Opinion
Case Nos. 97 B 41274 through 97 B 41278 (SMB) (Jointly Administered), A.P. No. 97-8273 (SMB)
August 17, 2000
Eric D. Cherches, Esq., Clifford M. Solomon, Esq., CORWIN SOLOMON TANENBAUM, P.C., New York, New York, Attorneys for Plaintiffs
Samuel D. Levy Esq., MARCUS LEVY LLP, New York, New York, John M. Nonna, Esq., LEBOEUF, LAMB, GREENE MACRAE, LLP, New York, New York, Co-Counsel for Defendants
MEMORANDUM DECISION GRANTING DEFENDANTS' MOTION TO DISMISS PORTIONS OF THE SECOND AMENDED COMPLAINT
The plaintiffs and debtors-in-possession are a holding company and four subsidiaries who were former licensees of the defendant SMH (US) Inc. They brought this adversary proceeding to assert various tort, contract, unfair competition and franchise act claims arising out of their transactions and relationships with the defendants.
The defendants have moved to dismiss the tenth, twelfth and thirteenth claims for relief, primarily for failure to state a claim upon which relief can be granted, pursuant to Fed.R.Bankr.P. 7012. For the reasons that follow, the motion is granted with leave to replead the portions of the tenth claim identified below. My decision on the defendants' request to impose the costs of additional discovery on the plaintiffs, as a condition to amending the complaint, will be deferred pending review of the amendment.
The facts are based on the allegations in the complaint. Since the matter before me involves a motion to dismiss for legal insufficiency, I must assume the truth of those factual allegations, Harsco Corp. v. Segui, 91 F.3d 337, 341 (2d Cir. 1996), and draw all reasonable inferences in the plaintiffs' favor. Scheuer v. Rhodes, 416 U.S. 232, 236 (1974); Luedke v. Delta Air Lines. Inc. 159 B.R. 385, 389 (S.D.N.Y. 1993); Raine v. Lorimar Prods., Inc., 71 B.R. 450, 453 (S.D.N.Y. 1987). I may also consider the contents of any documents attached to the complaint or incorporated by reference, matters as to which I can take judicial notice, and documents in the plaintiffs' possession or which they knew of or relied on in connection with the Second Amended Complaint. Brass v. American Film Techs., Inc., 987 F.2d 142, 150 (2d Cir. 1993); see Rothman v. Gregor, No. 00-7005, 2000 WL 1026348, at *6 (2d Cir. July 20, 2000). The last category includes the license agreements. The defendants have submitted one of the four agreements with their motion papers, but I am advised that the content of each of the agreements is the same.
The Matterhorn Group Harbor Place, Inc., The Matterhorn Group Woodbridge, Inc., The Matterhorn Group King of Prussia, Inc. and The Matterhorn Group Freehold, Inc. are corporations formed under New York law for the purpose of operating stores or kiosks selling Swatch watches at their respective locations. The Matterhorn Group, Inc. owns all of the stock in the four operating subsidiaries, and the five debtors and plaintiffs are collectively referred to as "Matterhorn." (See Second Amended Complaint, dated Jan. 25, 2000, at ¶¶ 1-5.) The defendants (collectively "SWATCH US") are Delaware corporations engaged in the marketing and distribution of Swatch watches and products. They currently maintain their principal places of business in Weehawken, New Jersey, but during some of the events in question, they maintained their principal places of business in New York City. (¶¶ 6-8.) The debtors' principals, Gerard Nally, Peter Heusler and Bruno Niklaus, have had extensive experience in the retail sale of Swatch products, and Nally owned and operated a Swatch store located at the South Street Seaport in New York City. (¶¶ 16-21.)
The Second Amended Complaint will hereinafter be cited with a parenthetical reference to the relevant paragraphs, eg., "(¶ 1)."
In January 1995, SWATCH US announced a decision to expand retail sales in the United States by "rolling out" a franchise program of approximately 200 Swatch retail stores and kiosks, built and operated in accordance with SWATCH US's guidelines. (¶¶ 22-25.) The expansion was designed to coincide with SWATCH US's sponsorship of the 1996 summer Olympic Games in Atlanta. (¶ 24.) SWATCH US met with current Swatch store owners, like Nally, and offered them the first opportunity to present proposals to SWATCH US for the new stores. (¶ 23.)
Following the meeting, Nally, Niklaus and Heusler formed Matterhorn, and began to develop a plan that involved the opening of numerous stores and kiosks, primarily in the Northeast. (¶¶ 26-27.) In March 1995, Matterhorn presented SWATCH US with a comprehensive business plan to open thirty-one Swatch stores at carefully screened locations (the "Rollout Plan"). (¶ 28.) SWATCH US accepted the plan without modification, promised marketing, financial, pricing and product support, agreed to approve Matterhorn's store and kiosk designs expeditiously, and told Matterhorn that a comprehensive franchise agreement would be ready [or execution in July 1995. (¶¶ 29-30.) To evidence this commitment, the parties entered into a letter of intent, dated May 11, 1995, which (1) granted Matterhorn exclusive authority to "research and negotiate Swatch kiosk and/or Swatch store leases for Ethel thirty-one locations listed," (2) provided that "upon final approval of these locations . . . [,] Swatch USA Inc. will design, build and allow the Matterhorn Group Inc. to operate retail Swatch outlets at those locations," and (3) stated that "these locations will operate under the terms outlined in Swatch license or franchise agreements as necessary, for the term of the specified lease." (¶ 33.) In the Spring of 1995, SWATCH US also provided Matterhorn with a franchise operating manual, and promised a comprehensive franchise agreement by July 1995. (¶ 34.)
