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HENGEL, INC. v. HOT 'N NOW

June 16, 1993

HENGEL, INC., an Illinois corporation, MICHAEL HENRY and JAMES ENGEL, Plaintiffs,
v.
HOT 'N NOW, INC., A Michigan corporation, JULIA GOFF and WILLIAM VAN DOMELEN, Defendants.


Williams


The opinion of the court was delivered by: ANN CLAIRE WILLIAMS

Plaintiffs Hengel, Inc. ("Hengel"), Michael Henry and James Engel brought this suit against defendants Hot 'N Now, Inc. ("Hot 'N Now"), Julia Goff ("Goff") and William Van Domelen ("Van Domelen") claiming, inter alia, fraud, misrepresentation, and violations of the Illinois Franchise Disclosure Act. Defendants move to dismiss Counts I, II, IV, V and VI of Plaintiff's First Amended Complaint ("Amended Complaint) pursuant to Federal Rules of Civil Procedure 9(b) and 12(b)(6). For the reasons explained below, defendants' motion is granted in part and denied in part.

 Background

 For the purposes of this motion, the court accepts plaintiffs' factual allegations as true. See Mathers Fund, Inc. v. Colwell Co., 564 F.2d 780, 783 (7th Cir. 1977); Reshal Assoc., Inc. v. Long Grove Trading Co., 754 F. Supp. 1226, 1229 (N.D. Ill. 1990). Hot 'N Now is a Michigan corporation engaged in the business of operating, and franchising qualified persons to operate fast food stores specializing in the sale of hamburgers and related items. Defendants Goff and Van Domelen are employees of Hot 'N Now whose responsibilities include selling franchises.

 In January, 1988, Van Domelen informed Henry and Engel of the opportunity of investing in a Hot 'N Now franchise. Van Domelen told Henry and Engel that they would be able to operate a Hot 'N Now franchise at a profit, as other franchisees had done. Based upon these representations, Henry invested $ 120,000 and Engel invested $ 80,000 in Hengel, Inc., which they created to purchase and operate a Hot 'N Now franchise. Henry and Engel are shareholders, and the officers and directors of Hengel.

 On or about February 7, 1988, Hot 'N Now provided plaintiffs with printed financial projections which Van Domelen represented to be based upon actual operations of successful Hot 'N Now stores. In reliance upon these financial projections, plaintiffs signed an agreement to purchase real estate in Crestwood, Illinois for the purchase of Hengel's first store. On May 17, 1988, Hengel executed an Area Development Agreement granting it the exclusive right to own and operate twenty-four Hot 'N Now franchises in Will and parts of Cook County, Illinois. Van Domelen participated in and approved the selection of locations and provided plaintiffs with a set of standard plans and specifications for Hot 'N Now stores. On November 28, 1988 and January 31, 1989, Hengel executed two Franchise Agreements and began financing and constructing two locations in Illinois for its franchises.

 On or about May 4, 1988, Hengel signed a State of Michigan Acknowledgement of Receipt of a Uniform Franchise Offering Circular ("UFOC"). However, none of the plaintiffs were given a UFOC on that date. None of the plaintiffs ever received a UFOC for the State of Illinois. Moreover, plaintiffs contend that Hot 'N Now was not registered to offer or sell franchises in Illinois at the time the initial offer was made to Henry and Engel.

 On April 28, 1989, plaintiffs began operating their first franchise in Crestwood. By June 1990, plaintiffs realized that substantial advertising would be required to make their franchise a success. Plaintiffs' repeated requests for Hot 'N Now's advertising and promotion assistance were ignored. In November, 1990, defendants announced that the Hot 'N Now franchise and Hot 'N Now, Inc. had been acquired by Taco Bell, Inc., a subsidiary of PepsiCo. Plaintiffs' difficulties were exacerbated by this acquisition because many of plaintiffs' previous suppliers were virtually eliminated from their list of qualified suppliers. In sum, plaintiffs claim that they made this investment based upon fraudulent representations, and later tried to expand and successfully operate their franchises, but that Hot 'N Now failed to provide the necessary support in operation, training of employees, advertising, etc. Subsequently, plaintiffs filed for bankruptcy.

