Is Mandatory Arbitration Unfair to Franchisees?

Is Mandatory Arbitration Unfair to Franchisees?

Many, if not most, franchise agreements require franchisor-franchisee disputes to be resolved by binding arbitration in the franchisor’s home state (rather than, say, a lawsuit in civil court).

Why do franchisors favor arbitration?

Is arbitration unfair to franchisees?

As part of our ASK A FRANCHISEE ATTORNEY project, UnhappyFranchisee.Com is asking America’s top franchisee attorneys – those who have to deal with the restrictions of mandatory arbitration – for their views.

Read the results thus far, and check in as we add more responses.

Feel free to add your own thoughts in the comment box below.

 

 Jerry Marks Franchise Attorney
Attorney Jerry Marks
“Arbitration is designed to keep things quiet…”Franchisors use arbitration/mediation because they want to keep EMOTION out of the equation.  They are afraid of regular people seeing other regular people having their lives ruined by greedy franchisors.There is nothing worse to a sales-driven organization than the “cleansing light of bad publicity.”  Arbitration is designed to keep things quiet – like a back alley abortion.  That is why franchisors fear not only the publicity of a courtroom proceeding but also the fact that the decisions create a precedent that can be used in future cases.  Arbitration specifically does not.  Also, arbitration may limit the amount of damages that can be recovered and generally forbids punitive damages and class actions.See why franchisors love arbitration so much?See the sponsor profile page of Attorney Jerry Marks
Attorney Carmen Caruso
Attorney Carmen Caruso
Arbitration gives franchisors the “hometown advantage.”Arbitration is often in the franchisor’s hometown, where the franchisor may have considerable influence among the pool of potential arbitrators, and where, consciously or not, the arbitrators (and the arbitration organization) may be biased because they desire the franchisor’s repeat business. The franchisee, on the other hand, will have to absorb the expenses of travel, for both itself and often for its witnesses.By agreeing to arbitrate, important statutory protections may be waived.  State franchising acts… often prohibit the franchisor from requiring a franchisee to agree to venue for a court case outside of the franchisee’s home state. However, in what is arguably an unfortunate legislative oversight, there typically is no corresponding provision to prevent an out-of-state franchisor from requiring a franchisee to arbitrate in a different state.  Many national franchisors therefore use arbitration clauses to obtain for themselves the hometown advantage… [Originally published here]
 Attorney Jeffrey Goldstein
Attorney Jeffrey Goldstein
“Several aspects of an Arbitration heavily favor the franchisor over the franchisee.”An increasing number of franchise agreements contain arbitration clauses that require disputes to be resolved by binding arbitration instead of in state or federal courts.  While franchisors argue that the purpose of an arbitration clause is to obtain a faster and more efficient way of resolving litigation, it cannot be disputed that several aspects of an Arbitration heavily favor the franchisor over the franchisee.First, in an Arbitration, a franchisee is denied his right to a jury trial.  This is significant given that most franchise disputes can be viewed as “David and Goliath” situations.  Second, most arbitration clauses require the franchisee to travel many miles from his home to the franchisor’s headquarters for the Arbitration.  Third, the ability of the franchisee to obtain the information and documents through discovery he needs from the franchisor to adequately prepare his claims for trial is severely limited in an Arbitration.  This inherently disadvantages the party (usually the franchisee) attempting to prove fraud or other claims of misrepresentation, which by their nature, involve complex issues of proof.Fourth, many times an arbitration provision will provide that the franchisee waives any right to punitive damages and sets forth an abnormally short period of time by which the franchisee must assert or lose his claims.  Fifth, and often-times overlooked, is the requirement that a franchisee wishing to assert a counterclaim must “pay” a fee for this right….as a general rule, arbitration provisions are not in the franchisee’s best interests, and in almost every case, courts will uphold the validity of arbitration clauses so long as the franchisee has signed the franchise agreement.  Accordingly, unless the franchisee negotiates the removal of an arbitration clause before he signs a franchise agreement, it is very likely that any dispute that arises thereafter will be decided in Arbitration.”Read Jeffrey Goldstein’s article on franchise arbitration here.
 Attorney Robert Einhorn
Attorney Robert Einhorn
“…it may prevent a franchisee from ever being able to pursue any legal recourse for a wrong committed by the franchisor.”Arbitration is a private and expensive way to resolve disputes.  Franchisors often find it appealing for both of these reasons.  Since it is a private and confidential process, franchisors can avoid the negative publicity associated with a publicly filed court case.  Additionally, a negative arbitration ruling may never become public and will have little if any precedential value thereby limiting the consequences to a franchisor from losing a case.Arbitration is an expensive process because the filing fees are high and arbitrator’s charge high hourly rates to hear the case.  The high expenses associated with pursuing an arbitration case have the practical effect of preventing many franchisees from even commencing a case thereby insulating the franchisor from many claims.  This is a particularly effective strategy for franchisors in franchise systems requiring a small start-up investment.  In such systems, the likely recovery will not justify the costs of pursuing arbitration from the franchisee’s perspective.Does this put franchisees at a disadvantage?It is not the arbitration process itself which makes it disadvantageous to franchisees.  The process can be conducted fairly.  It becomes disadvantageous if it prevents a franchisee from being able to pursue a claim for economic reasons  as described in the answer to the prior question above.  Stated another way, since arbitration is a mandatory process, it may prevent a franchisee from ever being able to pursue any legal recourse for a wrong committed by the franchisor.
 Attorney W. Michael GarnerAttorney W. Michael Garner “There are 5 reasons franchisors require arbitration, and why it’s bad for franchisees:”