Matterhorn devoted substantial time and expense to the development of its Rollout Plan, (¶¶ 36-37), and submitted pro forma applications relating to ten of the Rollout Plan locations. (¶ 38; see ¶¶ 41-42.) Apparently, SWATCH US approved just four because each of the plaintiff subsidiaries subsequently opened a Swatch store or kiosk at the location corresponding to its corporate name: the Gallery at Harbor Place (Baltimore, Maryland) (opened October 26, 1995), the Plaza at King of Prussia (King of Prussia, Pennsylvania) (opened November 11, 1995), the Woodbridge Center (Woodbridge, New Jersey) (opened July 26, 1996) and the Freehold Raceway Mall (Freehold, New Jersey) (opened September 20, 1996). (¶¶ 50, 53, 57, 60.)
Each store operated under a temporary license agreement which was tendered within a few days of opening and as a condition of opening. The license agreements had shorter terms than the corresponding mall leases, violating the Letter of Intent, and SWATCH US refused to provide a comprehensive franchise agreement. (¶¶ 46-47.)
The openings and subsequent operations did not, however, go smoothly. SWATCH US caused the openings to be delayed, beyond the busy season, resulting in lost income. (¶¶ 49-50, 53, 60.)
In addition, SWATCH US made representations regarding credit and product availability that it did not intend to meet. (¶ 43.) Further, it promised to absorb some of the design and construction costs, but breached this promise, at least with respect to the Harbor Place and King of Prussia stores. (¶¶ 43-45, 55.)
SWATCH US contributed $50,000.00 toward Woodbridge Center, (¶ 58), and $25,000.00 toward the Freehold Raceway Mall.(¶ 61.)
SWATCH US also competed directly with Matterhorn but without it's consent. In September 1995, SWATCH US opened a company owned store in D.C. that competed with Harbor Place. It also opened a store in Chicago. (¶ 64.) In October 1995, SWATCH US opened a store only twenty miles from the King of Prussia store. (¶ 64.) In addition, SWATCH US subsequently opened additional outlet stores selling watches and other merchandise, not even available in the Matterhorn stores, at steeply discounted prices. Despite Matterhorn's request, SWATCH US refused to close the company-owned outlet stores or make the same wide assortment of merchandise available to Matterhorn. (¶ 65-67.) Moreover, SWATCH US permitted department stores to sell Swatch watches at a steep discount, but required Matterhorn to sell at the full retail price. Again, SWATCH US refused Matterhorn's request to prevent the sale of the discounted merchandise. (¶¶ 68-70.)
SWATCH US authorized a music store located in the same King of Prussia mall as Matterhom to sell Swatch watches at a discount. (¶ 71.)
At the same time, SWATCH US prevented Matterhorn from opening stores — other than the four already discussed — in conformity with the approved Rollout Plan. Matterhorn submitted six pro forma applications for other stores which SWATCH US failed to approve. In some cases, SWATCH US opened its own store at the same location. (See ¶¶ 75-89). In addition, SWATCH US opened at least four company-owned stores in Matterhorn's Rollout Plan territory. (¶ 91.)
In October 1995, Matterhorn learned that SWATCH US intended to open a company store in midtown Manhattan (the "Timeship Store"). (¶ 92.) SWATCH US promised that the Timeship Store would not get special treatment, and SWATCH US would provide Matterhorn, in advance, with the same watches and promotional gifts. (¶ 93.) However, shortly after SWATCH US opened the Timeship Store on December 10, 1996, it reduced the supply of special holiday watches to Matterhorn's stores, while fully stocking the Timeship Store. The Timeship Store also hosted promotional events, offered promotional packages and sold other logoed items that were not available to Matterhorn despite its repeated requests. (¶¶ 94-98.) Consumers who telephoned SWATCH US to buy products were diverted to the Timeship Store. (¶ 99.) SWATCH US paid for advertising promoting the Timeship Store, and outfitted the Timeship Store with an exclusive design and special store displays not made available to Matterhorn. (¶ 100.)
SWATCH US also competed unfairly in the Atlanta area. In 1994, SWATCH US was designated as the official timekeeper for the 1996 Olympic Games, and it offered Matterhorn two or three locations at the Olympics site. (¶ 101.) With SWATCH US's knowledge and consent, Matterhorn planned to open a permanent store at the Atlanta airport and two temporary locations at the Games. (¶¶ 101-02.) Abruptly, SWATCH US changed course, and denied Matterhorn the opportunity to open any stores in Atlanta, although the location was part of the Rollout Plan. (¶ 102.) It offered more favorable terms to one of Matterhorn's competitors, and eventually opened a company-owned store in Atlanta, using Matterhorn's Rollout Plan. (¶¶ 103-105.) Moreover, prior to and during the Olympics, SWATCH US failed, despite Matterhorn's request, to ship watches and products developed to coincide with the promotion of the Olympics. (¶ 106.) As a general matter, SWATCH US failed to provide Matterhorn with sufficient marketing, product, operational, financial and advertising support, and gave preferential treatment to its own stores, or other non-company Swatch stores, to the detriment of Matterhorn. (See ¶¶ 107-21.)
The parties' relationship ended in February 1997, approximately two years after it began. On February 12, 1997, Matterhorn submitted a business plan requested by SWATCH US, and SWATCH US promised to ship approximately $50,000.00 on credit terms of nine months. It then breached this promise, telling Matterhorn that it would not ship any more product, and terminated the license agreements effective in fifteen days. (¶¶ 122-24.) As a result, Matterhorn filed its chapter 11 cases on February 27, 1997. (¶ 125.)
