owners, Jeroen and Miray Bik. The court rescinded the franchise agreement between Full Tilt and KEP under the California Franchise Investment Law (CFIL), awarding $1,020,514 in rescission damages and $49,000 in punitive damages jointly and severally against KEP and the Biks.
Relevant Background:
This case concerns a franchise relationship between Full Tilt and KEP, a franchisor operating under the Klein Epstein & Parker (“KEP”) brand. In August 2017, Full Tilt entered into a Franchise Agreement after reviewing KEP’s Franchise Disclosure Document (“FDD”), which represented that KEP would not profit from franchisee purchases. Full Tilt opened a KEP-branded store in December 2017 in Las Vegas. Shortly thereafter, Full Tilt raised issues related to inventory costs, order fulfillment, and marketing restrictions, ultimately rescinding the agreement in October 2019.
Full Tilt alleged violations of CFIL’s disclosure requirements, including failure to disclose certain revenue arrangements and franchisee restrictions. The court allowed Full Tilt’s claims for breach of contract, breach of the implied covenant of good faith and fair dealing, unjust enrichment, and unfair business practices to proceed, noting that these claims arose independently of CFIL disclosure obligations. The court also held that Full Tilt’s CFIL claim was timely under applicable statutes of limitations.
Throughout the litigation, KEP faced discovery sanctions for withholding evidence and noncompliance with court orders, which played a role in Full Tilt’s motion for default judgment.
Decision:
- The court granted Full Tilt’s motion for default judgment against KEP Fortune, LLC and its principals, Jeroen and Miray Bik. It held that KEP willfully violated the California Franchise Investment Law (CFIL) by failing to comply with statutory disclosure requirements.
- The court found that KEP misrepresented and concealed material facts in its Franchise Disclosure Document (FDD). KEP falsely claimed it would not profit from franchisee purchases while generating revenue from marked-up inventory and shipping fees. The court also found that KEP failed to disclose restrictions requiring franchisees to source inventory exclusively from KEP.
- Interpreting California Corporations Code § 31300, the court concluded that KEP’s violations were willful. It relied on Dollar Sys., Inc. v. Avcar Leasing Sys., Inc. to clarify that willfulness does not require intent to violate the law but rather a willingness to commit the act.
- The court awarded rescission damages of $1,020,514 to restore Full Tilt to its pre-contract position. The damages encompassed operating losses, startup costs, and the lost use of funds. The court declined to deduct Full Tilt’s gross income from the damages, reasoning that such a deduction would not achieve “complete equity” under California Civil Code § 1692.
- Punitive damages of $49,000 were awarded under California Civil Code § 3294(a), based on findings that KEP and the Biks acted fraudulently, oppressively, and maliciously.
- The court applied the factors outlined in Eitel v. McCool, 782 F.2d 1470 (9th Cir. 1986), to grant default judgment. It emphasized the prejudice to Full Tilt, the substantive merit of its claims, and KEP’s procedural defaults, including repeated discovery violations and withdrawal of legal representation.
- The court rejected KEP’s arguments that its disclosure failures were unintentional. It relied on adverse inferences established through earlier sanctions to support its conclusions.
Looking Forward:
This case underscores the consequences of noncompliance with California’s franchise laws, particularly CFIL. Key lessons for franchisors include:
- The court’s decision highlights that failure to provide full and accurate disclosures in Franchise Disclosure Documents (FDDs) can result in rescission and significant damages. Thus, franchisors must ensure they clearly disclose all supplier arrangements, costs, and revenue structures, particularly where these might be construed as franchise fees. By doing so, franchisors can minimize the risk of allegations of fraud or misrepresentation under the CFIL.
- KEP’s failure to address franchisee concerns and its procedural lapses during litigation were key factors in the court’s adverse ruling. Therefore, franchisors should not only work to resolve franchisee disputes promptly but also ensure active and thorough legal representation in litigation. Procedural compliance, such as responding to discovery requests and engaging with the court process, is vital to avoiding default judgments.
- The court’s criticism of KEP’s restrictive practices, such as imposing unnecessary costs and limiting sourcing options, emphasizes the importance of balancing operational control with fairness. Franchisors should review their agreements and practices to ensure they do not overreach, creating potential grounds for claims of oppression or unfair dealing.
Although the court ruled against KEP, this case provides valuable insight into how franchisors can strengthen their compliance efforts and defense strategies. California courts have consistently demonstrated a strong policy in favor of protecting franchisees. However, franchisors that adopt proactive measures to ensure disclosure compliance, fair practices, and legal diligence can not only minimize litigation risks but also foster stronger relationships with their franchisees.