Good drafting and forthright disclosures help a seller of Wendy’s franchises overcome post-sale litigation claims
In non-breaking news: making adequate disclosures in purchase agreements continues to matter. In a recent opinion stemming from a lawsuit for breach of contract and related claims, the United States Sixth Circuit Court of Appeals affirmed the district court’s award of summary judgment in favor of the defendants, former Wendy’s franchisees, who were sued by ultimate purchaser of the their assets claiming that the lower court erred by holding that the plaintiffs—as assignees of under the purchase agreement—stand in the shoes of the assignor for purposes of pressing those claims. Burger Management Systems of Washington Inc., et al., v. Seawend, Ltd., et al., Case No. 24-3148, 2024 WL4987353 (6th Cir., December 5, 2024).
The case involves a contract for the sale of a 52 Wendy’s restaurant franchises in and around Seattle, Washington. The defendants, Seawend, Ltd. and certain contract guarantors (collectively Seawend), entered into an asset purchase agreement (APA) with Wendy’s Properties LLC (Wendy’s). However, right before the sale closed, Wendy’s assigned its rights under the APA to Burger Management Systems Washington Inc. and SMS Holdings Corporation (collectively Burger). The underlying issue arises from the notice of condemnation by Seattle’s municipal transit authority, Sound Transit, who wanted to acquire certain real property for the extension of its light rail system at a single location – Site #1553. This location was a property that Seawend was leasing from property-owner, Wendy’s.
Among other things, the APA contained a representations and warranties provision relating to “Litigation and Other Actions.” In that section, Seawend represented that, to its knowledge, there were no threatened actions arising out of or related to the Seller’s business, the ownership or use of the assets or the transactions contemplated by the APA, except as were set forth on a schedule to the APA. On such schedule, Seawend identified several items, including the following reference: “Site #1553 – Possible condemnation (SWL #109 – Address: 2216 South 320th Street, Federal Way, WA).” Moreover, in a separate provision in the APA, Seawend confirmed that it had not received, among other things, any written notice of any pending or threatened condemnations.
In short, Seawend disclosed in the APA that it knew of a “possible condemnation” at Site #1553, but that it was unaware of, and had not received any, written notice of any pending or threatened condemnation. The following timeline is relevant to the events at issue in the litigation:
- March 17, 2017: Seawend and Wendy’s execute the APA.
- March 19, 2017: Wendy’s attorney requested the condemnation notice for Site #1553. Seawend’s counsel responded that all of Seawend’s understanding about the potential condemnation were verbal communications.
- April 11, 2017: Sound Transit sent a letter to Wendy’s (as the Site #1553 owner) giving Wendy’s notice of a possible condemnation and that that it would be conducting a public meeting on April 27, 2017.
- April 17, 2027: Wendy’s received the Sound Transit letter. Seawend did not receive a copy.
- April 19, 2017: Sound Transit sent a letter to a Seawend employee requesting permission to enter Site #1553 to collect information. Neither Wendy’s nor Seawend amended the APA to add any of this information.
- April 28, 2017: Burger’s counsel told Seawend’s counsel that he “would like to see any communications regarding the condemnation threat.” Seawend’s counsel accurately responded that no written notice had been received by Seawend.
- May 5, 2017: Wendy’s and Burger entered into an assignment agreement whereby Wendy’s assigned its rights and obligations under the pending APA to Burger. Seawend was not a party to that assignment agreement.
- May 8, 2017: Seawend and Wendy’s formally closed on the APA. Burger was not a party to the APA.
Shortly after closing on the APA, Burger learned that Sound Transit intended to conduct a full taking of the Site #1553 property. Burger continued to operate Site #1553 from May 2017 through May 2020 when Wendy’s voluntarily sold the Site #1553 property to Sound Transit. From the closing of the APA through May 2020, Burger received over a combined $2 million from operating profit and payments from Wendy’s on account of its operation of Site #1553 and also received a new replacement franchise from Wendy’s that was near Site #1553.
