El Pollo Loco Verdict Makes ‘New Law,’ Attorney Says
Author: Beth Ewen
Publication: Franchise Times
Posted on Uncategorized June 30, 2015
Can subpar customer surveys serve as a basis for termination of the franchise relationship? In HLT Existing Franchise Holding LLC v. Worcester Hospitality Group, LLC, the Second Circuit upheld a decision by HLT, a subsidiary of Hilton Worldwide, to terminate a franchisee based, in large part, on poor guest evaluations. HLT Existing Franchise Holding LLC v. Worcester Hospitality Group, LLC, 2015 WL 1566858, at *2 (2d Cir. Apr. 9, 2015).
Hilton used Service and Loyalty Tracking (“SALT”) surveys to evaluate franchisees as part of its quality assurance process. The SALT surveys, which were sent to guests after staying at a hotel, asked guests to rate the hotel on a scale from one to ten on items such as lobby appearance, helpfulness of the staff, cleanliness of the room, and overall experience. Hilton was permitted under the franchise agreement to conduct periodic inspections and use guest satisfaction surveys to ensure compliance with the franchise system. Further, Hilton had the right to terminate the subject franchise agreement if the franchisee failed to timely cure a default, and to terminate immediately for repeated non-compliance.
After Worcester Hospitality Group (“WHG”) received satisfactory quality assurance scores for several years, the franchisee began to receive failing evaluations due to low scores for “overall service” on the SALT surveys. Hilton gave multiple default notices, but WHG continued to receive unacceptable overall quality assurance scores, prompting Hilton to terminate the franchise agreement and file a lawsuit for past due and future fees due under the franchise agreement.
WHG challenged the use of the SALT surveys as a basis for termination. The district court entered summary judgment in favor of Hilton, finding that Hilton had the right to terminate WHG and the use of the SALT surveys did not violate the covenant of good faith and fair dealing. HLT Existing Franchise Holding LLC v. Worcester Hospitality Group LLC, 994 F. Supp. 2d 520, 536–40. In affirming the district court, the Second Circuit held that since Hilton terminated the franchise agreement “based on a contractually permitted, rational, and non-arbitrary factor—the poor guest survey scores—it did not breach the implied covenant of good faith and fair dealing or act arbitrarily or irrationally.” HLT Existing Franchise Holding LLC, 2015 WL 1566858, at *2.
The takeaway—a franchisor is permitted to use guest or customer surveys as a mechanism to evaluate and terminate franchisees, provided (i) the franchise agreement provides for such use and (ii) the use of surveys is not done in an arbitrary or capricious manner in violation of the implied covenant of good faith and fair dealing. Further, in states with franchise relationship statutes requiring “good cause” or “reasonable cause” prior to terminating a franchisee, a franchisor could use subpar customer surveys to clear this legal hurdle.