Michigan court sides with franchisor in maintaining its ability to restrict a transfer of franchise rights

A recent decision from the United States District Court for the Eastern District of Michigan reaffirmed a franchisor’s ability to refuse a transfer of franchise rights on the grounds of "good cause," consistent with the Michigan Franchise Investment Law, or MFIL.  The case, Oakland Family Restaurants, Inc. v. American Dairy Queen Corporation was decided on March 31, 2024. 

The case - Oakland Family Restaurants, Inc. v. American Dairy Queen Corporation, 2024 WL 1396258 (E.D. Mich. March 31, 2024) - arose out of a franchisee’s desire to sell certain Dairy Queen locations to a few of its long-time employees. Several years ago, Oakland Family Restaurants Inc., referred to here as the Franchisee, and certain affiliates acquired a protected Dairy Queen franchise territory in Oakland County, Michigan. This territory was subject to a franchise agreement originally executed in 1965, known as the 1965 Agreement. The case arose from the franchisee’s desire to sell certain Dairy Queen locations to a few of its long-time employees.

A principal for the Franchisee reached out to American Dairy Queen Corporation, or  ADQ, about selling some of those locations, and splitting the territory surrounding them, to a few long-time employees who had spent years helping develop and operate certain locations. In response to that inquiry, ADQ indicated that it would not allow the division of the territory or assignments of the Franchisee’s rights under the 1965 Agreement to multiple transferees. ADQ responded that the transferees would have to sign new franchise agreements and convert to a limited food system.  Despite this position, ADQ however did suggest that it was willing to make certain amendments to its new standard franchise agreements, including grandfathering a desirable royalty rate for soft-serve ice cream mix; waiving certain licensing fees for other food and beverages; reducing the sales promotion fee; and agreeing to some designated protected territory around each location open for further development. 

The Franchisee, being unhappy with the response, sued ADQ for breach of contract and promissory estoppel, and sought a declaratory judgment that the Franchisee could assign its franchise rights freely under the 1965 Agreement, as amended.  The parties filed cross-motions for summary judgment and the District Court ruled in favor of ADQ on all counts.

In its opinion, the court first addressed the Franchisee’s claims for breach of contract.  The Franchisee argued that certain correspondence and documents from ADQ over the years constituted amendments to the 1965 Agreement.  The court found that certain of those documents did not amend the 1965 Agreement and others, even when read most favorably to the Franchisee, did not modify the provision in the 1965 Agreement that required the consent of ADQ to any transfer or assignment of the franchisees. As such, the court determined that there was no breach of contract by ADQ.

Next, the court addressed the Franchisee’s argument that the consent-to-assignment provision in the 1965 Agreement was void and unenforceable under the MFIL.  Section 27 of the MFIL, codified in MCL § 445.1527(g), provides that any provisions in franchise documents that permit a franchisor to refuse a transfer of ownership of a franchise, except for “good cause”, are void and unenforceable.  ADQ responded that the 1965 Agreement predated the enactment of the MFIL and, therefore, the MFIL could not be applied retroactively without a clear intention by the Michigan legislature to do so. The court found no cases interpreting whether MCL § 445.1527(g) can be applied retroactively.  Nevertheless, the court determined that it was unnecessary to resolve whether the MFIL would have a retroactive effect on the 1965 Agreement because ADQ was able to present sufficient evidence showing that its decision to condition its consent to any transfer of the franchise ownerships was not a violation of the MFIL and was within the “good cause” provision in the statute.

The court conducted a review of the MFIL requirement of “good cause” that allows a franchisor to refuse a transfer of a franchise and noted that MCL 445.1527(g) provided four specific examples of “good cause”:

1. The failure of the proposed transferee to meet the franchisor’s then current reasonable qualifications or standards.
2. The fact that the proposed transferee is a competitor of the franchisor or sub-franchisor.
3.  The unwillingness of the proposed transferee to agree in writing to comply with all lawful obligations.
4. The failure of the franchisee or proposed transferee to pay any sums owing to the franchisor or to cure any default in the franchise agreement existing at the time.

The court further reasoned that “good cause” was not limited to those statutory examples and that the Michigan legislature explicitly emphasized that the statutory list of examples was non-exhaustive. 

In ruling in ADQ’s favor, the court found that ADQ presented ample evidence that it had “good cause” not to approve the Franchisee’s proposed transfers of ownership unless the prospective buyers agreed to its new standardized franchise agreement. The court highlighted credible testimony that “the Dairy Queen brand had faced considerable administrative burdens in ensuring that long-term franchisees (operating under older franchise agreements that omit or fail to define material terms) were able to adapt to recent legal and regulatory changes and remain competitive in the shifting economic landscape.”

The court further found that ADQ’s desire to modernize and standardize its franchise agreements across its entire franchise system was neither unreasonable nor arbitrary. The court also believed that ADQ had shown a willingness to deal in good faith with the Franchisee by offering to grandfather clauses from old agreements making individual locations particularly desirable to prospective purchasers (e.g., seasonality requirements and reasonable royalty pricing no longer in effect for new franchisees).

Finally, the court discounted the Franchisee’s constitutional challenges to MFIL.  It held that the proper constitutional reading of MCL § 445.1527(g) is that the statute “renders consent-to-assignment provisions in a franchise agreement unenforceable unless a franchisor can demonstrate good cause.”  The court reasoned that the MFIL was “enacted to protect franchisees from abusive behavior by franchisors,” and further reasoned that while such statutes are intended to protect franchisees, “franchisors retain a substantial interest in having the ability to modify their franchise systems to adapt to changing market conditions.” 

As such, the court was not convinced that ADQ’s requiring new franchise agreements would not leave the proposed transferees completely unprotected. Rather, it determined that the MFIL contains sufficient protections for those proposed transferees and further emphasized ADQ’s willingness to deal in good faith by offering to grandfather in several attractive terms from the 1965 Agreement into new franchise agreements. 

This case is a reminder that while the MFIL provides protections to franchisees, the fact remains that franchisors exercise significant discretion over their brands and hold considerable sway over the transfer of franchise rights. The court’s ruling affirms the notion that a franchisor’s “good cause” to refuse a transfer of a franchise can be interpreted broadly beyond the statutory language of the MFIL.  As such, the bar remains high for franchisees who want to challenge a franchisor’s right to restrict a transfer or assignment of a franchise agreement.