 Plaintiffs filed this action on November 26, 1991. Plaintiffs' Amended Complaint is brought in six counts. Count I alleges violations of the Illinois Franchise Disclosure Act ("IFDA"), Ill. Ann. Stat. ch. 121 1/2, P 1701 et seq. (Smith-Hurd Supp. 1992). Counts II and III allege misrepresentation and breach of contract, respectively. Count IV states a violation of the Consumer Fraud and Deceptive Practices Act ("Consumer Fraud Act"), Ill. Ann. Stat. ch. 121 1/2, P 261 et seq. (Smith-Hurd Supp. 1992). Count V claims violation of the Michigan Franchise Investment Law ("MFIL"), Mich Comp. Laws Ann. § 445.1501 et seq. (West 1989). Count VI alleges violation of the Illinois Uniform Commercial Code ("Illinois UCC"), Ill. Ann. Stat. ch. 26, P 1-203 (Smith-Hurd 1983).

 I. Choice of Law

 Although this issue is buried in the parties' briefs, the court must first address the important question of the applicable choice of law. For the most part, the pleadings and briefs regarding the motion to dismiss presume that Illinois law is applicable to the facts of this case. However, both parties note that the franchise agreements contain a choice of law provision indicating that Michigan law will apply. Here, the franchisor, Hot 'N Now, insists that this choice of law provision is void as a violation of Illinois public policy expressed in the IFDA "anti-waiver" provision at P 1741. (Def. Memo, p. 17). Moreover, despite the fact that plaintiffs have alleged various violations of Illinois law, they argue that the Michigan choice of law provision is valid and that they should have a remedy under either, or both, states' franchise laws. (Response, pp. 17-18).

 It is clear that when jurisdiction is based on diversity of citizenship, as is the case here, the district court should apply the conflict of law rules of the state in which it sits. Klaxon Co. v. Stentor Elec. Mfg. Co., 313 U.S. 487, 496, 85 L. Ed. 1477, 61 S. Ct. 1020 (1941). Under Illinois law, express choice of law provisions will be given effect subject to certain considerations such as Illinois public policy and the relationship between the chosen forum and the parties to the transaction. Fister/Warren v. Basins, Inc., 217 Ill. App. 3d 958, 578 N.E.2d 37, 40, 160 Ill. Dec. 858 (Ill. App. 1991); Potomac Leasing Co. v. Chuck's Pub. Inc., 156 Ill. App. 3d 755, 509 N.E.2d 751, 754, 109 Ill. Dec. 90 (Ill. App. 1987). Consequently, the choice of law provision in the instant case should be given effect unless it contravenes a fundamental policy of Illinois or the choice of Michigan law does not bear at least a reasonable relationship to the parties and the transaction. Potomac, 509 N.E.2d at 754.

 Defendants' primary argument is that the choice of law provision contravenes Illinois public policy. In making this public policy determination, the court must look to Illinois' constitution, legislative enactments and judicial decisions. Fister/Warren, 578 N.E.2d at 42. Defendants contend that P 1741 of the IFDA is an expression of public policy to prohibit any choice of law provision. Paragraph 1741 provides in pertinent part that "any condition, stipulation or provision purporting to bind any person acquiring any franchise to waive compliance with any provision of this Act is void." Ill. Ann. Stat. ch. 121 1/2, P 1741. Defendants argue that the choice of law provision specifying Michigan law is void under this paragraph because it purports to make the IFDA totally inapplicable under facts which would normally give rise to a cause of action under the statute. Unfortunately, the court's research has produced no Illinois state cases interpreting P 1741.

 However, defendants rely on the Seventh Circuit's opinion in Wright-Moore Corp. v. Ricoh Corp., 908 F.2d 128 (7th Cir. 1990). The court agrees that Wright-Moore presents compelling factual similarities. In Wright-Moore, the Seventh Circuit agreed with the district court's conclusion that Indiana public policy would preclude the application of a New York choice of law provision. In that case, the plaintiff corporation was an Indiana franchisee, and the franchisor was a New York corporation with its principal place of business in New Jersey. The franchisee argued that the franchisor had violated Indiana law by terminating the relationship without good cause and unilaterally changing the credit terms. Despite the choice of New York law, the Indiana district court held that Indiana had articulated a strong public policy embodied in § 23-2-2.7-1(10) of the Indiana franchise laws, which prohibited parties from contracting out of the protections of Indiana franchise law.

