Tuesday, May 23, 2006, 5:18 PM

Seventh Circuit Rules on "Community of Interests" Under Wisconsin Fair Dealership Law

Authored by: Jason Hicks
Like other state franchising laws, the Wisconsin Fair Dealership Law (WFDL) applies to agreements by which a person is granted the right to sell or distribute goods or services or use a trade name "in which there is a community of interest in the business of offering, selling or distributing goods or services." Wisc. Stat. 135.02(3)(a). If applicable, the WFDL prohibits the termination of any dealership agreement without good cause, notice, and an opportunity to cure. In Home Protective Services, Inc. v. ADT Security Services, Inc., 438 F.3d 716 (7th Cir. 2006), the Seventh Circuit affirmed the district court's decision that the WFDL did not apply to the "Authorized Dealer Agreement" between defendant ADT and plaintiff HPS because the parties did not share a "community of interests."

Relationship Between The Parties

ADT -- the leading alarm monitoring company in the US -- markets its products through internal sales and through its relationships with small dealers like HPS. HPS was an ADT dealer from 1996 to 2002 when its relationship with ADT was suddenly terminated. The Authorized Dealer Agreement contained exclusivity and non-compete provisions which prevented HPS from working with any ADT competitors unless ADT first rejected the customer's contract. HPS received a one-time payment of $800 for each customer contract it tendered, and HPS would then install the electronic security system (which bore the ADT logo and met ADT specifications). If the customer renewed the contract, HPS shared in the renewal income. If the customer cancelled or defaulted, HPS paid ADT an attrition chargeback. HPS was required to advertise itself exclusively as an ADT authorized dealer. During the relationship, HPS devoted 95% of its time and derived 95% of its revenues from its ADT business. It spent about 10% of its annual revenues ($32,000 per year) on ADT-specific direct mail advertising.

In 2002, following a corporate restructuring, ADT ended its relationship with 200 of its 700 Authorized Dealers, including HPS. As a result of the termination, HPS claimed that it incurred over $63,000 in one-time losses (including $10,000 worth of ADT promotional materials which it could no longer use) and over $14,000 in recurring monthly losses once it began a less profitable relationship with one of ADT's competitors. HPS sued ADT, alleging that ADT violated the WFDL without providing notice or an opportunity to cure. The district court granted summary judgment in favor of ADT, and the Seventh Circuit affirmed.

The 7th Circuit's Discussion Of The "Community Of Interests" Test (aka The "Over A Barrel" Test)

The Seventh Circuit began its discussion by noting that "there is no bright-line test for determining whether community of interests exists" but the "two primary guideposts" are "(1) continuing financial interest and (2) interdependence, which must be great enough to threaten the financial health of the dealer if the grantor exercises its power to terminate."

Wisconsin courts have identified a long list of factors to consider, which can be "distilled into two highly important questions": "(1) the percentage of revenues and profits the alleged dealer derives from the grantor and (2) the amount of time and money an alleged dealer has sunk into the relationship."

"The ultimate question," explained the court, "is whether the grantor has the alleged dealer 'over a barrel' -- that is, whether it has such great economic power over the dealer that the dealer will be unable to negotiate with the grantor or comparison-shop with other grantors."

Although it was undisputed that HPS derived 95% of its revenue and devoted 95% of its personnel hours to its arrangement with ADT, the court found that "because [HPS] could and did find another grantor to work with, it was not 'over a barrel.'" Although the new relationship was not as profitable, the WFDL provides no protection from that kind of sustainable economic harm. As for HPS's lost investments, the court pointed out that the funds HPS invested in marketing the ADT name over the years may well have been recouped via increased sales during that time, "and the $10,000 in unusable ADT promotional materials it currently has on hand is not sufficient to render it 'over a barrel.'" Lastly, the court noted that HPS was not left with unsaleable inventory or unusable buildings as a fast food franchisor might be.

Since there was no community of interests between the parties, the protections of the WFDL did not apply and the judgment of the district court was affirmed.

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