DISCUSSION
A. The Tenth Clam
The Second Amended Complaint contains fourteen counts, but the present motion to dismiss concerns only three: the tenth, the twelfth and the thirteenth. The tenth claim sounds in fraudulent inducement, and relates to the four instances in which the operating subsidiaries entered into license agreements. It alleges that in order to induce Matterhorn to enter into the license agreements, SWATCH US made the following representations and promises:
The parties treat the five Matterhorn entities as one. Nevertheless, it appears that each operating subsidiary alone signed a corresponding license agreement.
1. the interim license agreements granted to the four operating subsidiaries would be replaced by formal franchise agreements in a few months, (¶ 206 (a));
2. the Matterhorn stores would be part of a United States franchise program that was being finalized, (¶ 206(b)
3. Matterhorn would be provided with the timely delivery of a broad range of Swatch products on reasonable credit terms, (¶ 206 (d));
There is no subparagraph (c).
4. the Timeship Store would be a marketing tool that would not compete with the Matterhorn stores or receive preferential treatment, and Matterhorn would receive the same products available in the Timeship Store two weeks before the Timeship Store, (¶ 206 (e))
5. aside from the Timeship Store and a few retail outlets which would not compete with retail Swatch stores, SWATCH US would not open any company-owned stores in the United States, (¶ 206(f));
6. SWATCH US would provide a construction allowance to defray the design and construction costs incurred by Matterhorn in connection with its stores, (¶ 206(g)); and
7. an organized and effective marketing strategy would be implemented. (¶ 206(e).)
SWATCH US knew or should have known that these representations were false, but made them with the intent to defraud Matterhorn, (¶ 210), and to induce Matterhorn to enter into the license agreements and spend substantial sums designing, constructing, opening and operating the Matterhorn stores. (¶¶ 207.) Matterhorn reasonably relied on the representations, (¶¶ 208-09), entering into the license agreements as well as long-term leases personally guaranteed by the principals and expending substantial sums and making financial commitments. (¶ 211.) As a consequence, Matterhorn suffered at least $1 million in damages. (¶ 212.)
1. Rule 9(b) Pleading Requirements
SWATCH US argues that Matterhorn has failed to plead fraud with the particularity required by Fed.R.Civ.P. 9(b) Rule 9(b), made applicable to this adversary proceeding by Fed.R.Bankr.P. 7009, is designed to provide a defendant with fair notice of the plaintiff's claim, safeguard the defendant's reputation from improvident charges of wrongdoing and protect against strike suits. Campaniello Imports, Ltd. v. Saporiti Italia S.p.A., 117 F.3d 655, 663 (2d Cir 1997); O'Brien v. National Property Analysts Partners, 936 F.2d 674, 676 (2d Cir. 1991); Cosmos v. Hassett, 886 F.2d 8, 11 (2d Cir. 1989); DiVittorio v. Equidyne Extractive Indus., Inc., 822 F.2d 1242, 1247 (2d Cir. 1987); Segal v. Gordon, 467 F.2d 602, 607 (2d Cir. 1972)
Rule 9 (b) states:
In all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be stated with particularity. Malice, intent, knowledge, and other condition of mind of a person may be averred generally.
The Rule requires the complaint to specify adequately the false or misleading statements, explain how they were fraudulent, and state when, where and by whom they were made. McLaughlin v. Anderson, 962 F.2d 187, 191 (2d Cir. 1992); Cosmos v. Hassett, 886 F.2d at 11. The plaintiff is not required to plead the date, time and place "with the detail of a desk calendar or street map" provided that he gives the defendant fair and reasonable notice of the claim and the grounds on which it is based. International Motor Sports Group. Inc. v. Gordon, No. 98 Civ. 5611 (MBM), 1999 WL 619633, at *3-4 (S.D.N.Y. Aug. 16, 1999). The adequacy of the information will depend, inter alia, on the length of the time over which the misrepresentations were supposedly made and the number of persons who supposedly made them. See id. at *4.
Although scienter may be pleaded generally, the pleader must "allege facts that give rise to a strong inference of fraudulent intent." Shields v. Citytrust Bancorp. Inc., 25 F.3d 1124, 1128 (2d Cir. 1994); accord Campaniello Imports. Ltd. v. Saporiti Italia S.p.A., 117 F.3dat 663; Chillv. General Elec. Co., 101 F.3d 263, 267 (2d Cir. 1996). A strong inference of fraudulent intent may be established in one of two ways: "either (a) by alleging facts to show that defendants had both motive and opportunity to commit fraud, or (b) by alleging facts that constitute strong circumstantial evidence of conscious misbehavior or recklessness." Shields v. Citytrust Bancorp. Inc., 25 F.3d at 1128; accord Chill v. General Elec. Co., 101 F.3d at 267. Finally, a pleader cannot allege fraud based upon information and belief unless the facts are "peculiarly within the opposing party's knowledge." Schlick v. Penn-Dixie Cement Corp., 507 F.2d 374, 379 (2d Cir. 1974), cert. denied, 421 U.S. 976 (1975); accord Campaniello Imports. Ltd. v. Saporiti Italia S.p A 117 F.3d at 664. Even in those cases, the pleader must allege facts upon which the belief is founded. Campaniello Imports, Ltd. v. Saporiti Italia S.p.A., 117 F.3d at 664; Schlick v. Penn-Dixie Cement Corp., 507 F.2d at 379; Segal v. Gordon, 467 F.2d at 608.
Matterhorn's attempts to distinguish and narrow the holdings of the pertinent cases cited by SWATCH US for these well-settled propositions that govern pleading fraud. It is sufficient to say that Matterhorn's distinctions are myopic, and its argument on this point unconvincing.