  1. Arbitration costs money – sometimes far more than litigation and frequently far more than any franchisee can afford.
  2. You can’t appeal an arbitrator’s award.  And arbitrators don’t have to follow the law.
  3. Most arbitrators will follow the franchise agreement, regardless of what the franchisor did or said.
  4. Arbitration decisions are not precedent, so the franchisor doesn’t risk a ruling that might hurt it in the future.
  5. Arbitration can be made one-sided:  the agreement can dictate what evidence the arbitrator can consider and what types of rulings he/she can make.
 Attorney Stanley DubAttorney Stanley Dub  Most franchisors require arbitration of claims, rather than permitting them to be resolved in courts.  Why do they do this?
For three reasons:(a) it puts franchisees at a disadvantage,

(b) they can get away with it, and

(c) federal and state laws dictate that courts generally enforce arbitration provisions.

The primary advantage arbitration conveys to franchisors is to discourage some claims by imposing significant up-front costs before a claim can be brought.  If an arbitration claim will be submitted to the American Arbitration Association, this would require payment of a fee to the AAA of maybe $3,000, plus the need to deposit an estimate of the amounts that will be needed to pay the arbitrators.  Assume 3 arbitrators who charge an average of $250 per hour.  Then if one party estimates that significant time will be required, the estimated fees generally must be deposited at the start of the claim.  If 40 hours will be required, that means the up-front deposit (generally shared by the parties) would be $33,000, in contrast to a filing fee in a court of around $300.  Lawyers might in some cases take a claim on contingency, but these significant up-front fees could make the difference and prevent a claim from being brought.  Imagine a case where a franchisee goes out of business, and then wants to bring a claim against the franchisor for making fraudulent claims, or violating disclosure laws.  The franchisee may be facing a bankruptcy filing, but he cannot bring his claim, regardless of merit, because he doesn’t have the $16,500 to pay the AAA to start the process.  (The arbitration must typically be brought in a far away location as well, thus further raising the cost to bring a claim.)

Other significant advantages of an arbitration to franchisors are the confidentiality of any decision, and the lack of a written decision.  Franchisors may have to report the occurrence of an arbitration in their future disclosure documents, but these documents may not provide much detail, and in any case are not required to be given to existing franchisees, just to proposed purchasers of new franchises.  By contrast a court decision would become public information, and would provide a detailed discussion of the claims and issues.

Arbitration clauses are an important weapon used by franchisors to tilt the franchise-playing-field in their favor.

See the sponsor profile page of Attorney Stanley Dub.

 Attorney Jeff HaffAttorney Jeff Haff “…franchisees are inconvenienced by arbitration in three primary ways: 1) cost, 2) venue, and 3) likely unavailability of class-wide relief.”

Most franchisors use mandatory arbitration clauses to make sure that all disputes are tried in their back yards and to make class actions very difficult or impossible. The federal courts have generally ruled that even state statutes that protect a franchisee’s right to sue in the franchisee’s home state are overridden by arbitration clauses. In addition, the Supreme Court has made arbitration clauses which preclude class actions almost per se enforceable.

