My Pie International, Inc., Cross-Appellant v. Debould, Inc., Dowmont, Inc., Arnold Germain and Judith Germain, Cross-Appellees

687 F.2d 919, 220 U.S.P.Q. (BNA) 398, 1982 U.S. App. LEXIS 16537

• Court: Court of Appeals for the Seventh Circuit
• Decided: August 17, 1982
• Docket: 81-2418, 81-2443 and 81-2583
• Status: Published

Opinions

POSNER, Circuit Judge.

The plaintiff in these consolidated actions, My Pie International, Inc., is an Illinois corporation that has franchised a total of 13 restaurants throughout the country. The restaurants sell mainly pizza. Each restaurant operates under the name “My [Greek letter pi],” the plaintiff’s trademark. The individual defendants are two residents of Illinois who own the corporate defendants, Dowmont, Inc. and Debould, Inc., each of which is a former My Pie franchisee. Dowmont owns a restaurant located in Glen Ellyn, Illinois, a suburb of Chicago. Dowmont operated this restaurant under a My Pie franchise between July 1976 and May 1980, and since then has operated it under the name Arnold’s. Debould owned a restaurant in Boulder, Colorado that operated under a My Pie franchise from October 1977 until August 1980 and thereafter (until sold) under the Arnold’s name. My Pie brought this suit to recover royalties under and damages for breach of the franchise agreement and also damages for trademark infringement and theft of trade secrets after the termination of the franchises. The defendants counterclaimed for the royalties they had paid My Pie under the franchise agreements. Federal jurisdiction of the suit is conferred by My Pie’s trademark infringement claim, based on the Lanham Act, 15 U.S.C. §§ 1114(1), 1125(a). All of My Pie’s other claims, and the counterclaims, are pendent or ancillary claims based on Illinois law. The district court, after a bench trial, dismissed all of My Pie’s claims except for royalties, and also dismissed the defendants’ counterclaims. The case is before us on the parties’ cross-appeals.

Whenever a franchise relationship is terminated and the franchisee decides to carry on the business in the same place, he must discontinue using his exfranchisor’s trademarks and trade secrets. My Pie’s only trademark is the name “My [pi].” Although the defendants stopped using it when their franchises were terminated, and switched to the name “Arnold’s,” My Pie contends that the defendants retained so many of the distinctive features of the My Pie operation that patrons of Arnold’s were likely to think that it was still a My Pie franchise — features such as Tiffany-style lamps and a distinctive fireplace and the slogan “unique pizza in the pan.” The district court found that these were not distinctive features and that patrons would not be misled. These are findings of fact that we may not set aside unless clearly erroneous. See Fed.R.Civ.P. 52(a). Because My Pie evidently misunderstands the standard of review, and except for a perfunctory obeisance to the clearly-erroneous standard takes issue with the district court’s factfindings as erroneous rather than clearly so, most of its argument to us is simply misdirected.

The district court also found as a fact that the defendants had not stolen any of My Pie’s trade secrets. Again My Pie makes little effort to show that this finding is not just erroneous but clearly so; again the only issues are factual, and of limited interest. We shall not fill up the pages of the Federal Reporter discussing such questions as whether the ratio of yeast to flour in Arnold’s pizza dough was stolen from My Pie or taken out of a cookbook. It is enough to record our conclusion that none of the district court’s findings of fact with respect to My Pie’s trademark and trade secret claims is clearly erroneous; having done so, we turn to the pretermination issues.

The defendants argue that the franchise agreements were void under Illinois’ Franchise Disclosure Act, Ill.Rev.Stat.1981, ch. 121¼, §§ 701 et seq. Although this statute has been on the books for more than eight years there has been virtually no judicial interpretation of it, and we must guess how the Illinois courts would resolve several novel questions under the Act.

Modeled loosely on the new-issue provisions of federal securities and state blue-sky laws and closely on franchise-disclosure statutes in several other states, the Act seeks to prevent fraudulent and unsound franchise promotions in Illinois by requiring the franchisor to give prospective franchisees extensive and verified written information, in the format prescribed in section 5 of the Act, on the background and resources of the franchisor and its principals, the terms of the franchise relationship, and the franchisor’s prospects. See section 2; Rudnick & Ginsburg, The Illinois Franchise Disclosure Act, 62 Ill.Bar.J. 256 (1974). Section 4(2) of the Act makes it unlawful to sell a franchise without providing the prospective franchisee with a copy of the disclosure statement specified in section 5 at least seven days prior to the execution of a binding franchise or the receipt by the franchisor of “any consideration,” whichever comes first. Any sale of a franchise in violation of the Act is voidable at the election of the franchisee, provided that notice of election to rescind is given by the franchisee to the franchisor within 90 days of the franchisee’s first learning of a violation of the Act. §§ 21(2)(a), (b).