SWATCH US contends that the tenth claim violates Rule 9(b) in two respects: (1) it does not identify the time, place and author of the misrepresentation with sufficient particularity, and (2) the amended complaint does not allege facts supporting the general allegation of scienter. SWATCH US is correct on the first point. While paragraph 206 identifies the general content of each misrepresentation, the pleading does not provide adequate information regarding when, where and by whom each misrepresentation was made. According to ¶ 206, the earliest date could be January 1995, while the latest could be the execution of the license agreements in late 1995 or 1996. Thus, the critical period spans at least several months and in some cases more than one year. In addition, the Second Amended Complaint identifies just one SWATCH US participant by name: Martin Grossenbacher, the president of Swatch U.S.A., Inc. (¶ 22.) While some of the representations are attributed to Grossenbacher, the amended complaint ascribes many representations simply to SWATCH US.
The amended complaint does not allege the dates that the four license agreements were executed. I assume that the license agreements pertaining to the Harbor Place and King of Prussia stores were signed by the fall of 1995 because the two stores opened then. On the other hand, the Woodbridge license agreement, provided by SWATCH US in connection with the motion, was not fully executed until June 25, 1996.
On the second point, however, the Second Amended Complaint adequately alleges facts giving rise to a strong inference of fraudulent intent. Matterhorn alleges, in substance, that SWATCH US used Matterhorn as a "stalking horse" to develop a United States market which SWATCH US could then dominate through sales made by its company-owned stores. According to ¶ 160, Matterhorn worked to build a market and develop a strategy for selling Swatch products in the United States at which point SWATCH US ended the relationship. The Second Amended Complaint is also replete with allegations that Matterhorn developed a strategy, secured leases and designed and constructed stores, only to be undercut by SWATCH US-owned stores receiving preferential treatment.
In sum, Matterhorn must replead paragraph 206 to provide more specific information of the time, place and person responsible for each alleged misrepresentation. Because certain of the allegations will not survive the motion to dismiss for the reasons stated in the next subsection, I will defer discussing the procedure for curing the defect until the end of this section of the opinion.
Matterhorn requested the opportunity to replead the tenth claim, if necessary, at the oral argument of SWATCH US's motion.
2. Contradictory Statements
SWATCH US next contends that each of the allegedly fraudulent representations is contradicted by the terms of the license agreements, and therefore, Matterhorn cannot assert a fraudulent inducement claim. Matterhorn responds that the general merger and integration clause contained in the license agreements does not prevent the introduction of parol evidence to prove that the contract, which contains the clause, was induced by fraud. Although Matterhorn correctly states the law, it misses the point of SWATCH US's argument.
Paragraph 29.1 of the license agreements states:
This Agreement constitutes the entire agreement between the parties with respect to the subject matter thereof, superseding all earlier arrangements, communications and agreements, whether written or oral. This Agreement may not be altered, amended, or modified except by a writing signed by both parties.
The parties cite only New York cases, and accordingly, I will apply New York law. See M.H. Segan Ltd. Partnership v. Hasbro. Inc. 924 F. Supp. 512, 522 (S.D.N.Y. 1996)("[I]f the parties support their respective legal contentions by relying solely on New York law, and in the absence of strong countervailing public policy, the Court may consider the parties' preference as relevant and apply New York law to the contract claims.").
If a plaintiff charges that he was fraudulently induced to enter into a contract, parol evidence of the fraud is not barred by a general merger clause under the principle fraus omnia corrumpit ("fraud vitiates everything it touches") JOHN D. CALAMART JOSEPH M. PERILLO, THE LAW OF CONTRACTS § 9-21, at 371 (3d ed. 1987) ("CONTRACTS"); see Tempo Sham Corp. v. Bertek, Inc., 120 F.3d 16, 21 (2d Cir. 1997); Sabo v. Delman, 143 N.E.2d 906, 908-09 (N.Y. 1957) Where, however, the contract contains a specific disclaimer denying reliance on the very representation that underlies the fraud claim, the plaintiff cannot argue that he relied on the representation when he signed it. Harsco Corp. v. Segui, 91 F.3d at 345; Citibank, N.A. v. Plapinger, 485 N.E.2d 974, 976 (N.Y. 1985); Danann Realty Corp. v. Harris, 157 N.E.2d 597, 599-600 (N.Y. 1959); see generally CONTRACTS § 9-21, at 371. Even in the absence of a specific disclaimer, a fraudulent inducement claim will still be barred whenever "an express provision in a written contract contradicts the claimed oral representations in a meaningful fashion." Bango v. Naughton, 584 N.Y.S.2d 942, 944 (N.Y.App.Div. 1992); accord M. H. Segan Ltd. Partnership v. Hasbro, Inc., 924 F. Supp. 512, 527 (S.D.N.Y. 1996); Gindi v. Silvershein, No. 93 Civ. 8679 (LLS), 1996 WL 194304, at *4 (S.D.N.Y. Apr. 23, 1996); Lucas v. Oxigene, Inc., No. 94 Civ. 1691 (MBM), 1995 WL 520752, at *4 (S.D.N.Y. Aug. 31, 1995); see Manufacturers Hanover Trust Co. v. Yanakas, 7 F.3d 310, 317-18 (2d Cir. 1993) (guarantor barred from asserting that bank fraudulently failed to disclose additional loan to principal obligor where guaranty stated that guarantor waived notice of additional loans)
Here, the license agreements do not contain any disclaimers. Nevertheless, several of the alleged oral representations identified in ¶ 206 directly contradict the express provisions of the license agreements in a "meaningful fashion." For example, Matterhorn claims it signed the license agreements because SWATCH US represented that the license agreements would be replaced by formal franchise agreements, (¶ 206(a)), and that the Matterhorn stores would be part of a United States franchise program that was being finalized. (¶ 206(b).) Section 10.2 of the license agreement states, however, that SWATCH US "is currently unable to make any offer of a franchise to [Matterhorn]; and that neither [SWATCH US] nor any of its affiliates have offered a franchise to [Matterhorn]." Accordingly, Matterhorn cannot assert that it relied on the franchise-related representations attributed to SWATCH US.
