Franchise Owners Join Fight Against Mandatory Arbitration

Posted by: Nick Leiber on August 11, 2009

This is a post by guest blogger Janet Sparks.

donsniegowski.jpgThe American Arbitration Association (AAA) is considering potential changes to its Commercial Arbitration Rules and has put out a notice asking for suggestions by e-mail by September 1, 2009. AAA, a private enterprise, was founded in 1926 following the enactment of the Federal Arbitration Act, with the specific goal of helping to implement arbitration as an out-of-court solution to resolving disputes. But this formal notice is curious, coming on the heels of a bill, H.R. 3010, introduced as the Arbitration Fairness Act of 2007, in an effort to ban pre-dispute mandatory binding arbitration, between businesses and consumers and employers and employees in their respective transactions and relationship issues. Recently, there has been a concerted lobbying effort by these groups to expose what they consider to be the unfairness of the current law. This decision to arbitrate future disputes is contained in an “arbitration clause” in their agreements, requiring that if a dispute arises the parties cannot go to court; they must arbitrate their complaint.

One business sector that will be participating in these endeavors will be the franchise community, although with mixed stances on the issues. For the past fifteen years, arbitration has become the preferred means for resolving disputes by franchising firms and their attorneys, in settling disputes with franchise owners. Many conflicts have surfaced in the public domain out of these arbitration processes, often giving franchising a black eye. Mainly these conflicts are in regard to the agreements governing the right to engage in the business of offering, selling or distributing goods or services under a marketing plan or system established by the franchisor. Much of the turmoil stems from the wide use of arbitration clauses in franchise agreements, requiring mandatory arbitration for disputes brought by franchisees.

But the newly introduced Bill 3010 points out some of the problems with the current Federal Arbitration Act, one being that arbitration companies, which are private and revenue driven, could be pressured to devise systems that are favorable to companies in order to get repeat business. Another is that mandatory arbitration undermines public law because there is no meaningful judicial review of an arbitrator’s decision. The new bill states, “… arbitrators enjoy near complete freedom to ignore the law and even their own rules.” And, it states, because mandatory arbitration is not transparent, it does not protect the civil rights of consumers, employees and franchisees.

One such arbitration that stands out is a case between the very popular Ann Arbor, Michigan franchise The Coffee Beanery and two of its franchisees in Annapolis, Maryland. Owner JoAnn Shaw has not only been extremely visible in franchise circles, but also in businesswomen communities. In 2000, Shaw was named as the International Franchise Association’s (IFA) first woman chairperson since its formation in 1960. (There’s more on the IFA below.) But the six-year legal wrangling between her company and franchisees Deborah Williams and Richard Welshans is far from over, and it seems to be creating more damage than most in the community think it’s worth. Not only has it called attention to franchising in a negative way in media and the press, it has also played an important role in getting franchisor and franchisee disputes included in the proposed Franchise Fairness Act of 2007. In their quest to get justice after losing everything they owned including their home, Williams and Welshans have become advocates for franchisees who are forced into mandatory arbitration. Williams has testified before Congress and has lobbied on Capitol Hill with other consumer and employment groups in support of the proposed bill.

The franchisees first filed their lawsuit when they allegedly discovered material omissions and misrepresentations given to them orally and in writing after they signed their franchise agreement in 2003. They also claim they were never given the proper legal franchise disclosure documents when they bought their franchise. After they were forced into arbitration by the franchise agreement arbitration clause, an American Arbitration Association arbitrator made its ruling in favor of The Coffee Beanery.

But when the Arbitration Fairness Act reached out to franchise owners, the IFA, a lobbying and trade association largely representing franchisors, jumped into the arena to fight against the proposed bill. IFA adamantly proclaims that it is the only association that represents both franchisors and franchisees. At this year’s annual legal symposium, IFA vice president of government relations David French declared, “As many of you know, there is a comprehensive assault underway in Congress against arbitration.” He explained to some 450 attendees that the centerpiece of these efforts to revise the current act is to establish that agreements to arbitrate disputes will not be enforceable if they are entered before the actual dispute arises. He then announced that the IFA franchisee forum has also taken a position opposing the Arbitration Fairness Act, noting that it would “be an infringement on the right of freedom of contract for Congress to rewrite the terms of these existing contractual agreements between private parties.”

The Supreme Court has now been petitioned by Coffee Beanery attorneys. They are challenging the decision by the Sixth Circuit Court reversing the ruling of a district court and vacating the award in favor of Coffee Beanery, solely on the ground that the arbitrator manifestly disregarded the law by holding that the franchisor was not required to disclose a felony conviction of one of its officers, the son of JoAnn Shaw. The IFA filed a “friend of the court” brief in support of The Coffee Beanery on the issue of manifest disregard of the law in arbitration rulings. It stated that it filed the brief to protect the tenets of arbitration as an efficient and cost-effective method of resolving disputes.

