Van Saders v. Franchoice, Inc.

Background

Stephen Van Saders, Jamie Van Saders, and BBJSC, Inc. moved to amend their complaint against Franchoice, Inc. and Scott Jones. The proposed amended complaint kept the existing factual allegations and common-law fraud claim. That claim alleged that defendants knowingly made false representations to induce plaintiffs to purchase an ILKB franchise, that plaintiffs reasonably relied on the information, and that plaintiffs suffered damages of at least $1,881,000.

The proposed amendment added Count V, a claim for punitive damages under Minnesota law. Plaintiffs alleged that defendants deliberately disregarded their rights by claiming that they investigated and vetted the franchises they offered, that the franchises were high quality, and that defendants would provide the information needed for an informed decision. Plaintiffs also alleged that defendants failed to investigate ILKB adequately, passed along unverified information, knew about illegal marketing techniques, disregarded franchisee complaints, and made specific false representations about the franchise.

Legal Standard

The parties agreed that Federal Rule of Civil Procedure 15, rather than Minnesota Statutes section 549.191, governed the request to amend. Rule 15 generally allows amendments when justice requires, but a court may deny an amendment if it would be futile. An amendment is futile when the proposed complaint could not survive a motion to dismiss for failure to state a claim.

The court applied the pleading standard requiring enough factual matter to make a claim plausible. Under Minnesota Statutes section 549.20, punitive damages require clear and convincing evidence that the defendant deliberately disregarded others’ rights or safety. At the pleading stage, plaintiffs had to allege facts plausibly showing that defendants knew of, or intentionally disregarded, facts creating a high probability of harm and nevertheless acted consciously, intentionally, or with indifference to that risk.

The court concluded that Rule 15 governed because it is a federal procedural rule addressing when pleadings may be amended. It also concluded that using Rule 15 did not violate the federal law governing the validity of the Federal Rules because Minnesota’s section 549.191 addresses the procedure for pleading punitive damages, while section 549.20 sets the substantive standard for obtaining them.

Analysis

The court found that the allegations about ILKB founder Michael Parrella’s earlier bankruptcy, unpaid federal taxes, and fraud-related adversary proceedings did not plausibly show that defendants knew those facts created a high probability that plaintiffs would be harmed by purchasing an ILKB franchise.

The court also found that allegations that defendants promised to offer only investigated franchises but failed to perform serious due diligence amounted, at most, to negligence or gross negligence. The court stated that negligence, including gross negligence, is not enough to support punitive damages. Allegations that defendants knew about illegal marketing techniques were too conclusory because plaintiffs did not identify the techniques. Allegations about disregarded complaints from other franchisees were also insufficient because the proposed complaint did not explain what the complaints involved or how they related to the alleged harm to plaintiffs.

The court reached a different conclusion about specific representations concerning ILKB’s financial performance and business model. Those representations included average annual revenues of $650,000, average annual profits of $132,000, monthly expenses of $25,000 to $35,000, the ability to resell undeveloped territories, startup costs and working capital, breaking even within three months, suitability for absentee ownership, a 20-hour monthly workload, and the claim that no ILKB studio had ever closed. Taking the allegations as true and viewing them favorably to plaintiffs, the court found that plaintiffs plausibly alleged defendants knowingly or indifferently provided inaccurate information to induce the franchise investment and thereby created a high probability of harm.

Disposition

The court granted in part and denied in part plaintiffs’ Motion to Amend Complaint. The amendment was allowed only to add a punitive-damages claim based on the specifically identified representations about ILKB’s revenues, profits, expenses, resale opportunities, startup costs, absentee ownership, required work hours, and studio closures. The motion was otherwise denied.

The court ordered plaintiffs to file an amended complaint consistent with the order by May 22, 2020, unless an appeal of the order was sought. It stated that allowing the amendment under Rule 15’s pleading standard did not imply that plaintiffs were likely to succeed on their punitive-damages claim.