Mama Fu's Franchisees Set for Trial Armed with Expert Report

ATLANTA (Blue MauMau) - Twenty-nine franchisee-plaintiffs are now set to go to trial on February 17, 2009 against Mama Fu's Pan-Asian restaurant chain's previous franchisor, Mama Fu's Noodle House (MFNH), and MFNH's chief executive officer, H. Martin Sprock, III, and president, Daryl Dollinger. Although MFNH lists no affiliates in its franchise disclosure documents, the lawsuit names other companies connected to the system—Raving Brands Holdings, Inc., Mama Fu's Peachtree, Moe's Southwest Grill, Bonehead's Seafood, Inc. and Doc Green's Gourmet Salads, Inc. Not only will the franchisees be represented by powerhouse attorneys from Casey Gilson, P.C. and Zarco Einhorn Salkowski & Brito P.A., they will also be armed with expert witness testimony from Michael H. Seid, who normally testifies on behalf of franchisors.

The case promises to be challenging for both former franchisor and franchisees.  According to the amended complaint filed in federal court March 2008, franchisees allege that Mama Fu's did not have a developed and perfected system before selling franchises; it had not established a national advertising fund for which it was collecting fees; it did not disclose the "kickbacks" it was receiving from suppliers; and it was selling worthless development rights to the restaurant operators.

Nine Count Accusation

The first of nine counts being brought against Mama Fu's franchisor group is that of accounting and receivership. Franchisees claim that the misappropriation, misapplication, looting and commingling of MFNH assets left the company with insufficient funds to market and advertise its restaurant business to grow restaurant patronage. The franchise operators allege that they are entitled to an accounting of those funds and to a reimbursement since they are the recipients of the misappropriated and misapplied MFNH funds.

The second count involves Georgia Civil R.I.C.O. violations. It asserts that through a pattern of racketeering activity and proceeds derived from that activity, Mama Fu's and its entities and principals engaged in at least two acts of racketeering, including the commission of theft by conversion, theft by deception, theft by taking, and falsification, concealment and fraudulent financial documentation. It claims the offenses were committed as part of a systematic and ongoing pattern over a number of months, in violation of the Georgia R.I.C.O. statute. They are asking for three times the actual damages sustained and punitive damages, attorney's fees, costs of investigation and litigation.

Other counts include fraud, breach of contract, breach of duty of good faith and fair dealing, negligent misrepresentation, breach of implied contract, violations of the Florida Franchise Act and the  Robinson-Patman Act. Franchisees are also asking that the court appoint a temporary receiver to take possession of Mama Fu's franchise property and hold it subject to the orders of the court.

Expert Report Claims Concept Was Untested, Disclosure False

According to Michael Seid's expert opinion dated December 11, 2008, the information given to franchisees in Mama Fu’s disclosure documents was "false, misleading and omitted important and required information."  He states, "It is not the purpose of a franchisee's due diligence to discover factual misrepresentation in a UFOC (now called the franchise disclosure document), franchise agreement or sales presentation. They should be entitled to rely upon their veracity."  Seid also states that Mama Fu's did not operate any franchises at the time it prepared its disclosure documents.

But he points to the preamble to Mama Fu's franchise agreement stating that it had "developed and perfected" a system of opening and operating Mama Fu's Noodle House restaurants and had products, methods, procedures, recipes, and other distinctive products and formulas. It also stated that it had established a reputation, demand and goodwill for the products sold by its restaurants. Through its experience and knowledge in the operations of its restaurants, Mama Fu's also states that franchisees could recognize the value of the uniformity in the system, including in its trademarks, trade names and other distinctive features.  But Seid exclaims that based on his review of the materials provided to him, Mama Fu's document is inaccurate and misleading, in his expert opinion.

Seid does explain that Mama Fu's elected not to include earnings claims in its item 19 in the UFOC given to franchisees.  But he gives opinion to the puffery in the sales process of franchisors, defining puffing as "a statement of opinion or belief not meant as a representation of fact; a seller's commendatory expression or extravagant statements, made to enhance the ware and induce others to enter into a bargain." The definition goes on to say that such "dealer's talk cannot be made the basis of a charge of fraud or express warranty as the buyer has no right to rely on them.  Seid concludes that he recognizes that both sides of the case will debate whether or not the word "perfected" used by Mama Fu's is merely puffing, and whether those statements as included should be given any weight in the matter. Again, Seid gives his expert opinion that those statements should not be considered mere puffery.

Because Mama Fu's Operating Manual is dated December 2003, and the UFOC is dated January 2003, Seid also gives his opinion that the disclosure of the operations manual in the UFOC appears to be improper, as it was prepared subsequent to the date of the UFOC.  And he points out material differences between the table of contents for the Operations Manual.

Failure to Disclose Affiliates, Purchasing Requirements

In Seid's report, he gives the definition of "affiliate" as defined in written materials of an American Bar Association Forum:  ". . . an affiliate is a "person controlled by, controlling, or under common control with the franchisor," explaining how affiliate is interpreted under different sections of the UFOC. In one instance, he states that Mama Fu's and Martin Sprock failed to disclose the SOS company established by Tony Lagratta and Sprock. Based on material provided him, Seid reports that both owned fifty percent of the company. Sprock assigned Lagratta (SOS) to source products and to set up the supply chain. SOS received a two percent markup on all purchases made by all franchisees from the beginning of Mama Fu's. And Sprock, the founder, chairman and majority shareholder of Mama Fu's, received regular distributions of the profits of SOS.

Based on the relationship between Sprock and SOS and its role in sourcing products and other supply chain activities for a markup of the purchases made by franchisees, Seid concludes in his report that SOS was an affiliate of Mama Fu's. That material fact should have been disclosed in appropriate sections of the UFOC.

Inflating Customer Counts

Seid also gave expert opinion as to whether Mama Fu's and Sprock inflated customer counts in their sales process by giving out its Fu's Gold coupons to the public prior to conducting sales meetings for prospective franchisees. Coupons offered $5.00 denominations and entitled holders to the equivalent value of free food with no purchase necessary. The meetings were held at its first restaurant, which opened in June 2003, for the purpose of showing prospects the operations of a restaurant location. Although Seid said he found nothing wrong with putting the best light on the prospect's visit in showing it to be successful, he stated that it should be an honest rendering of the operation and not a staged event. After his examination, Seid gave the opinion that it was a fraudulent representation of the opportunity by Mama Fu's.

Should Franchisors Have Operating Units Prior to Franchising?

Although Seid states that there is no legal requirement, that he is aware of that requires a franchisor to have an existing business in operation prior to launching a franchise, he gives the opinion, "Franchising means that the franchisee is not the guinea pig in the relationship. You've operated the business profitably and more than once."  Based on his experience, he said, "Without taking prudent actions, Martin Sprock commenced the franchising of Mama Fu's. It is a clear and a direct consequence that Mama Fu's failed to develop successfully and failed.  Mama Fu's was not ready to franchise when it did, and should not have done so at the time." He ends by saying, "I understand that Mama Fu's was never profitable and had not achieved a return on investment for its [franchise] owners."

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