Domino's Court Ruling Opens Gate for Unscrupulous Sourcing Activities

ANN ARBOR (Blue MauMau) - Last Friday the U.S. Court of Appeals in Minnesota reversed a district court's decision and the ruling could now impact the way some franchisors craft their sourcing requirements to the detriment of franchisees. New York attorney Paul Steinberg said the Appeals Court ruling is not good news for franchisees. He said, "What's terrible is the broad applicability of the decision."

The court ruling comes from a dispute over Domino's Pizza's announcement that it was mandating all franchisees to not only use its custom-designed PULSE computer system, first introduced in the 1990s, but to also purchase the PULSE system from Domino's. A mandatory date of June 30, 2008 was given. But the main bone of contention for store operators was that their franchise agreements stated otherwise.

Franchisees from four different states filed a lawsuit against the company alleging that Domino's sole reason for mandating the use and purchase of its PULSE system was to generate additional revenue from franchisees. They argued that according to the franchise agreement Domino's is required to give them the specifications and they are allowed to purchase the hardware and software from any source meeting those specifications.

Among the allegations in the franchisees' lawsuit were breach of contract, fraud, negligent misrepresentation, breach of implied covenant of good faith and fair dealing. It also includes violation of the Minnesota Franchise Act. Domino's counterclaimed for breach of contract and indemnification, and sought declaratory relief allowing it to require franchisees to purchase and install the PULSE system.

The franchisees then filed their motion for summary judgment and Domino's filed to have the franchisees' claims dismissed. Although the district court granted Domino's motion on five claims, it ruled against Domino's on the sixth, saying the franchise agreement did not allow Domino's to require franchisees to purchase the PULSE system.

The district court granted the franchisees summary judgment, holding that Domino's "may not require store operators to purchase Domino's proprietary integrated computer system." But on its appeal, the franchisor argued that the district court had misinterpreted the franchise agreement. Domino's admitted that its franchise agreements do state that it provides franchisees with specifications and that franchisees may purchase those items from any source. But it argued that "from any source" doesn't mean multiple sources. Domino's defined "any" as "one, some, every, or all" without specification, citing the American Heritage Dictionary's definition.

The Appellate Court ruling handed down on Friday stated, "Accordingly, we reverse the district court grant of summary judgment in favor of plaintiffs [franchisees] and remand with instructions to grant Domino's motion to dismiss and enter judgment in its favor."

In reading the Appeals Court decision, Steinberg said, "Even those with existing, more broadly worded contracts are going to wind up getting caught up in this." "Essentially, what this means is that any franchisor saying you can use anything meeting our specifications is now meaningless."

Had the lower court decision stood, Steinberg said Domino's would have simply changed the Franchise Disclosure Document (FDD) to state that "we may require you to buy computer hardware and software from a sole source, which may be us or one of our affiliates." He explained, "That would have been direct and clear disclosure language. Other franchisors have such language in their disclosure documents."

But he concludes, "As a result of the appellate reversal, unscrupulous franchisors are encouraged to create the illusion that franchisees have vendor alternatives when in fact they do not. The court forgot that while Domino's may be a reputable franchisor, which will be more clear in future FDDs, the court ruling gives a road map to less reputable franchisors."