The Franchise Memorandum

A franchisor's adoption of an arbitration policy a month after lawsuits were commenced against it could not force franchisees to arbitrate prior to pursuing litigation, the United States Court of Appeals for the Seventh Circuit ruled last week. Druco Rests., Inc. v. Steak n Shake Enters., Inc., 2014 U.S. App. Lexis 16869 (7th Cir. Aug. 29, 2014). This case arose in the context of franchisee challenges to Steak n Shake's new pricing and promotion policy, which required adherence to company pricing on menu items as well as participation in promotions. After the franchisees filed suit in Indiana, Steak n Shake invoked franchise agreement language reserving the right for it to "institute at any time a system of nonbinding arbitration or mediation."

As the district court had done, the Seventh Circuit framed the issue as "whether there are valid agreements to arbitrate in the franchise contracts." Noting that federal and state law both favor arbitration in determining the scope of an agreement, the appellate court nevertheless found that the same standard does not apply in determining whether the parties ever agreed to arbitrate. In this case, the court ruled that at most the franchise agreement contained an "option" that only the franchisor could exercise to institute an arbitration program in the future. The court found the optional arbitration was "vague," "illusory," and "indefinite." Since there was no enforceable, valid agreement to arbitrate first, the franchisees could continue with their lawsuit.