May 30, 2024
By: Thomas O’Connell
Citation:
Red Fit, LLC v. Red Effect International Franchise, LLC, 2024 WL 2790504 (Mich. Ct. App. May 30, 2024)
Executive Summary:
In this unpublished decision, the Michigan Court of Appeals reviewed a dispute between Red Fit, LLC and Cali Red, LLC (the plaintiffs) and Red Effect International Franchise, LLC and its affiliates (the defendants). The plaintiffs alleged violations of franchise agreements and state franchise laws, including the Michigan Franchise Investment Law (MFIL), MCL 445.1501 et seq., and the California Franchise Investment Law (CFIL), Cal. Corp. Code § 31000 et seq. The appellate court affirmed the trial court’s dismissal of most claims, relying on enforceable arbitration clauses, valid release provisions, and procedural deficiencies, while remanding one breach of contract claim for further proceedings.
Relevant Background:
The plaintiffs, Hayden and Joshua Epstein, operated Red Fit, LLC and Cali Red, LLC, businesses established to develop and manage fitness franchises. They entered into agreements with Red Effect International Franchise, LLC, the franchisor, in 2017. The plaintiffs signed franchise agreements for three locations in San Diego County, California, alongside an Area Development Agreement (ADA) for the region. These agreements, referred to as the San Diego Franchise Agreements, contained arbitration provisions requiring disputes to be resolved through binding arbitration.
In 2018, the plaintiffs sought to expand their operations and negotiated with the defendants to transfer their franchise rights. The parties agreed to terminate the Illinois Franchise Agreements and ADAs, replacing them with new agreements granting the plaintiffs franchise and area development rights in Orange County and Los Angeles County, California. In 2019, the parties executed Termination and Release Agreements (TRAs) for the Orange County and Los Angeles County ADAs. These TRAs formally terminated earlier agreements and included broad release provisions, which discharged the parties from all claims related to agreements predating the TRAs.
Disputes arose over royalties and the plaintiffs’ claims that the defendants had violated the Michigan Franchise Investment Law (MFIL), MCL 445.1508(1), and the California Franchise Investment Law (CFIL), Cal. Corp. Code § 31119(a), by failing to provide franchise disclosure documents required by law. The plaintiffs also alleged breaches of contract and the implied covenant of good faith and fair dealing. In February 2021, they initiated a lawsuit in the Oakland Circuit Court.
The defendants moved to dismiss the claims, arguing that disputes relating to the San Diego Agreements were subject to binding arbitration and that the release provisions in the TRAs barred claims arising before November 12, 2019. They also highlighted procedural deficiencies, such as the plaintiffs’ failure to file witness lists on time, as grounds for sanctions.
The trial court dismissed the majority of the claims, citing enforceable arbitration clauses and release provisions. Procedural sanctions imposed by the court barred the plaintiffs from presenting witnesses or evidence to support their claims. However, one breach of contract claim, unrelated to the arbitration or release provisions, was remanded for further review due to unresolved factual disputes.
Decision:
The Michigan Court of Appeals affirmed the trial court’s rulings on most claims while remanding one breach of contract claim for further proceedings:
- The court agreed that disputes related to the San Diego Franchise Agreements had to be resolved through arbitration. The plaintiffs argued that later agreements between the parties canceled the arbitration requirements in the San Diego Agreements. However, the court disagreed, explaining that under Michigan law, separate contracts are treated as independent unless it is explicitly stated that one agreement overrides another. The court relied on the precedent set in Beck v. Park West Galleries, Inc., 499 Mich. 40 (2016), which held that arbitration clauses in earlier agreements are still enforceable if newer agreements do not specifically state otherwise.
- The court also upheld the trial court’s decision that the Termination and Release Agreements (TRAs) signed in 2019 barred the plaintiffs from making claims based on agreements that existed before November 12, 2019. The court explained that the release clauses in the TRAs were clear and legally binding. The plaintiffs tried to argue that the TRAs violated the Michigan and California franchise laws because the defendants did not provide certain required disclosure documents. However, the court found that the TRAs did not involve the “offer or sale” of a franchise as defined under MCL 445.1502(3) and Cal. Corp. Code § 31005(a). Because the TRAs were only about ending previous agreements and not about creating new franchises, the court ruled that franchise law disclosure requirements did not apply.
- The court supported the trial court’s decision to strike the plaintiffs’ witness lists and prevent them from presenting any witnesses or evidence. The plaintiffs missed key deadlines for filing their witness lists and did not provide a good reason for their delay. The court noted that following procedural rules is critical to ensure fairness and order in legal cases. It cited Duray Development, LLC v. Perrin, 288 Mich. App. 143 (2010), which affirmed a trial court’s authority to enforce deadlines and penalize noncompliance.
- The appellate court decided that one breach of contract claim, which was not tied to arbitration or release provisions, needed further review. The court explained that there were unresolved factual questions about whether the defendants had violated this specific contract. As a result, the court sent this claim back to the trial court for additional proceedings.
Looking Forward:
- For franchisors, this case is a clear reminder of how important it is to structure your agreements thoughtfully and follow through on procedural rules. Arbitration clauses and release provisions can be incredibly effective in protecting your business, but they must be carefully drafted and consistently applied. For instance, in this case, the franchisor avoided liability by relying on arbitration clauses in earlier agreements and release provisions in later ones. Therefore, always ensure these provisions are explicitly tied to the disputes you want them to cover and avoid creating ambiguities with subsequent agreements.
- Additionally, compliance with franchise laws like the Michigan Franchise Investment Law (MFIL) and California Franchise Investment Law (CFIL) is non-negotiable. Regularly reviewing your agreements to ensure they meet disclosure requirements under these statutes is critical to avoiding costly disputes.
- Procedural diligence is another key takeaway. Missing deadlines, as the plaintiffs did here, can lead to severe sanctions, such as losing the ability to present witnesses or evidence. Thus, strict compliance with court schedules is essential to maintaining your ability to defend against claims effectively.
- Finally, when managing multiple agreements, treat each as distinct unless you explicitly intend for a newer agreement to override an earlier one. In this case, the court upheld arbitration clauses in the franchisor’s favor because the newer agreements did not expressly nullify them. This demonstrates how important clarity and foresight are in drafting agreements.
By staying vigilant on these fronts, you can position your business to navigate disputes confidently and reduce the risk of unexpected liabilities.