FRANCHISOR 101: Not at Liberty to Compete

Lewitt HackmanA federal district court in Michigan granted a preliminary injunction in favor of tax preparation franchisor, Liberty Tax Service (JTH Tax, Inc. v. Magnotte, E.D. Mich., ¶16,575), finding it was likely to succeed on its breach of contract claims against a former franchise.

There were several franchise agreements. Each had a two-year post-term covenant not to compete within 25-miles of the franchisee’s territory. The relationship soured and the franchisor terminated the agreements. Ignoring the post-term obligations, the former franchisee continued operating a tax preparation business, from the same location, but used a new name. They continued using the franchisor’s client lists and operating manual. The franchisor sued to enforce the non-compete covenants.

The court granted a preliminary injunction against the former franchisee. The court found the franchisor was likely to succeed on its breach of contract claim and the damage, such as loss of customer goodwill, lost profits, and loss of competitive advantage, was irreparable. The court found the franchisor was suffering actual harm, and the injuries were irreparable because loss of customer goodwill is difficult to quantify and not fully compensable by money damages. The franchisor’s injuries were likely to worsen absent immediate injunctive relief. Two more injunctive relief factors—harm to others and public interest—also favored a preliminary injunction. The court ordered the former franchisee to transfer phone numbers, return all confidential materials, and enjoined them from using any confidential information obtained from the franchisor in any future tax preparation business.

A franchisor’s use of a well-written, reasonable non-compete provision in its franchise agreement can be a useful tool in preventing former franchisees from starting a competing business after they leave the franchise system. Non-compete clauses are sensitive because courts are reluctant to restrict someone from working to earn a living. Franchisors should consult with franchise counsel to review their non-compete language to make sure it is well drafted and improve the chances it will be enforceable.

JTH Tax, Inc. v. Magnotte, E.D. Mich., ¶16,575

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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