Janet Sparks is a reporter and blogger for Blue MauMau, a daily business news site for franchise buyers and owner-operators, and a columnist/reporter for Franchise Times magazine. Previously, she was the owner/publisher of the Continental Franchise Review, an industry trade journal first published in 1967.

Reader Comments

Rose

August 11, 2009 12:15 PM

It's interesting that with all that is going on in Franchising, that an IFA Representative, would think it's OK to DISREGARD THE LAW, in order to sell franchises

michael webster

August 11, 2009 4:02 PM

French claims " IFA adamantly proclaims that it is the only association that represents both franchisors and franchisees."

Interesting, since there is a conflict of interest between sellers of goods and services, franchisors, and those captive buyers of said goods and services, the franchisees.

Jordan Fogal

August 11, 2009 10:27 PM

We should all fight arbitration when it is against a consumer. It pits one lone person up aganist a stable of legal cut throats. It is not justice when arbitration companies have already entered into an agreement with big business. Arbitration companies have a vested interest in the out come of each case. The arbitration company should be chosen from a pool, by the consumer if we are going to be forced to go there and pay for it. Since we lose 98.4% of the time, it would seem we would at least get to chose our own rope for our hanging... since we are forced to pay for it..
Arbitrators should not feel they have to rule in favor of big business to get rehired.
And arbitration should not be held in secret, behind closed doors unless both parties agree.
Also there should be monitoring of the arbitrators so when they turn a blind eye to perjury and lying someone is aware and does something about it. We gave our oath, we swore to tell the truth apparently the truth is not a common practice in arbitration. And just how many times can you be forced there in retaliation...and be forced to pay these fees. And how in the world with all the money AAA makes, can they be non profit? We have made very large donations? Where does our money go? It would also help help to clean out the staff of arbitration executives who know about the lying, stealing and poor workman ship. Especially when they have had proof handed to them..and then do nothing about it: example: Mr Richard Namark. I personally showed him an entire neighborhood and gave him proof of fraud and he did nothing but let the destruction of family after family continue, thirty seven families. so many more now.
Visit to my web sight and see what he knows www.jordan-fogal.com. Afterwards try to convince me arbitration is cheaper and fair and in our best interest? We are not stupid. We see exactly whose best interest is served... and companies like AAA are also culprits in the housing debacle. They aided the bad builders and caused so many foreclosures. Worst of all people like Namark know it and do not care. Is is a sick business and they say they are just the "facilitators", sounds like ba da ba da bing. They wash their hands like Pilate.
Please visit my web sight
www.jordan-fogal.com
for the truth and pictures that do not lie....

NS

August 11, 2009 11:22 PM

The ONLY way arbitration can be fair is if it is CHOSEN by both parties AFTER a dispute arises and a truly independent arbitrator is used. These arbitration companies today court businesses to use them and teach them how to write an iron clad contract so a consumer can't escape. It's called how to rip off your customer with impunity. Businesses are their clients NOT the consumer.

HENRY A. TURNER, ATTORNEY AT LAW

August 12, 2009 7:50 AM

The recent legal action by the Minnesota Attorney General against the National Arbitration Forum exposed the real truth concerning the so called "neutral" arbitration organizations.

Jordan Fogal

August 12, 2009 11:18 AM

Warrantless Injustice: Public Citizen Report Exposes Builders' Use of Forced Arbitration and Deceptive Warranties

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By Peter Gosselar - Posted on 20 May 2009

WASHINGTON, D.C. – Millions of new home purchasers each year are forced into binding mandatory arbitration by deceptive “warranties,” and those warranties may violate the law in as many as 17 states, Public Citizen has found.

This conclusion is contained in a report titled “Home Court Advantage: How the Building Industry Uses Forced Arbitration to Evade Accountability.”

These warranties are particularly insidious because consumers often do not learn of their details until after moving into their new houses. Although builders often portray the warranties as gifts, bonuses or extra protections, the warranties actually serve to exempt the builder from liability for all sorts of problems (such as mold, building code violations and “consequential damages”) while relegating buyers to pursue legal disputes in a private forum chosen by the warranty company.

Public Citizen today sent letters to attorneys general in states that ban the use of forced arbitration in insurance contracts. Those states are Arkansas, Georgia, Hawaii, Iowa, Kansas, Kentucky, Louisiana, Maryland, Missouri, Montana, Nebraska, New Mexico, Oklahoma, South Carolina, South Dakota, Utah and Washington. The letters are posted here.

Public Citizen’s report exposes the troubling consequences of forced arbitration for home buyers, a process that is rife with bias and exorbitant costs – and is so devoid of safeguards that an arbitrator’s failure to follow the law is specifically disallowed as a ground for appeal. Among the outrages revealed in the report, available here.