 In particular, § 23-2-2.7-1(10) made it unlawful to enter into a franchise agreement "requiring the franchisee to prospectively assent to a release . . . [or] waiver . . . which purports to relieve any person from liability to be imposed by this chapter" or to enter into an agreement "limiting litigation brought for breach of the agreement in any manner whatsoever." Ind. Code. § 23-2-2.7-1(10). The district court also found that under Indiana's "most intimate contacts" test, Indiana had a materially greater interest in the litigation because New York's only connection was that the defendant was incorporated in New York. Wright-Moore, 908 F.2d at 133.

 The Seventh Circuit affirmed both determinations. Although the court noted its deference to the district judge's interpretation of the law of the state in which the judge sits, the court agreed that the provisions articulated a strong state policy against allowing contractual choice of law provisions to control Indiana franchises. Specifically, the Seventh Circuit stated:

 
The public policy, articulated in the nonwaiver provisions of the statute is clear: a franchisor, through its superior bargaining power, should not be permitted to force the franchisee to waive the legislatively provided protections, whether directly through waiver provisions or indirectly through choice of law. This public policy is sufficient to render the choice to opt out of Indiana's franchise law one that cannot be made by agreement."

 Wright-Moore, 908 F.2d at 132. *fn1" However, Judge Ripple dissented and emphasized that the case hinged on Indiana franchise laws which had not been subject to relevant interpretation by Indiana courts, and noted the potential for such issues to recur given the prevalence of diversity jurisdiction concerning agreements between national franchisors and local franchisees. Consequently, Judge Ripple recommended certifying the controlling issues to the Indiana Supreme Court. Id. at 142-44 (Ripple, J., dissenting).

 Although no state case has interpreted the IFDA provision at issue, Judge McDade recently addressed this precise issue in Flynn Beverage, Inc. v. Joseph E. Seagram & Sons, Inc., 815 F. Supp. 1174, 1993 U.S. Dist. LEXIS 3137 (C.D. Ill. February 23, 1993). In Flynn, the plaintiff franchisee was an Illinois corporation and the defendant franchisor was an Indiana corporation with its principal place of business in New York. Relying on the Seventh Circuit's reasoning in Wright-Moore and the language in P 1741, the Flynn court held that "the Illinois waiver provision, while not as specific as the Indiana waiver provision, may be read to invalidate choice of law provisions in franchise agreements." 1993 U.S. Dist. LEXIS 3137, at *9. In reaching that conclusion, the court broadly construed the provision to give effect to P 1702's expressed findings and purpose. Importantly, P 1702 "finds and declares that the sale of franchises is a widespread business activity" and that "Illinois residents have suffered substantial losses where franchisors or their representatives have not provided full and complete information regarding the franchisor-franchisee relationship, the details of the contract between the franchisor and franchisee, the prior business experience of the franchisor and other factors relevant to the franchise offered for sale."

 In the instant case, this court is presented with the unique situation of the franchisor arguing that the choice of law provision which it chose is void under Illinois public policy and the franchisee arguing that the provision should be given effect (along with Illinois law). However, since the public policy issue has been raised, the reasoning of Wright-Moore and Flynn is applicable here. Additionally, the Indiana language which prohibits "relieving any person from liability" and "limiting litigation brought for breach of the agreement," is similar to the broad waiver provisions in the IFDA. Moreover, the language of P 1702 and recent cases indicate that the Illinois General Assembly intended to benefit Illinois residents and franchises. See e.g., Ill. Ann. Stat. ch. 211/2, P 1702; P & W Supply Co. v. E.I. Du Pont de Nemours & Co., 747 F. Supp. 1262, 1264 (N.D. Ill. 1990) (noting that the IFDA's primary purpose is to deal with the "perceived losses" suffered by Illinois residents where franchisors fail to disclose full and complete information regarding the franchise relationship); Highway Equipment Co. v. Caterpillar, Inc., 908 F.2d 60, 63 (6th Cir. 1990) (noting that IFDA is intended to benefit only Illinois residents and that it has no application to franchises outside Illinois).

 Admittedly, this does not appear to be the type of case where Michigan law would violate an express public policy of Illinois franchise law such as P 1719's provision which prohibits termination except for good cause. It is also true that numerous Illinois cases have generally upheld choice of law provisions, and this court is hesitant to depart from these cases. See, e.g., Potomac, 509 N.E.2d at 754 (collecting recent cases). However, in the absence of a contrary interpretation by Illinois courts, and in light of the language of the IFDA and the reasoning of Wright-Moore and Flynn, the court concludes that the specific "anti-waiver" provision under the Illinois franchise statute represents a fandamental policy which invalidates contractual choice of law in the franchise context. ...


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