ZAPATHA v. DAIRY MART, INC.

WILKINS, J.

We are concerned here with the question whether Dairy Mart, Inc. (Dairy Mart), lawfully undertook to terminate a franchise agreement under which the Zapathas operated a Dairy Mart store on Wilbraham Road in Springfield. The Zapathas brought this action seeking to enjoin the termination of the agreement, alleging that the contract provision purporting to authorize the termination of the franchise agreement without cause was unconscionable and that Dairy Mart's conduct was an unfair and deceptive act or practice in violation of G.L.c. 93A. The judge ruled that Dairy Mart did not act in good faith, that the termination provision was unconscionable, and that Dairy Mart's termination of the agreement without cause was an unfair and deceptive act. We granted Dairy Mart's application for direct appellate review of a judgment that stated that Dairy Mart could terminate the agreement only for good cause and that the attempted termination was null and void.2 We reverse the judgments.

Mr. Zapatha is a high school graduate who had attended college for one year and had also taken college evening courses in business administration and business law. From 1952 to May, 1973, he was employed by a company engaged in the business of electroplating. He rose through the ranks to foreman and then to the position of operations manager, at one time being in charge of all metal finishing in the plant with 150 people working under him. In May, 1973, he was discharged and began looking for other opportunities, in particular a business of his own. Several months later he met with a representative of Dairy Mart. Dairy Mart operates a chain of franchised "convenience" stores. The Dairy Mart representative told Mr. Zapatha that working for Dairy Mart was being in business for one's self and that such a business was very stable and secure. Mr. Zapatha signed an application to be considered for a franchise. In addition, he was presented with a brochure entitled "Here's a Chance," which made certain representations concerning the status of a franchise holder.3

Dairy Mart approved Mr. Zapatha's application and offered him a store in Agawam. On November 8, 1973, a representative of Dairy Mart showed him a form of franchise agreement, entitled Limited Franchise and License Agreement, asked him to read it, and explained that his wife would have to sign the agreement as well.

Under the terms of the agreement, Dairy Mart would license the Zapathas to operate a Dairy Mart store, using the Dairy Mart trademark and associated insignia, and utilizing Dairy Mart's "confidential" merchandising methods. Dairy Mart would furnish the store and the equipment and would pay rent and gas and electric bills as well as certain other costs of doing business. In return Dairy Mart would receive a franchise fee, computed as a percentage of the store's gross sales. The Zapathas would have to pay for the starting inventory, and maintain a minimum stock of saleable merchandise thereafter. They were also responsible for wages of employees, related taxes, and any sales taxes. The termination provision, which is set forth in full in the margin,4 allowed either party, after twelve months, to terminate the agreement without cause on ninety days' written notice. In the event of termination initiated by it without cause, Dairy Mart agreed to repurchase the saleable merchandise inventory at retail prices, less 20%.

The Dairy Mart representative read and explained the termination provision to Mr. Zapatha. Mr. Zapatha later testified that, while he understood every word in the provision, he had interpreted it to mean that Dairy Mart could terminate the agreement only for cause. The Dairy Mart representative advised Mr. Zapatha to take the agreement to an attorney and said, "I would prefer that you did." However, he also told Mr. Zapatha that the terms of the contract were not negotiable. The Zapathas signed the agreement without consulting an attorney. When the Zapathas took charge of the Agawam store, a representative of Dairy Mart worked with them to train them in Dairy Mart's methods of operation.

In 1974, another store became available on Wilbraham Road in Springfield, and the Zapathas elected to surrender the Agawam store. They executed a new franchise agreement, on an identical printed form, relating to the new location.

In November, 1977, Dairy Mart presented a new and more detailed form of "Independent Operator's Agreement" to the Zapathas for execution. Some of the terms were less favorable to the store operator than those of the earlier form of agreement.5 Mr. Zapatha told representatives of Dairy Mart that he was content with the existing contract and had decided not to sign the new agreement. On January 20, 1978, Dairy Mart gave written notice to the Zapathas that their contract was being terminated effective in ninety days. The termination notice stated that Dairy Mart "remains available to enter into discussions with you with respect to entering into a new Independent Operator's Agreement; however, there is no assurance that Dairy Mart will enter into a new Agreement with you, or even if entered into, what terms such Agreement will contain." The notice also indicated that Dairy Mart was prepared to purchase the Zapathas' saleable inventory.