In Georgia, an arbitrator seemed to accept Leslie and Scott Kimbell’s assertion that their floor was sinking but inexplicably blamed them for the problem rather than the builder who had failed to install proper supports under their stone fireplace. The arbitrator provided no relief and instead hit the couple with $12,950 in fees.
Jordan Fogal and her husband were forced from their Houston townhouse because of mold caused by a leaky roof. An arbitrator ruled that the builder had engaged in fraud. But she awarded the Fogals just $26,088 – less than 8 percent of what they paid for a house they were forced to abandon.
Army helicopter pilot John Rechtien and his wife, Michelle, of Savannah, Ga., filed for arbitration after battling their builder for nearly two years over myriad problems. The arbitrator cited technical language in the warranty to dismiss complaints over leaks, mold, broken trim and unfinished drywall, among other problems. On the items for which the arbitrator held the builder liable, he based his award primarily on repair estimates that the builder obtained and submitted to the arbitrator. When Michelle called the same contractors to make the repairs, they refused to honor the prices that formed the basis of the award.
Houston couple William and Jennifer Falbaum convinced an arbitrator that the foundation of their house was flawed. The arbitrator agreed but ruled against the couple in large part because he personally disagreed with an opinion of a Texas Court of Appeals. After the arbitration, the couple learned that the arbitrator had even signed a brief submitted to the Texas Supreme Court on behalf of the Greater Houston Builders Association seeking to overturn that very court decision.
“Because of forced arbitration, my husband and I have been stuck with a house riddled with costly defects,” Michelle Rechtien said during a press conference to discuss the report’s findings. “The building company we bought our new home from has used arbitration to force complaints against it into a rigged system so it can avoid accountability.”

Added Fogal, who also spoke at the press conference, “Our story is shared by millions of Americans caught in the snare of this cursed [arbitration] clause. Arbitration is the privatization of the justice system where the rules no longer apply.”

Although proponents of forced arbitration often call for more “study” of the problem rather than a cure, scant information is available to the public for real research – a problem for which the arbitration industry also is to blame. The process is inherently secretive, and arbitration firms routinely flout the few laws that require them to disclose basic information about their cases. The American Arbitration Association, the country’s largest arbitration firm, is supposed to abide by a California statute’s requirement to disclose a prevailing party in arbitrations, but does so in only 4.3 percent of its reports. Public Citizen has sent letters to California Attorney General Edmund G. Brown Jr. and the city attorneys of five California cities urging better enforcement of the state’s arbitration disclosure law.

“The arbitration companies know that their futures depend on keeping the people who hire them happy, and that means the builders and warranty companies,” said David Arkush, the director of Public Citizen’s Congress Watch division. “As a result, the system is stacked against the consumer.”

###

Public Citizen is a national, nonprofit consumer advocacy organization based in Washington, D.C. For more information, please visit www.citizen.org

Richard Faulkner, J.D., LL.M.,Dip.Intnl.Com.Arb.

August 12, 2009 12:36 PM

The article raises interesting issues and small business needs to pay close attention to this legislation. I have been an arbitrator for decades, am a contributing author to the A.B.A. book "How Arbitration Works" and the author of numerous articles on ADR. I am also a former Professor of Law teaching ADR. I generally favor arbitration, but only when fully and knowledgeably consented to for appropriate disputes. For example, it arbitration is essential in international disputes for important reasons.

However, my firm is frequently counsel for small businesses cursed with AAA arbitration clauses imposed by a huge conglomerate in its' copyrighted, form adhesion contracts. The cost of the AAA arbitration alone often exceeds the entire annual profit of a small business, often more. Despite the self serving AAA propaganda, arbitration is not less expensive, faster, nor more efficient than court, even federal court!

We have AAA bills approaching $100,000 in many arbitrations and exceeding $100,000 in several. NONE of those costs would have been imposed in a federal court! Worse, as Congress suspects, there are improper contacts between large "repeat player" customers of the AAA and AAA executives. See the San Francisco Chronicle articles about the AAA from a couple of years ago. We have obtained other correspondence and will give that to Member of Congress in about three hours.

This post is serendipitous as I am literally about to leave to meet with Members of Congress to ask them to offer amendments to the proposed legislation to extricate small business from arbitration and to have Congress subpoena the AAA to obtain copies of all correspondence between it and any "repeat player customers." We also plan to ask that copies of numerous AAA bills be placed in the Congressional Record so every business owner can know the true costs of AAA arbitration.

A recent study has shown that the Fortune 100 seldom use arbitration for disputes among themselves. They now tend to use it only when they can impose it on small businesses and consumers. As now crafted the Arbitration Fairness Act will let consumers, employees and franchisees free from mandatory arbitration. Every other small business deserves the same freedom from imposed pre-dispute arbitration.

