Advertising Fund Issues

September 2003

Excerpted and updated in September 2003 from a presentation by Carmen D. Caruso to the Association of Trial Lawyers of America (ATLA) in a “Litigation at Sunrise” program during their annual meeting in Chicago, July, 2000.

What duties does the franchisor owe the franchisees when it collects advertising funds from each franchisee for system-wide marketing campaigns? In 1997, in Broussard v. Meineke Discount Muffler Shops, Inc., a class of franchisees alleged that they were defrauded by Meineke concerning an advertising fund that each franchisee was required to contribute. The class of franchisee plaintiffs proved that Meineke had a contractual duty to purchase and place advertising in exchange for their advertising fees; and that the franchisor not only committed civil fraud, but also breached fiduciary duties and committed other torts when it created a wholly-owned subsidiary "New Horizons to perform these tasks and took additional fees and commissions from the Weekly Advertising Account (WAC), negotiated volume discounts for advertising and took those discounts for itself, purchased superfluous advertising so fees could be charged against the fund, and used the WAC funds for other improper purposes such as settling a lawsuit, paying some of [the franchisor's] business expenses and using WAC funds to advertise to attract franchisees (as opposed to generating business for existing franchisees).

The Meineke jury returned a verdict in favor of the franchisees that was trebled to $590,869,788.00, plus interest. Meineke was the largest reported verdict in favor of franchisees, but this large verdict was based on the application of largely settled legal principles to the facts of that case. What made the difference in Meineke was the old adage that there is strength in numbers. The Meineke franchisees formed a not-for-profit trade association that funded the plaintiffs' case, and therefore, they could pursue the discovery, which unearthed the evidence of wrongdoing that led to the verdict. The Fourth Circuit Court of Appeals reversed, primarily because the class had been improperly certified, and because of an improper instruction that Meineke owed the franchisees a fiduciary duty. Nonetheless, the fact allegations were proven and never refuted. It is this author's opinion that the franchisees could probably have prevailed under a good faith claim (with proper class certification).

NOTE: At the time of this article in 2000, alleging that a franchisor owed "fiduciary duties" appeared to be a dead end for franchisees. However, in recent years, courts have been more willing to find that the franchisor does owe a fiduciary duty to the franchisee in limited circumstances, such as where the franchisors essentially acts as a "trustee" for monies collected on behalf of the franchisees, or otherwise acts as the franchisee's "agent."