Dowmont and Debould first received the required disclosure statement from My Pie on November 30,1977. This was more than two years after Dowmont had executed its franchise agreement with My Pie. It was also six weeks after Debould had begun doing business as a My Pie franchisee. And though it was more than seven days before Debould’s franchise agreement with My Pie was executed, Debould had already paid two invoices for supplies furnished it by My Pie, including menus and employee T-shirts bearing My Pie’s trademark; if these payments were “consideration” within the meaning of section 4(2), My Pie’s failure to give Debould a copy of the disclosure statement at least seven days before the payments were made was a violation of the Act.

We think they were consideration even though they were not a fee for the franchise itself. “Franchise fee” is a term of art carefully defined and frequently invoked in the Act. See sections 3(14), 4.2, 5(10), 5(11), 11. If the draftsmen had meant the running of the seven-day period in section 4(2) to be triggered only by the payment of franchise fees and not by consideration more broadly conceived, probably they would have used the term franchise fee. But more important than this textual point is the fact that franchisors often derive an important part of their franchise income from the sale of incidental supplies to the franchisees. The objective of the Franchise Disclosure Act — to protect uninformed franchisees — would be seriously undermined if the franchisor could collect income in this form from its franchisees indefinitely, without complying with the statutory disclosure requirement, simply by not executing written franchise agreements. We think therefore that the idea behind the reference to consideration in section 4(2) must be that the receipt of franchise-related income by the franchisor is sufficient evidence of a franchise relationship to trigger the statutory disclosure requirement.

My Pie argues in the alternative that it did not have to give Debould a disclosure statement because Debould was merely taking over an existing franchise. We need not consider whether the Act applies to a transfer. There had indeed been another franchisee at the location but there is no evidence that Debould received a copy of that franchisee’s disclosure statement, and in any event My Pie purported to sell Debould a new franchise rather than transfer an existing one.

We conclude that My Pie violated the Franchise Disclosure Act with respect to both franchisees, who therefore were entitled to rescind the franchises. But we have still to consider whether they did so within the statutory time limit. Both Dowmont and Debould gave My Pie notice of their election to rescind on February 22, 1980, which was more than 90 days — indeed more than two years — after the alleged violations occurred. They say they did not know about the violations until a conference with their attorney on January 11,1980, and if so they were within the statutory period for the election even if their attorney knew earlier. See Brenkman v. Belmont Marketing, Inc., 87 Ill.App.3d 1060, 1065, 43 Ill.Dec. 500, 504, 410 N.E.2d 500, 504 (1980). While My Pie is skeptical of this assertion in light of the history of My Pie’s relationship with Dowmont and its principals (about which more presently), My Pie has not proved that the defendants had earlier knowledge of the violations and in its briefs in this court seems willing to assume they did not. Hence the defendants were entitled to rescind the franchises unless they either waived their rights under or are estopped to plead the Franchise Disclosure Act by virtue of certain events in 1975.

On April 4 of that year Dowmont had signed a lease for premises located in Westmont, Illinois, intending to operate a My Pie franchise there. My Pie had not yet registered under the Franchise Disclosure Act and therefore could not lawfully franchise Dowmont. But section 12 of the Act authorizes the Attorney General of Illinois (see section 3(20)) to exempt particular franchise agreements from its requirements on various grounds, including the limited scope of the franchisor’s offering; and on April 17 Dowmont applied for an exemption. Using language supplied to it by My Pie, Dowmont stated in the application that it had reviewed the financial statement of My Pie’s franchisee in Tulsa, Oklahoma, that it was “satisfied with the information already received from My Pie” and “able to bear the full economic rish [sic] of loss of this investment,” and that “the receipt of a franchise disclosure statement would not provide the undersigned with any information which has not already been received.”

The exemption was granted on May 1, in an order stating that it would expire on December 31, 1975, and that it was “limited to the transaction identified herein,” i.e., the sale of a My Pie franchise to be operated in Westmont. The order also stated that “additional solicitations of sales of My Pie franchises must either fall within additional exemptions of The Franchise Disclosure Act or My Pie must otherwise comply with the Act.”

There is no contention that the order exempted either Dowmont’s franchise in Glen Ellyn (the Westmont project having fallen through), or Debould’s franchise in Boulder, from the requirements of the Franchise Disclosure Act. But the district court held that by disclaiming any wish to have the statutory disclosure statement Dowmont (and by virtue of its common ownership with Debould, Debould as well) had waived its rights under the Act.