Similarly, Matterhorn avers that SWATCH US promised a construction allowance to defray the substantial design and construction costs of the stores. (¶ 206(g).) In contrast, section 3.1 of the license agreement says that Matterhorn "may install the interior space of the Business Facility, at its own cost and expense." The fraudulent inducement claim is barred, therefore, to the extent it is based on a representation that SWATCH US would pay the cost of installing the interior space in the Business Facility.
In response, Matterhorn argues that the doctrine of part performance frees its fraudulent inducement claim from the stricture of the parole evidence rule. This is nonsensical. The doctrine is inapplicable to a fraud claim where the issue is whether the plaintiff reasonably or justifiably relied on an oral representation in the face of a specific contractual disclaimer or contradictory provision. Not surprisingly, the cases that Matterhorn cites do not involve fraudulent inducement claims. Rather, they are contract cases, and generally concern the effect of partial performance where a merger clause forbids oral modifications of the contract.
On the other hand, the allegations relating to credit, product supply and competition are not contradicted by the license agreement. Matterhorn alleges that SWATCH US promised to provide a broad array of product on reasonable credit terms, (¶ 206(d)), use the Timeship Store as a marketing tool that would not compete or get preferential treatment, (¶ 206(e)), and refrain from opening company-owned stores or competing with Matterhorn. (¶ 206(f).) SWATCH US argues that §§ 5.1 and 5.3 of the license agreement are inconsistent. These provisions state, in substance, that SWATCH US and Matterhorn will mutually decide on the assortment and amount of product needed by Matterhorn, and that the supply of product may be restricted based on Matterhorn's inability to pay or the availability of the product.
Initially, these provisions do not refer to credit or to competition, either between Matterhorn and SWATCH US, or between Matterhorn and other independent licensees. Thus, the license agreements do not contradict the credit-related or competition related allegations in any sense. Although the license agreements do place some limits on product supply — mutual agreement, availability and ability to pay — these limits are implicit in, or at least do not contradict, the alleged representations. As I interpret the pleading, Matterhorn is not contending that SWATCH US promised to supply whatever Swatch products Matterhorn desired regardless of whether the products existed or Matterhorn could pay for them. Rather, Matterhorn implies that SWATCH US never intended to supply Swatch products in sufficient quantity even if they existed in sufficient quantity and Matterhorn could pay for them (under the credit terms SWATCH US promised to give). Hence, these allegations do not contradict the license agreements in a "meaningful fashion."
Finally, the Second Amended Complaint alleges that SWATCH US promised to organize an effective advertising and marketing strategy. This is a closer question. Paragraph 9.1 of the license agreement states:
Swatch may provide Retailer [i.e., Matterhorn] with advertising, sales promotion, and public relations campaign material (hereinafter "Advertising Material") at no cost to Retailer. In the alternative, as determined by the Retailer in the exercise of its sole discretion, Retailer may have Advertising Material prepared, as approved by Swatch, by contracting with persons unaffiliated with Swatch. Swatch and Retailer acknowledge and agree that Swatch may recommend the expenditure of monies for advertising the Business Facility, but that no advertising is required under this Agreement.
SWATCH US focuses on the last sentence, arguing that it specifically disclaims any obligation to pay for advertising, the very representation attributed to it by Matterhorn. The sentence is, however, ambiguous on this point. While it may mean, as SWATCH US suggests, that it did not have to pay for any advertising, its meaning may be much more limited. The last sentence deals with "advertising the Business Facility," i.e., the specific store, and may only mean that SWATCH US was under no obligation to advertise the specific store.
On the other hand, the allegations at issue are not, at least on their face, limited to the specific store. Rather, they suggest that SWATCH US promised to implement an effective national marketing and advertising strategy to strengthen the United States market for Swatch products. It may be that repleading will clarify more precisely what was said, but I cannot conclude as a matter of law at this time that the license agreements contradict the alleged advertising representation in a "meaningful fashion."
3. Statements of Future Intention
Lastly, SWATCH US argues that the tenth claim should be dismissed because it is based upon promises of future performance. New York law distinguishes between a simple promise to do something in the future, which will give rise only to a breach of contract claim, and a misrepresentation of a present fact, which will give rise to a separate claim of fraudulent inducement. Stewart v. Jackson Nash, 976 F.2d 86, 89 (2d Cir. 1992); Deerfield Communications corp. v. Chesebrough-Ponds. Inc., 502 N.E.2d 1003, 1004 (N.Y. 1986). A statement of present intention is a statement of an existing fact, and will support a fraud claim. Harsco Corp. v. Segui, 91 F.3d at 337; Channel Master Corp. v. Aluminum Ltd. Sales, Inc., 151 N.E.2d 833, 835 (N.Y. 1958); Sabo v. Delman, 143 N.E.2d at 908.
It is true that the statements alleged in ¶ 206(c) through (h) concern SWATCH US's promise to perform in the future (e.g., deliver product, grant reasonable credit terms, not compete, defray construction costs and organize a marketing and advertising strategy). Nevertheless, Matterhorn alleges that SWATCH US knew or should have known they were false, (¶ 207), that its, SWATCH US never intended to keep its promises at the time that they were made. As alleged, therefore, they are misrepresentations of SWATCH US's present intention, and are sufficient to support Matterhorn's claim based on fraudulent inducement.
In summary, the franchise-related claims in ¶ 206(a) and (b) are dismissed without leave to replead. A similar fate applies to subparagraph (g), to the extent it alleges that Matterhorn agreed to defray the costs of installing the interior space. The balance of the tenth claim is dismissed with leave to replead the allegations in ¶ 206 in a manner that satisfies the particularity requirements discussed above.