The judge found that Dairy Mart terminated the agreement solely because the Zapathas refused to sign the new agreement. He further found that, but for this one act, Dairy Mart did not behave in an unconscionable manner, in bad faith, or in disregard of its representations. There is no evidence that the Zapathas undertook to discuss a compromise of the differences that led to the notice of termination.

On these basic facts, the judge ruled that the franchise agreement was subject to the sales article of the Uniform Commercial Code (G.L.c. 106, art. 2) and, even if it were not, the principles of unconscionability and good faith expressed in that article applied to the franchise agreement by analogy. He further ruled that (1) the termination provision of the agreement was unconscionable because it authorized termination without cause, (2) the termination without cause violated Dairy Mart's obligation of good faith, and (3) the termination constituted "an unfair method of competition and unfair and deceptive act within the meaning of G.L.c. 93A, § 2."

1. We consider first the question whether the franchise agreement involves a "transaction in goods" within the meaning of those words in art. 2 of the Uniform Commercial Code (G.L.c. 106, § 2-103, as appearing in St. 1957, c. 765, § 1), and that consequently the provisions of the sales articles of the Uniform Commercial Code govern the relationship between the parties. The Zapathas point specifically to the authority of a court to refuse to enforce "any clause of the contract" that the court finds "to have been unconscionable at the time it was made." G.L.c. 106, § 2-302, as appearing in St. 1957, c. 765, § 1.6 They point additionally to the obligation of good faith in the performance and enforcement of a contract imposed by G.L.c. 106, § 1-203, and to the specialized definition of "good faith" in the sales article as meaning "in the case of a merchant ... honesty in fact and the observance of reasonable commercial standards of fair dealing in the trade." G.L.c. 106, § 2-103(1) (b), as appearing in St. 1957, c. 765, § 1.7

We need not pause long over the question whether the franchise agreement and the relationship of the parties involved a transaction in goods. Certainly, the agreement required the plaintiffs to purchase goods from Dairy Mart. "Goods" for the purpose of the sales article means generally "all things ... which are movable." G.L.c. 106, § 2-105 (1), as appearing in St. 1957, c. 765, § 1. However, the franchise agreement dealt with many subjects unrelated to the sale of goods by Dairy Mart.8 About 70% of the goods the plaintiffs sold were not purchased from Dairy Mart. Dairy Mart's profit was intended to come from the franchise fee and not from the sale of items to its franchisees. Thus, the sale of goods by Dairy Mart to the Zapathas was, in a commercial sense, a minor aspect of the entire relationship.9 We would be disinclined to import automatically all the provisions of the sales article into a relationship involving a variety of subjects other than the sale of goods, merely because the contract dealt in part with the sale of goods. Similarly, we would not be inclined to apply the sales article only to aspects of the agreement that concerned goods. Different principles of law might then govern separate portions of the same agreement with possibly inconsistent and unsatisfactory consequences.

We view the legislative statements of policy concerning good faith and unconscionability as fairly applicable to all aspects of the franchise agreement, not by subjecting the franchise relationship to the provisions of the sales article but rather by applying the stated principles by analogy. See Commonwealth v. DeCotis, 366 Mass. 234, 242 (1974), quoted in note 12, infra. This basic common law approach, applied to statutory statements of policy, permits a selective application of those principles expressed in a statute that reasonably should govern situations to which the statute does not apply explicitly. See Note, Article Two of the Uniform Commercial Code and Franchise Distribution Agreements, 1969 Duke L.J. 959, 980-985.

2. We consider first the plaintiffs' argument that the termination clause of the franchise agreement, authorizing Dairy Mart to terminate the agreement without cause, on ninety days' notice, was unconscionable by the standards expressed in G.L.c. 106, § 2-302.10 The same standards are set forth in Restatement (Second) of Contracts § 234 (Tent. Drafts Nos. 1-7, 1973). The issue is one of law for the court, and the test is to be made as of the time the contract was made. G.L.c. 106, § 2-302 (1), and Comment 3 of the Official Comments. See W.L. May Co. v. Philco-Ford Corp., 273 Or. 701, 707 (1975). In measuring the unconscionability of the termination provision, the fact that the law imposes an obligation of good faith on Dairy Mart in its performance under the agreement should be weighed. See W.L. May Co. v. Philco-Ford Corp., supra at 709.