My Pie does not defend this holding, and could not in light of section 36 of the Act, which provides that “any condition, stipulation or provisions purporting to bind any person acquiring any franchise to waive compliance with any provision of this Act is void.” This provision, especially when read in conjunction with the May 1 order itself, which as we have noted granted an exemption only to the end of 1975 and only for the Westmont project, eliminates any basis for arguing that the defendants waived their rights under a statute whose purpose is to protect prospective franchisees from the consequences of their ignorance by requiring franchisors to give them detailed written information. That purpose would be subverted if the franchisor could get a permanent exemption from the Act by inducing a prospective franchisee to obtain a limited exemption, especially in a case such as this where the exemption was based on the limited scope of the franchisor’s offering rather than on a judgment by the Attorney General that the franchisees had all the information they needed without getting a disclosure statement. An express written waiver of the defendants’ rights under the Act would have been ineffective; the weaker statement that they did not need the information that they would have received in the statutory disclosure statement cannot have any greater effect.

Rather than defending the district court’s holding that there was a waiver, My Pie argues that the defendants are estopped to plead the Act by the events surrounding the exemption proceeding. So far as we can tell this argument was first made on appeal, which is much too late. Rule 8(c) of the Federal Rules of Civil Procedure provides that, “In pleading to a preceding pleading, a party shall set forth affirmatively ... estoppel,” and My Pie failed to do so here. Since Illinois law contains the same requirement, see Ill.Rev.Stat.1981, ch. 110, § 2-613(d); Hartford Accident & Indem. Co. v. D.F. Bast, Inc., 56 Ill.App.3d 960, 962, 14 Ill.Dec. 550, 372 N.E.2d 829, 832 (1978), we need not consider whether, under the doctrine of Erie R.R. v. Tompkins, 304 U.S. 64, 58 S.Ct. 817, 82 L.Ed. 1188 (1938), this pleading requirement expresses a substantive state policy (reluctance to allow legal rights to be nullified by equitable defenses) that would be binding on a federal court in a suit under state law even if the Federal Rules of Civil Procedure did not impose the same requirement.

Even if estoppel had been pleaded, My Pie would have a further threshold to cross: it would have to convince us that the defense of estoppel is available in a Franchise Disclosure Act case. A case from North Dakota, Peck of Chehalis, Inc. v. C. K. of Western America, Inc., 304 N.W.2d 91, 98-100 (N.D.1981), holds that estoppel is a defense to an action for rescission under North Dakota’s counterpart to the Illinois Franchise Disclosure Act. But the court thought it significant that North Dakota’s act merely authorized an action for rescission and did not, as Illinois’ act does, make a noncomplying franchise sale voidable. See id. at 98-99; see also Country Kitchen of Mount Vernon, Inc. v. Country Kitchen of Western America, Inc., 293 N.W.2d 118 (N.D.1980). And Chase Manhattan Bank, N.A. v. Clusiau Sales & Rental, Inc., 308 N.W.2d 490, 494 (Minn.1981), implies, contrary to the North Dakota cases, that there is no defense of estoppel even if the franchise disclosure statute does not make a noncomplying franchise sale voidable.

In any event the factual basis for an estoppel under Illinois law has not been made out in this case. An estoppel requires conduct or a representation that induces good-faith detrimental reliance. See, e.g., Terracom Dev. Group, Inc. v. Coleman Cable & Wire Co., 50 Ill.App.3d 739, 747, 8 Ill.Dec. 642, 648, 365 N.E.2d 1028, 1034 (1977). Here that would mean that in applying for and receiving an exemption Dowmont had misled My Pie into thinking that it would never have to send Dowmont or Debould the disclosure statement required by the Act. The record does not contain an adequate factual basis for such a finding. It is not as if Dowmont had received a copy of the disclosure statement in connection with the .Westmont project. If it had, My Pie would not have been required to give Dowmont á second statement in connection with the Glen Ellyn franchise unless the statement had been amended in the interim. See section 12 of the Act. By applying -for an exemption Dowmont indicated, at most, that it was willing to wait till the end of the year, when the exemption would expire, to receive the required statement — not that it was willing to wait forever. The Westmont project, as we have said, fell through and Dowmont did not begin operating under the Glen Ellyn franchise until 1976. At that time it had no reason to think that My Pie was not subject to the requirements of the Franchise Disclosure Act, since the exemption had expired and had in any event been limited to Westmont.

Since the franchise agreements were voidable and voided, My Pie had no rights under them, see Brenkman v. Belmont Marketing, Inc., supra, 87 Ill.App.3d at 1065, 43 Ill.Dec. at 510, 410 N.E.2d at 505; Broverman v. City of Taylorville, 64 Ill.App.3d 522, 527, 21 Ill.Dec. 264, 267, 381 N.E.2d 373, 376 (1978), and hence cannot obtain royalties or damages based on the agreements. We therefore need not consider the other defenses (unconscionability, unreasonableness of restrictive covenants, and noncompliance with contractual conditions) that Dowmont and Debould have raised to My Pie’s suit. And we need not consider what rights, if any, My Pie might have under a theory of quantum meruit or unjust enrichment, analogous to the rights of a party to a contract that is unenforceable because it violates the Statute of Frauds. My Pie has not asserted any such rights; its pretermination claims are based exclusively on the franchise agreements that we have held are void.