The real question is, if arbitration is as great as the AAA claims, what is the problem with only enforcing arbitration provisions agreed AFTER the dispute has arisen and AFTER after disclosure of the real costs of arbitration? The answer is obvious and with your help Congress will act to protect small business. In this economic climate controlling expenses is critical. There is no reason to saddle small businesses with the concealed costs of an arbitration process few learn of until it is too late.

CS

August 12, 2009 6:04 PM

The Arbitration Fairness Act (AFA) needs to pass. It will not prevent parties from choosing to arbitrate voluntarily, it will prevent corporations from forcing it on consumers.

There are almost no products or services you can get anymore that aren't subject to arbitration clauses it seems. And they are non negotiable and enforced by the courts. It's the rare person indeed who finds a way out of it, so assume that if it's in your paperwork or an online agreement, or on the back of a sporting event ticket or whatever...you are bound by it.

Passing AFA would mean people had a choice again. Though court is not fun or cheap either, it IS public record. And having the leverage to be able to sue often results in companies settling rather than stonewalling. The public record of court cases is important for the benefit of others who do their research before buying.

Arbitrators can ignore the law much more easily than a court, too. There isn't even the same requirement that arbitration notice has to be properly served as with a court summons. Therefore you can lose in arbitration due to clerical errors or improper service/notice.

Arbitration isn't fair to consumers and it was never the intent of the original arbitration laws for it to become a rigged system for the benefit of corporate America. NAF pulled out of credit card arbitrations rather quickly once found out by the MN Attorney General and sued by her office; in my opinion all these arbitration firms need to be scrutinized and prosecuted for any criminal wrongdoing. At best quite a few of them are deceptive and should be put out of business. Watch out for these same people at NAF to form a new company and continue business as usual. It has happened before with another firm, NAC which became CAS and now NCDS...google Construction Arbitration Services and you'll see the same is going on in housing. Check FairArbitrationNow.org for the report Home Court Advantage and other info. These people will not give up their lucrative career of biased 'justice,' they will just do it under a new name until they are finally stopped. Passing AFA would be a big step in that direction, for the benefit of consumers.

Nancy Connelly

August 17, 2009 2:48 PM

No one has considered the benefits of mandatory mediation as a first step: mandatory that one participate in good faith to settle, but not mandatory that the parties reach agreement. As all parties and issues are on the table in mediation, the overwhelming majority do settle there. If mediation is not successful in meeting the business interests of the parties, they can simply walk, litigate or agree to arbitrate, participate in the arbitrator and site selection and arbitration rules. As a condition of employment or of being in a system, arbitration as the first and last hope for the right to appeal an action robs both parties of an equal opportunity for open and frank discussion with each other and at minimum cost. No one goes away the winner or the looser. Parties collaborate on the settlement agreement (or there is none) and strengthen their business relation. Give thought to this system for conflict management at the time of the disclosure discussion - the franchisee is more comfortable with a straightforward approach to conflict early in the busness relation rather than waiting until conflict develops - the OR draws a line in the sand and new EE is fearful of reprisal. Consider the end goal of conflict management: win and get attorneys fees at all costs or enrich the EE relationship so all can back to making money.

Carol Cross

August 30, 2009 1:08 PM

What is wrong with a law that would permit the parties to decide AFTER a dispute arises whether or not to go to court or into arbitration to solve the dispute?

The International Franchise Association (IFA) is obviously adamantly opposed to this reasonable solution to the injustice of mandated arbitration terms in unbargained franchise agreements because it would or could upset the balance of power between the franchisor and the franchisee.

Under current law and process, founding franchisees are merely expendable resources who can, when necessary, under cover of government regulation be churned to sustain and grow the profits of franchisors.

The stacked deck for the franchisors that is provided under the current status quo of regulation as well as the franchise contract standard terms that insolate franchisors from fraud claims might be threatened if franchisees could go directly to the
courts.

Many of the experts in franchising who advocate for franchisees indicate that franchising was regulated to begin with to protect the franchisors from charges of fraud in the presale process.

Mandated arbitration in franchise agreements, because of Supreme Court decisions, is favored under current law. The Supreme Court has already decided that when the mandated arbitration term is constitutional, the arbitrators have the final duty to determine whether or not there is "fraudulent inducement to contract."

Of course, the IFA and the other special interests who benefit from franchising want no changes in the law or a new deck of cards.

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What's it like to run your own company today? Entrepreneurs face multiple hurdles new and old, from raising capital and managing employees to keeping up with technology and competing in a global marketplace. In this blog, the Small Business channel's John Tozzi and Nick Leiber discuss the news, trends, and ideas that matter to small business owners. Follow them on Twitter @newentrepreneur.

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