The official comment to § 2-302 states that "[t]he basic test is whether, in the light of the general commercial background and the commercial needs of the particular trade or case, the clauses involved are so one-sided as to be unconscionable under the circumstances existing at the time of the making of the contract.... The principle is one of prevention of oppression and unfair surprise ... and not of disturbance of allocation of risks because of superior bargaining power." Official Comment 1 to U.C.C. § 2-302.11 Unconscionability is not defined in the Code, nor do the views expressed in the official comment provide a precise definition. The annotation prepared by the Massachusetts Advisory Committee on the Code states that "[t]he section appears to be intended to carry equity practice into the sales filed." See 1 R. Anderson, Uniform Commercial Code § 2-302:7 (1970) to the same effect. This court has not had occasion to consider in any detail the meaning of the word "unconscionable" in § 2-302.12 Because there is no clear, all-purpose definition of "unconscionable," nor could there be, unconscionability must be determined on a case by case basis (see Commonwealth v. Gustafsson, 370 Mass. 181, 187 [1976]), giving particular attention to whether, at the time of the execution of the agreement, the contract provision could result in unfair surprise and was oppressive to the allegedly disadvantaged party.

We start with a recognition that the Uniform Commercial Code itself implies that a contract provision allowing termination without cause is not per se unconscionable. See Corenswet, Inc. v. Amana Refrigeration, Inc., 594 F.2d 129, 138 (5th Cir.1979) ("We seriously doubt, however, that public policy frowns on any and all contract clauses permitting termination without cause"); Division of Triple T. Serv., Inc. v. Mobil Oil Corp., 60 Misc.2d 720, 730 (Sup.Ct. 1969), aff'd 34 App. Div.2d 618 (N.Y. 1970). Section 2-309 (3) provides that "[t]ermination of a contract by one party except on the happening of an agreed event requires that reasonable notification be received by the other party and an agreement dispensing with notification is invalid if its operation would be unconscionable." G.L.c. 106, § 2-309, as appearing in St. 1957, c. 765, § 1. This language implies that termination of a sales contract without agreed "cause" is authorized by the Code, provided reasonable notice is given. See Rockwell Eng'r Co. v. Automatic Timing & Controls Co., 559 F.2d 460, 463 (7th Cir.1977); Aaron E. Levine & Co. v. Calkraft Paper Co., 429 F.Supp. 1039, 1049-1050 (E.D. Mich. 1976); Artman v. International Harvester Co., 355 F.Supp. 482, 490 (W.D. Pa. 1973); Weilersbacher v. Pittsburgh Brewing Co., 421 Pa. 118, 121 (1966). There is no suggestion that the ninety days' notice provided in the Dairy Mart franchise agreement was unreasonable.

We find no potential for unfair surprise to the Zapathas in the provision allowing termination without cause. We view the question of unfair surprise as focused on the circumstances under which the agreement was entered into.13 The termination provision was neither obscurely worded, nor buried in fine print in the contract. Contrast Williams v. Walker-Thomas Furniture Co., 350 F.2d 445, 449 (D.C. Cir.1965). The provision was specifically pointed out to Mr. Zapatha before it was signed; Mr. Zapatha testified that he thought the provision was "straightforward," and he declined the opportunity to take the agreement to a lawyer for advice. The Zapathas had ample opportunity to consider the agreement before they signed it.14 Significantly, the subject of loss of employment was paramount in Mr. Zapatha's mind. He testified that he had held responsible jobs in one company from 1952 to 1973, that he had lost his employment, and that he "was looking for something that had a certain amount of security; something that was stable and something I could call my own." We conclude that a person of Mr. Zapatha's business experience and education should not have been surprised by the termination provision and, if in fact he was, there was no element of unfairness in the inclusion of that provision in the agreement. See Fleischmann Distilling Corp. v. Distillers Co., 395 F.Supp. 221, 233 ("It is the exceptional commercial setting where a claim of unconscionability will be allowed"). Contrast Johnson v. Mobil Oil Corp., 415 F.Supp. 264, 268-269 (E.D. Mich. 1976) (illiterate service station operator incapable of reading dealer contract).