B. The Twelfth Claim
Matterhorn's twelfth claim incorporates the prior allegations, avers that the parties stood in a franchisor-franchisee relationship, and charges that SWATCH US breached that relationship. (¶¶ 218-26.) In seeking dismissal, SWATCH US assumes that New York law governs, and argues that the claim (1) is barred by New York's three year statute of limitations, and (2) fails to plead the elements of a franchise relationship under New York law. Without conceding or disputing the applicability of New York law, Matterhorn responds that the claim is neither time-barred nor legally insufficient under New York law.
The license agreements contain a choice of law provision that the parties have ignored. Section 27.1 states that the validity, interpretation and performance of the license agreement shall be governed by the state in which SMIH (US), Inc. maintains its principal place of business, without regard to that state's choice of law rules. The Second Amended Complaint alleges that this is currently New Jersey, although during some of the events in question, SMIE (US), Inc. maintained its principal place of business in New York. (¶ 6.) The license agreements state that SMH (US), Inc. has offices in New York City, and do not mention New Jersey.
Generally, a franchise includes three elements: (1) the offer, sale or distribution of goods or services under a marketing plan or system prescribed in substantial part by the franchisor, (2) substantial association with the franchisor's trademark, trade name, service name, logo or other commercial symbol, and (3) payment of a franchise fee. Boat Motor Mart v. Sea Ray Boats. Inc., 825 F.2d 1285, 1288 (9th Cir. 1987) (California law); Bryant Corp. v. Outboard Marine Corp., No. C93-1365R, 1994 WL 745159, at *1 (W.D. Wash. Sept. 29, 1994) (Washington law); Implement Serv., Inc. v. Tecumseh Prods. Co., 726 F. Supp. 1171, 1177 (S.D. Ind. 1989) (Indiana law); FTC Franchise Rule, 16 C.F.R. § 436.2 (2000); 62B AM. JUR. 2D, Private Franchise Contracts § 10 (1990). New York's franchise law, N.Y. GEN. BUS. LAW §§ 680, et seq., (McKinney 1996), is somewhat broader. It applies to agreements granting the right to offer, sell or distribute goods or services either (a) under a marketing plan or system prescribed in substantial part by the franchisor, or (b) substantially associated with the franchisor's trademark, trade name, commercial symbol, etc. In other words, while most jurisdictions require both a franchisor-directed marketing plan (or community of interest) and use of the franchisor's mark or other commercial symbol, New York requires one or the other. N.Y. GEN. BUS. LAW § 681 (3); see Palazzetti Import/Export Inc. v. Morson, No. 98 Civ. 0722 (LBS)(SEG), 1999 WL 420403, at *2 (S.D.N.Y. June 23, 1999); Aristacar Corp. v. Attorney General, 541 N.Y.S.2d 165, 166 (N.Y.Sup.Ct. 1989)
Several jurisdictions, including New Jersey, substitute a "community of interest" requirement for the franchisor-directed "marketing plan" requirement. N.J. STAT. ANN. § 56:10-3 (West 1989); see Premier Wine Spirits of South Dakota. Inc. v. B. J. Gallo Winery, 644 F. Supp. 1431, 1438 (ED. Cal. 1986) (interpreting South Dakota law), aff'd 846 F.2d 537 (9th Cir. 1988); see generally Thomas M. Pitegoff, Franchise Relationship Laws: A Minefield for Franchisors, 45 Bus. Law. 289, 292-93 (1989)("Franchise Relationship Laws").
The FTC rule does not create a private right of action. Palazzetti Import/Export Inc. v. Morson, No. 98 Civ. 0722 (LBS)(SEG), 1999 WL 420403, at *3 (S.D.N.Y. June 23, 1999); Olivieri v. McDonald's Corp., 678 F. Supp. 996, 1000 n. 2 (E.D.N.Y. 1988); Mon-Shore Management. Inc. v. Family Media, Nos. 83 Civ. 2013, 1985 WL 4845, at *1 (S.D.N.Y., Dec. 23, 1985); Freedmanv. Meldy's Inc., 587 F. Supp. 658, 659-62 (E.D. Pa. 1984).
SWATCH US contends that Matterhorn has failed to plead the payment of a franchise fee, an "essential element" of a franchise under New York law. See Kennedy v. Lomei, 570 N.Y.S.2d 338, 339 (N.Y.App.Div. 1991). New York law, which is similar to the law of other jurisdictions in this regard, provides:
"Franchise fee" means any fee or charge that a franchisee or subfranchisor is required to pay or agrees to pay directly or indirectly for the right to enter into a business under a franchise agreement or otherwise sell, resell or distribute goods, services, or franchises under such an agreement, including, but not limited to, any such payment for goods or services. The following are not the payment of a franchise fee:
(a) The purchase or agreement to purchase goods at a bona fide wholesale price . . .
N.Y. GEN. BUS. LAW § 681(7) (McKinney 1996). Matterhorn does not plead in haec verba that it paid a franchise fee, but nevertheless points to two allegations which, it argues, meet this requirement. First, Matterhorn was required to bear the cost of designing, constructing, opening and operating its Swatch stores as a condition to the right to sell Swatch products. (¶ 222.) Second, part of the wholesale price it paid for inventory was to be allocated to Swatch "coop" advertising, and if not used, retained by SWATCH US. (¶ 223.)
Matterhorn's opposition memorandum, at page 12, also refers to factual contentions in its statement of undisputed facts submitted in connection with SWATCH US's prior summary judgment motion. I have not considered this statement since it falls outside of the pleadings, and does not come within any of the exceptions noted above.
