The Franchise Memorandum

In Doctor’s Associates, Inc. v. Edison Subs, LLC, 2014 U.S. Dist. LEXIS 371(D. Conn. Jan. 3, 2014), the United States District Court for the District of Connecticut denied Subway’s motion to compel arbitration of claims arising out of a franchise agreement that Edison assumed pursuant to an oral assignment agreement. Edison, the defendant, did not receive or review the written franchise agreement before assuming it. After being involuntarily ejected from the franchised business premises after two years of operation, Edison filed a complaint in state court alleging breach of contract and fraud in the inducement, among other claims. Subway filed a motion to enjoin the franchisee from proceeding in state court and to compel arbitration pursuant to the written franchise agreement Edison had assumed, but never signed.

The court observed that a signatory to an agreement may compel a nonsignatory to arbitrate using one of five theories: (1) incorporation by reference, (2) assumption, (3) agency, (4) veil piercing/alter ego, and (5) estoppel. In this case, estoppel was the only relevant concept. Under the estoppel theory, a nonsignatory that knowingly exploits an agreement with an arbitration clause may be estopped from avoiding arbitration. The court found that because Edison did not receive a copy of the written franchise agreement before it entered into the oral assignment, it did not knowingly exploit the benefits of the franchise contract. Instead, the benefits Edison received were from the alleged oral franchise agreement. As a result, Edison was not bound by the written agreement’s arbitration clause and could not be estopped from filing an action in state court. Subway’s motion to compel arbitration and enjoin the franchisee from proceeding in state court was denied.