Choice Hotels International v. Madison Three involves an all-too-common scenario: The franchisee ("Madison") believed that its franchisor ("Choice") was not living up to its end of the bargain. Choice had acquired competing hotel brands to which – according to Madison – it was devoting a disproportionate amount of attention and company funds. Madison also complained about Choice's seemingly arbitrary quality inspection procedures and ineffective advance reservations system. Dissatisfied with Choice's performance overall, Madison decided unilaterally to stop paying the franchise, advertising and reservation fees which were required under its franchise agreement. 

Choice terminated the franchise agreement and brought suit to compel Madison to pay the accrued fees. Madison alleged, in response, that Choice had breached the contract first in failing to live up to its end of the bargain. Madison also asserted that Choice had fraudulently induced Madison into signing the settlement agreement with promises of increased future advertising. 

Here, Madison's first critical mistake was in failing to abide by the franchise agreement's requirements for providing Choice notice of the breach. This provision is very common in franchise agreements: When one party believes that the other party had breached the contract, the nonbreaching entity must provide the other with formal written notice of the purported breach. The written notice triggers a short grace period during which the breaching party may "cure" the default before the contract can be terminated. This is true, regardless of whether the perceived default was based upon insufficient advertising, arbitrary quality inspection scores, ineffective advance reservations systems, or any other basis. 

Madison never provided the required written notice. Instead, Madison stopped paying its fees and subsequently raised Choice's alleged breach as a defense to its royalty strike. Nevertheless, Madison's noncompliance with the contract's notice requirement severely undermined the credibility of, and ultimately defeated its only defense to the breach of nonpayment. In the absence of a viable defense, the court found that Madison was bound by its fee obligations. Depending upon the outcome of a trial as to the amount, the court was prepared to award Choice a potentially large sum of damages for lost profits. 

A brief warning is in order about nonpayment of any fees required under your franchise agreement. At first, withholding these payments may seem like a very effective way of handling the problem. In the long run, however, withholding any fees which your franchise agreement requires is a very risky strategy because, if it fails, the franchisee is subject to severe financial penalties. This is particularly so with regard to royalties, or the fees you pay to use the franchisor's trademarks. 

It is often difficult to know how to handle these situations when they arise. Nevertheless, a franchisee should obtain competent legal advice at the earliest possible opportunity when faced with a franchisor which is not providing the services promised in the agreement. Do not take matters into your own hands by embarking on a royalty strike. Continue to pay your royalty, marketing and other fees while you take legal action so that the franchisor cannot allege that you have breached the agreement. Protect the substantial investment which you have made in your franchise license.