Neither statement, however, satisfies Matterhorn's pleading obligation. Although franchise fees may be hidden or indirect, see 62B AM. JUR. 2D, Private Franchise Contracts § 22 (1990), the concept is limited. In particular, "franchise fees" do not include the payment of ordinary business expenses, Schultz v. Onan Corp., 737 F.2d 339, 345-46 (3d Cir. 1984); Bryant Corp. v. Outboard Marine Corp., 1994 WL 745159, at *2; Implement Serv., Inc. v. Tecumseh Prods. Co., 726 F. Supp. at 1179, payments for purchases from the franchisor at the bona fide wholesale price, N.Y. GEN. BUS. LAW § 681(7) (a) (quoted supra); Communications Maintenance, Inc. v. Motorola. Inc., 761 F.2d at 1206, or payments to unaffiliated third parties. Boat Motor Mart v. Sea Ray Boats. Inc., 825 F.2d at 1289; Schultz v. Onan Corp., 737 F.2d at 346; Bryant Corp. v. Outboard Marine Corp., 1994 WL 745159, at *2; Implement Serv., Inc. v. Tecumseh Prods. Co., 726 F. Supp. at 1179; Premier Wine Spirits of South Dakota, Inc. v. E. J. Gallo Winery, 644 F. Supp. 1431, 1438 (E.D. Cal. 1986), aff'd, 846 F.2d 537 (9th Cir. 1988)
Conversely, prices that include an overcharge may constitute a hidden franchise fee. See Boat Motor Mart v. Sea Ray Boats. Inc., 825 F.2d at 1289; Communications Maintenance. Inc. v. Motorola. Inc., 761 F.2d 1202, 1207 n. 3 (7th Cir. 1985); Bryant Corp. v. Outboard Marine Corp., 1994 WL 745159, at *3.
Here, the Second Amended Complaint fails to plead affirmatively that the construction and other costs incurred by Matterhorn were paid to SWATCH US rather than to third parties, or that the inventory purchases were not made at the bona fide wholesale price. These omissions are fatal, and Carlucci v. Owens-Corning Fiberglas Corp., 646 F. Supp. 1486 (E.D.N.Y. 1986), is directly on point. There, the defendant moved to dismiss Carlucci's New York Franchise Sales Act claims, arguing that he had failed to allege the payment of a franchise fee. In response, Carlucci asserted that he did not have to plead the payment of a franchise fee specifically, but in any event, he alleged payments that could be considered a franchise fee. Specifically, he pointed to his purchase of 500 gallons of Tuff-n-Dri from the defendant as well as his purchase of specialized equipment needed to operate his business. Id. at 1495.
The district court granted the motion to dismiss the franchise claim for legal insufficiency:
Plaintiff has totally failed to allege the existence of any payment that might properly be deemed a franchise fee. Plaintiff's payment to Owens-Corning was unquestionably, under the facts Carlucci himself has alleged, simply a wholesale payment for a shipment of Tuff-n-Dri that plaintiff wished to purchase and resell. Plaintiff has nowhere alleged that the price Owens- Corning charged Carlucci was not its wholesale price, nor has Carlucci alleged that the price charged was not absolutely bona fide. As for the specialized equipment plaintiff purportedly purchased, this clearly cannot qualify as a franchise fee with relation to Owens-Corning, as there is no allegation that any of this equipment was purchased from Owens-Corning.
Id.; see First Mut., Inc. v. Rive Gauche Apparel Distrib., Ltd., No. 90-10899-Z, 1990 WL 235422, at *4 (D. Mass. Dec. 21, 1990) (applying the New York Sales Franchise Act)
Matterhorn's payment allegations are indistinguishable from Carlucci's, and deserve the same fate. Matterhorn alleges that it incurred design, construction, opening and operation costs, but does not allege that it paid SWATCH US anything on account of these expenses. In addition, it alleges that a portion of the wholesale price that it paid for inventory was to be allocated to "coop" advertising. Matterhorn does not allege, however, that the wholesale price was not bona fide, or that it involved an overcharge, premium or markup that could be considered a hidden franchise fee. Accordingly, the twelfth claim fails to plead a claim for relief under New York law, the only law the parties discuss.
In addition, some of these categories appear to encompass ordinary business expenses.
Aside from New York, the laws of Maryland, New Jersey and Pennsylvania, the states in which the subsidiaries operated, are possibly relevant. Maryland law, like New York law, requires the payment of a franchise fee, MI). CODE ANN., BUS. REG. § 14-201(e)(1), a term it defines in the same way as New York. See id. § 14-201(g). New Jersey law does not require the payment of a franchise fee, see N.J. STAT. ANN. § 56:10-3 (West 1989), but does not require the pre-registration of the offering document either. Instead, it deals with various aspects of the franchisor-franchisee relationship. Id. §§ 56:10-5 to 10-7 see Franchise Relationship Laws, 45 Bus. Law. 289, Appendix B. Matterhorn has asserted a separate claim alleging violations of New Jersey's franchise law, (see ¶¶ 233-36), which is not the subject of the pending motion. Finally, Pennsylvania has not enacted a statute regulating franchises. See Franchise Relationship Laws, 45 Bus. Law. 289, Appendix B. Nevertheless, Pennsylvania recognizes the existence of a common law franchise where "the franchisee undertakes to conduct a business or sell a product or service in accordance with the methods and procedures prescribed by the franchisor, and the franchisor undertakes to assist the franchisee through advertising, promotion and other advisory services." Piercing. Pagoda. Inc. v. Hoffman, 351 A.2d 207, 211 (Pa. 1976); accord Atlantic Richfield Co. v. Razumic, 390 A.2d 736, 740 (Pa. 1978). To the extent that Pennsylvania law controls, the twelfth claim duplicates Matterhorn's breach of contract claims.