Nevertheless, believing it had been damaged in an amount greater than $2 million, an unsatisfied Burger sued Seawend in the United States District Court for the Southern District of Ohio, claiming Seawend had concealed the eventual condemnation by failing to provide documents or name the condemner. The complaint included six claims: (1) breach of contract, (2) breach of guarantee, (3) fraudulent inducement, (4) fraudulent or negligent misrepresentation, (5) unjust enrichment, and (6) civil conspiracy. The District Court granted summary judgment in favor of Seawend on all counts. Burger appealed.
As a threshold matter in the appeal, the Sixth Circuit determined that under Ohio law, Burger, as an assignee, has no greater rights than Wendy’s, as assignor, and that the assignor’s knowledge is imputed to the assignee. The Sixth Circuit determined that Burger could prevail on its claims only if Wendy’s could prevail on the same claims.
The Sixth Circuit affirmed the lower court’s decision in favor of Seawend on the breach of contract claim because a defendant cannot breach a contract by failing to disclose facts already known to the plaintiff. And Burger, as assignee, was imputed with the same knowledge of the facts as Wendy’s. As such, the court found that Wendy’s could not have prevailed on such claim because Wendy’s knew about Sound Transit’s plans for condemnation. Burger argued that Seawend’s disclosure in the APA schedule was insufficient because it did not name Sound Transit as the condemning party or reveal the prior condemnation inquiries from Sound Transit. However, the Sixth Circuit concluded that Burger failed to explain how Seawend’s disclosure of a “possible condemnation” – despite being somewhat vague – did not give Wendy’s (and therefore Burger) sufficient notice that Site #1553 was subject to foreseeable condemnation, or how more detailed information would have caused Wendy’s (or Burger) to change its conduct. The Sixth Circuit also emphasized that Burger failed to acknowledge or explain that Wendy’s had far better information than Seawend, given that Sound Transit sent the notification letter directly to Wendy’s, while Seawend had no information suggesting that condemnation was probable (as opposed to being merely possible). The court dismissed the breach of guarantee claim on the grounds that such claim depended on, or was functionally the same as, the breach of contract claim.
The Sixth Circuit held that Burger’s fraudulent inducement claim failed because Wendy’s had known about the condemnation. As such, the court determined that Seawend could not have fraudulently induced Wendy’s into entering the APA by concealing the condemnation; nor could Burger show that Wendy’s justifiably relied on any fraudulent misrepresentation by Seawend.
The Sixth Circuit also denied Burger’s fraudulent misrepresentation claim, which Burger tried to differentiate from its other claims by arguing that Seawend made “fraudulent misrepresentations directed to” Burger, for two reasons. First, because the evidence showed that the documents Seawend had in its possession communicated only a possibility of condemnation (which Seawend communicated to Burger) and that Burger did not show that any withheld information was material (since materiality is an element of fraudulent misrepresentation). Second, Burger failed to demonstrate that Seawend intended to mislead it (which is also a necessary element of fraudulent misrepresentation) because nothing in the record suggested that either Seawend or its counsel knowingly made false representations in response to Burger’s inquiries.
The Sixth Circuit also rejected Burger’s unjust-enrichment claim due to the existence of the APA and the absence of any fraud, illegality, or bad faith in the formation of that contract. And, finally, the court found that Burger’s civil-conspiracy claim failed due to the absence of any “unlawful act” by Seawend.
All told, the Sixth Circuit’s across-the-board denial of Burger’s claims against Seawend reaffirms the importance of the reps and warranties section in an asset purchase agreement, which is often a painful undertaking for lawyers to draft and for clients to review and validate. Here, proper drafting and forthright disclosures by Seawend and its attorneys during both the diligence period and at the closing were exceedingly important to the outcome and proved to be key factors in Seawend’s victory on summary judgment.