All that remains to be considered is Debould’s counterclaim for the royalties that it paid My Pie before rescission. The district court held that both Debould’s counterclaim and Dowmont’s similar counterclaim were barred by the statute of limitations, but only Debould has appealed from that determination. Section 22 of the Franchise Disclosure Act provides that “no action shall be maintained to enforce any liability created under this Act unless brought before the expiration of 3 years after the act or transaction constituting the violation, the expiration of one year after the discovery of the fact constituting the violation or 90 days after delivery to the franchisee ... of a written notice disclosing the violation.” Debould’s counterclaim was filed on April 10, 1981, which was more than three years after the violation (the failure to furnish Debould with a timely disclosure statement) and more than one year after Debould’s discovery of the violation on January 11, 1980. But My Pie’s lawsuit in which the counterclaim was filed had been brought on August 18, 1980, within the three-year limitations period applicable to Debould’s claim; and Ill.Rev.Stat. ch. 83, § 17 (now ch. 110, § 13 — 207) allows a defendant to plead a time-barred counterclaim so long as the plaintiff’s cause of action was “owned” by the plaintiff before the expiration of the statute of limitations. My Pie’s cause of action for royalties must have been “owned” by My Pie before its suit to recover them was brought, i.e., before August 18, 1980.

There is, though, authority for the proposition that section 17 does not extend the time for filing a claim barred by a limitations period contained in the very statute creating the cause of action. The idea is that the expiration of such a period extinguishes the right, rather than just the remedy, so there is no claim for section 17 to work on. See cases cited in Wood Acceptance Co. v. King, 18 Ill.App.3d 149, 151-52, 309 N.E.2d 403, 404-05 (1974). This rather wooden reasoning was rejected in the Wood case, which held that a counterclaim under the Truth in Lending Act could be maintained under section 17 even though the one-year limitations period in the Act had run. The court was persuaded that since the Act was passed in the interest of the “unknowledgeable consumer,” 18 Ill.App.3d at 151, 309 N.E.2d at 405, Congress would have wanted him to have the benefit of section 17 if it had thought about the point. Persuasive or not, that reasoning carries over to the present case, perhaps with even greater force since the Franchise Disclosure Act is an Illinois rather than federal statute. The Act was passed in the interest of the unknowledgeable franchisee (the “beguiled franchisee,” the court called him in Brenkman, supra, 87 Ill.App.3d at 1065, 43 Ill.Dec. at 505, 410 N.E.2d at 505); and applying the reasoning of the Wood case we conclude that the legislature if it had adverted to the point would probably have decided that the franchisee should have the benefit of section 17 notwithstanding the inclusion of a limitations period in the Act. See also Helle v. Brush, 53 Ill.2d 405, 292 N.E.2d 372 (1973); National Blvd. Bank of Chicago v. Thompson, 85 Ill.App.3d 1145, 41 Ill.Dec. 241, 407 N.E.2d 739 (1980).

It is true that the general statute of limitations in Illinois that would apply to cases under the Franchise Disclosure Act if the Act did not have its own limitations period is five years, Ill.Rev.Stat. ch. 83, § 16 (now ch. 110, § 13-205). This suggests that the draftsmen of the Franchise Disclosure Act may have wanted a shorter than normal period, and among the rejected norms may have been that of section 17. But the same point could have been made in Wood, since the limitations period in the Truth in Lending Act was only one year; it was not made, and we cannot see how the court that decided Wood could have distinguished this case.

It follows that Debould’s counterclaim for the royalties it paid My Pie under a franchise agreement that Debould had rescinded was not time-barred and must be reinstated. Section 21(1) of the Franchise Disclosure Act authorizes damages actions for violations of the Act, and section 21(2) allows a rescinding franchisee to get back the “full amount paid” for the franchise. We need not decide whether or to what extent these sections authorize the recovery of royalties. The extent of Debould’s right to recover under its counterclaim is not discussed in the briefs in this court or in the opinion below, and we think it is an issue for the district court to consider, in the first instance at least, on remand.

The judgment of the district court is reversed insofar as it awards royalties to My Pie, dismisses Debould’s counterclaim, and orders the dismissal of a parallel action brought by Debould in state court; and is otherwise affirmed. The case is remanded to the district court for dismissal of My Pie’s complaint in its entirety and for further proceedings, consistent with this opinion, on Debould’s counterclaim. My Pie shall bear all costs in this court.

So Ordered.