C. The Thirteenth Claim
In the thirteenth claim, Matterhorn insists that SWATCH US violated Maryland's franchise law by offering to provide a franchise agreement to Matterhorn, repeatedly representing that a franchise would be forthcoming, and providing Matterhorn with the SWATCH US franchise manual at a time when it knew that its offer was not duly registered. (¶¶ 227-32.) SWATCH US's motion to dismiss raises three points: the claim is barred by Maryland's three year statute of limitations, the Second Amended Complaint fails to allege the payment of a franchise fee, and Matterhorn, a prospective franchisee, cannot recover damages under Maryland law.
As noted, Maryland law, like New York law, requires the payment of a franchise fee. Hence, the thirteenth claim suffers from the same defect as the twelfth, and Matterhorn has failed to allege that it is a franchisee under Maryland law. As a corollary, Matterhorn did not purchase a franchise under Maryland law. It lacks standing, therefore, to assert a statutory claim based on the making of an unregistered offer.
The Maryland Franchise Sales Act bars the sale or offer to sell unregistered franchises. MD. CODE ANN., Bus. Reg. §§ 14-214(a), 14-228(a) (1999). Wilful and knowing violations are a felony, id. § 14-228(b), and violations may also give rise to civil liability in favor of a purchaser. Section 14-227 of the Maryland law states in pertinent part:
(a) Grounds. —
(1) A person who sells or grants a franchise is civilly liable to the person who buys or is granted a franchise if the person who sells or grants a franchise offers to sell or sells a franchise:
(i) without the offer of the franchise being registered under this subtitle; or
(ii) by means of an untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they are made, not misleading, if the person who buys or is granted a franchise does not know of the untruth or omission. . . . [Emphasis added.]
The plain language of the statute grants a civil remedy only to purchasers and grantees. Mere offerees or prospective franchisees, on the other hand, lack standing to assert the statutory remedy. Accord Chu v. Dunkin' Donuts Inc., 27 F. Supp.2d 171, 175 (E.D.N.Y. 1998) (franchisor's liability under New York law runs only to purchaser); Olivieri v. McDonald's Corp., 678 F. Supp. 996, 1000 (E.D.N.Y. 1988) (same); see 62B AM. JUR. 2D, Private Franchise Contracts § 317 (1990). The "purchase" requirement simply recognizes that a non-purchaser does not rely on an unregistered or fraudulent prospectus, and hence, does not suffer the type of injury that Maryland franchise law, and similar laws in other states, are designed to prevent.
This conclusion does not alter any common law rights and remedies.
New York law contains a standing limitation similar to Maryland's. Section 691(1) of the General Business Law states:
A person who offers or sells a franchise in violation of section six hundred eighty-three, six hundred eighty-four or six hundred eighty-seven of this article is liable to the person purchasing the franchise for damages and, if such violation as willful and material, for rescission, with interest at six percent per year from the date of purchase, and reasonable attorney fees and court costs.
The thrust of the thirteenth claim is that SWATCH US made unregistered offers, (see ¶ 230), a claim that Matterhorn cannot assert. Indeed, it would be ironic if the law permitted Matterhorn to recover statutory damages based upon an offer it did not accept and which it contends SWATCH US was not entitled to make. Accordingly, the thirteenth claim is dismissed.
D. Discovery Costs
SWATCH US argues that Matterhorn should be required to pay the additional costs and legal fees relating to new discovery compelled by the amended pleading. A court may, in its discretion, impose conditions on leave to amend a pleading where appropriate to balance the interests of the parties or protect the non-moving party from prejudice. 6 CHARLES ALAN WRIGHT, ARTHUR R. MILLER MARY KAY KANE, FEDERAL PRACTICE PROCEDURE § 1486, at 605-06 (2nd ed. 1990) ("WRIGHT MILLER"). A court may, in this regard, require the moving party to pay the costs of the non-moving party resulting from duplicative or additional discovery necessitated by the amendment. Polycast Tech. Corp. v. Uniroyal. Inc., 728 F. Supp. 926, 939 (S.D.N.Y. 1989); Hayden v. Feldman, 159 F.R.D. 452, 454 (S.D.N.Y. 1995); Xpressions Footwear Corp. v. Peters, Nos. 94 Civ. 6136 (JGK), 1995 WL 758761, at *6 (S.D.N.Y. Dec. 22, 1995); see Dussouy v. Gulf Coast Inv. Corp., 660 F.2d 594, 599 (5th Cir. 1981); see generally 6 WRIGHT MILLER § 1486, at 606.
SWATCH US requested conditions after Matterhorn amended its complaint in conformity with my direction at the argument of SWATCH US's earlier summary judgment motion. Given the disposition of this motion, I will treat the request as if it were directed to Matterhorn's request for leave to replead the surviving allegations in the tenth claim.
At this juncture, SWATCH US has failed to show that it needs additional discovery. Its initial moving memorandum, at 22, stated that the Second Amended Complaint did not allege new facts, and relied on a set of facts that Matterhorn had known about for three years. SWATCH US has already had ample time to conduct discovery on these facts. This may change once Matterhorn files its amended claim. At that time, SWATCH US may renew its request and have the opportunity to explain, with the requisite precision, why it needs more discovery and why Matterhorn should have to pay for it.
CONCLUSION
SWATCH US's motion is granted to the extent of dismissing the twelfth and thirteenth claims in their entirety, and dismissing the tenth claim with leave to replead to the extent consistent with this opinion. Matterhorn shall file its third amended complaint within twenty days of the entry of the order relating to the disposition of SWATCH US's motion, and SWATCH US shall file its answer and, if appropriate, renew its request to impose conditions, within ten days thereafter.
Settle order on notice.