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A recent case (Bans Pasta LLC v. Mirko Franchising LLC) began when franchisees claimed they were misled and induced into buying a franchise after being shown inaccurate financial documents which the franchisors claimed was a depiction of what they could expect to make in the business. As it turns out, the franchise did not do well financially. Plaintiffs filed a lawsuit, claiming they were improperly misled into buying the franchise. They attempted to rescind the agreement and sue for the alleged misrepresentations. When a court rescinds a contract it puts the contracting parties back into the same position as if they had never entered into a contract. In addition, the deceived party can sue for any damages caused by the misrepresentation.

An interesting issue arose as to whether Plaintiffs properly rescinded the franchise agreement, and if they had, whether the merger clause contained in the agreement was applicable to Plaintiffs’ claims of pre-contract misrepresentation, making those claims fail. The court decided that the Plaintiffs showed sufficient facts to plausibly show they rescinded the contract, and so Defendants’ motion to dismiss the misrepresentations claims was denied. The court further stated the discovery would be needed to decide whether Plaintiffs actually rescinded the contract. If in fact they had, the court decided that the merger clause contained within the contract that was rescinded would not apply and Plaintiffs could go forward with their misrepresentation claims.

The Franchise Agreement contained a number of important provisions, including a merger clause and a disclaimer clause. The merger clause stated “the written agreement supersedes all prior oral and written understandings and agreement between the parties” and that “[a]ny oral representations or modifications concerning this Agreement shall be of no force of effect unless . . . in writing.” Op. at 6 (quoting agreement). The disclaimer clause stated that “[t]he Franchisor expressly disclaims the making of, and Franchise Owner acknowledges that it has not received any warranty or guarantee, express or implied, as to the potential volume, profits or success of the business . . . .” Op. at 7.

This case (detailed below) shows that even when parties agree to a merger clause stating that no prior representation or warranties were given, a party can still sue and possibly recover as a result of misrepresentations that were given prior to signing the contract, in the event the party rescinds the contract making the merger clause inapplicable.

Bans Pasta LLC v. Mirko Franchising LLC

Mirko Franschising, LLC (“Mirko”) sells Italian restaurant franchises. Mirko Di Giacomantonio (“Giacomantonio”) is the CEO of Mirko and Archie Crenshaw is a manager of Mirko.

Bans Pasta is an LLC that purchased and operates a Mirko Franchise. Randy Sowden and Michael Boggins are the principals of Bans Pasta (“Principals”).

The Principals claimed they relied heavily on representations made by Giacomantonio and Crenshaw regarding the financial viability of the Mirko franchise when deciding whether to go into the business. One such misrepresentation was an excel spreadsheet consisting of financial assumptions to use as a basis for making financial projections. Giacomantonio told the Principals that it showed the average performance of a franchise. Crenshaw also provided the Principals with year-end financial statements of a Mirko franchise in Georgia. The Principals noticed unusual line items on the statements, and Crenshaw told them that certain expenses were included to reduce the franchise’s income tax obligations—that the actual value of the franchise was higher than shown on the statements. Crenshaw sent another document that, unknown to the Principals, inflated the franchise’s net profit and misrepresented figures related to the franchise’s gross revenue, food costs, and labor costs.

Giacomantonio assured the Principals that their franchise would net an annual profit of $100,000. The parties then entered into a franchise agreement.

After the Principals’ Bans Pasta location had been open for a few years and had not made as much money as anticipated, Mirko’s head executive chef visited the location. During his visit, he gave the Principals the new pricing and cost schedule and admitted to the Principals that the numbers presented in the previously-provided financial spreadsheets were incorrect as far as operating costs and stated that the Mirko model is “broken—we know it is broken.” Op. at 4 (internal citations omitted). Through this conversation, the Principals learned that Giacomantonio and Crenshaw had provided false and misleading representations to induce them to buy a franchise.

Bans Pasta sued claiming, inter alia, tort claims including fraud in the inducement, constructive fraud, and negligent misrepresentation (“the Misrepresentation Claims”), and sought to rescind the franchise agreement. The Principals claimed that the financial documents inaccurately conveyed the strength of existing Mirko franchises in order to convince the principals to buy one. Defendants responded by filing a motion to dismiss.

Plaintiffs argued that the merger clause in the franchise agreement did not bar its claims because of its rescission of the contract. They cited cases stating that a merger clause does not preclude a Plaintiffs’ reliance on prior oral and verbal representations where a Plaintiff elects to rescind a contract and sue in tort for fraud.

The court cited Georgia cases (per a choice of law provision) which stated that when a party affirms a contract, as opposed to rescinding it, and that contract contains a merger clause, that party cannot argue it relied upon representations other than those contained in the contract. “By contrast, where a party rescinds the contract, the merger clause is inapplicable and would not bar fraudulent inducement claims.” Op. at 17 (internal citations omitted).

So the issue then was whether Plaintiff properly rescinded the contract.

The court decided that Plaintiffs had showed sufficient facts to plausibly show they rescinded the contract. Plaintiffs claimed that as soon as they found out from the chef about the misrepresentations of Giacomantonio and Crenshaw, they “promptly notified Defendants of their unlawful conduct in an attempt to void and/or rescind the franchise relationship.” Op. at 19 (quoting Plaintiff’s Complaint). The court concluded that discovery was then necessary to determine whether Plaintiff actually rescinded the contract. If it is found that they did, then the merger clause contained in the contract will be held inapplicable and Plaintiffs will be allowed to go forward with their claims.

Click here for the full opinion – Bans Pasta LLC v. Mirko Franchising LLC