Sometimes franchisors require three arbitrator panels for arbitrations — this is often an effort to make arbitration so prohibitively expensive that the franchisee will not pursue even valid claims.,

Franchisors often do not believe that arbitration provides a fast or inexpensive means of dispute resolution. But even franchisors who realize that arbitration is expensive and not any more expeditious than litigation will often require arbitration to keep the home court advantage and prevent franchisees from joining together to pursue common claims.

To answer the question – franchisees are inconvenienced by arbitration in three primary ways:

1) cost,

2) venue, and

3) likely unavailability of class-wide relief.

Also Read:

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What are the Most Damaging Myths in Franchising?

Is Franchising REALLY Highly Regulated?

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TAGS: Franchise agreements, franchise arbitration, franchise mediation, arbitration clauses in franchising, fair arbitration legislation, fair litigation act, Franchise, Franchising, franchise myths, buying a franchise, franchise attorneys, franchisee attorneys, franchise lawyers, franchisee lawyers, franchise law, franchisee law

2 thoughts on “Is Mandatory Arbitration Unfair to Franchisees?

  • June 4, 2014 at 3:40 pm
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    If you are a franchisee and your franchise agreement has an arbitration provision, this question is largely academic. I want to briefly discuss the options of franchisees who have already agreed to arbitrate. First, there is a difference between mandatory (“shall”) and permissive (“may”) arbitration. If your arbitration provision is permissive, you do not have to arbitrate unless your franchisor demands you do so. Odds are, your franchisor will probably do exactly that. That said, if you are convinced litigation best serves your interest, you can always hope your franchisor elects to not demand you arbitrate (for whatever reason) or waives it right to do so. See, e.g., In re Mirant Corp., 613 F.3d 584, 588 (5th Cir. 2010) (“Waiver will be found where the party seeking arbitration substantially invokes the judicial process to the detriment or prejudice of the other party”) (citation and punctuation omitted).
    Second, your arbitration clause may be “narrow” such that certain claims, e.g., fraud and rescission, fall outside its scope. This is increasingly rare, however. See Collins & Aikman Prods. Co. v. Bldg. Sys., 58 F.3d 16, 20 (2d Cir. 1995) (“[T]he clause in this case, submitting to arbitration ‘any claim or controversy arising out of or relating to the agreement,’ is the paradigm of a broad clause”) (punctuation omitted and emphasis added).
    Given this, a common tact by parties who want to litigate their dispute is to try to invalidate the arbitration provision. Essentially, this requires an argument under state contract law that is specific to the arbitration provision itself, e.g., unconscionability, fraud or duress. These arguments can be very difficult to win. See, e.g., Mortensen v. Bresnan Commc’ns, LLC, 722 F.3d 1151, 1159 (9th Cir. 2013) (“We take [AT&T Mobility LLC v. Concepcion, 131 S.Ct. 1740 (2011)] to mean what its plain language says: Any general state-law contract defense … that has a disproportionate effect on arbitration is displaced by the [Federal Arbitration Act]”) (emphasis added).
    In other words: if you agreed to arbitrate your dispute with your franchisor, that dispute may be resolved by arbitration. The question then becomes whether it is a good use of time and money to fight the inevitable. There may be some collateral benefit to doing so. In many cases, however, you will be better served by making the best of the hand you’ve been dealt. The advantage of arbitration is that you can construct a dispute resolution system basically from scratch, and ideally in a way that generates some procedural advantages. Don’t assume your best option is necessarily to litigate—particularly if you are unlikely to be able to do so anyway.

  • June 5, 2014 at 8:29 am
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    There are regions in the US where slavery was popular at onetime and their descendants still favor slavery in the form of franchise systems. You will find franchisors flock in the Atlanta area and the arbitration system there is heavily tilted towards franchisors. In a recent arbitration, the franchisor, Discovery Point, shredded all documents to survive, and arbitrator Richard M. Asbill let them have all and continue their fraudulent business. Think twice about selecting Richard as your arbitrator if you are a Zee.
    Unlike court documents, the arbitration documents are not publicly available, and franchisors can hide their near criminal activities in the arbitration process. Atlanta with backward slave supporting mentality is ideal for such activities.

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