We further conclude that there was no oppression in the inclusion of a termination clause in the franchise agreement. We view the question of oppression as directed to the substantive fairness to the parties of permitting the termination provisions to operate as written. The Zapathas took over a going business on premises provided by Dairy Mart, using equipment furnished by Dairy Mart. As an investment, the Zapathas had only to purchase the inventory of goods to be sold but, as Dairy Mart concedes, on termination by it without cause Dairy Mart was obliged to repurchase all the Zapathas' saleable merchandise inventory, including items not purchased from Dairy Mart, at 80% of its retail value. There was no potential for forfeiture or loss of investment. There is no question here of a need for a reasonable time to recoup the franchisees' initial investment. See McGinnis Piano & Organ Co. v. Yamaha Int'l Corp., 480 F.2d 474, 480 (8th Cir.1973); Gellhorn, Limitations on Contract Termination Rights — Franchise Cancellations, 1967 Duke L.J. 465, 479-481. The Zapathas were entitled to their net profits through the entire term of the agreement. They failed to sustain their burden of showing that the agreement allocated the risks and benefits connected with termination in an unreasonably disproportionate way and that the termination provision was not reasonably related to legitimate commercial needs of Dairy Mart. See Gellhorn, supra at 512. See also Central Ohio Co-op Milk Producers, Inc. v. Rowland, 58 Ohio Op.2d 421, 423 (1972); W.L. May Co. v. Philco-Ford Corp., 273 Or. 701, 708 (1975). To find the termination clause oppressive merely because it did not require cause for termination would be to establish an unwarranted barrier to the use of termination at will clauses in contracts in this Commonwealth, where each party received the anticipated and bargained for consideration during the full term of the agreement.

3. We see no basis on the record for concluding that Dairy Mart did not act in good faith, as that term is defined in the sales article ("honesty in fact and the observance of reasonable commercial standards of fair dealing in the trade"). G.L.c. 106, § 2-103 (1) (b). There was no evidence that Dairy Mart failed to observe reasonable commercial standards of fair dealing in the trade in terminating the agreement. If there were such standards, there was no evidence of what they were.

The question then is whether there was evidence warranting a finding that Dairy Mart was not honest "in fact." The judge concluded that the absence of any commercial purpose for the termination other than the Zapathas' refusal to sign a new franchise agreement violated Dairy Mart's obligation of good faith. Dairy Mart's right to terminate was clear, and it exercised that right for a reason it openly disclosed. The sole test of "honesty in fact" is whether the person was honest. See Industrial Nat'l Bank v. Leo's Used Car Exch. Inc., 362 Mass. 797, 801 (1973). We think that, whether or not termination according to the terms of the franchise agreement may have been arbitrary, it was not dishonest.15

The judge concluded that bad faith was also manifested by Dairy Mart's introductory brochure, which made representations of "security, comfort, and independence." Although this brochure and Mr. Zapatha's mistaken understanding that Dairy Mart could terminate the agreement only for cause could not be relied on to vary the clear terms of the agreement, the introductory brochure is relevant to the question of good faith. However, although the brochure misstated a franchisee's status as the owner of his own business, it shows no lack of honesty in fact relating to the right of Dairy Mart to terminate the agreement. Furthermore, by the time the Zapathas executed the second agreement, and even the first agreement, they knew that they would operate the franchise, but that they would not own the assets used in the business (except the goods to be sold); that the franchise agreement could be terminated by them and, at least in some circumstances, by Dairy Mart; and that in fact the major investment of funds would be made by Dairy Mart. We conclude that the use of the brochure did not warrant a finding of an absence of "honesty in fact." See Corenswet, Inc. v. Amana Refrigeration, Inc., 594 F.2d 129, 138 (5th Cir.1979); Mason v. Farmers Ins. Cos., 281 N.W.2d 344, 347 (Minn. 1979).16

4. Although what we have said disposes of arguments based on application by analogy of provisions of the sales article of the Uniform Commercial Code, there remains the question whether the judge's conclusions may be supported by some general principle of law. The provisions of the Uniform Commercial Code with which we have dealt by analogy in this opinion may not have sufficient breadth to provide protection from conduct that has produced an unfair and burdensome result, contrary to the spirit of the bargain, against which the law reasonably should provide protection. See Restatement (Second) of Contracts § 231 (Tent. Drafts Nos. 1-7 1973); 3A A. Corbin, Contracts § 654A (1980 Supp.).17

The law of the Commonwealth recognizes that under some circumstances a party to a contract is not free to terminate it according to its terms. In Fortune v. National Cash Register Co., 373 Mass. 96, 104-105 (1977), we held that where an employer terminated an at will employment contract in order to deprive its employee of a portion of a commission due to him, the employer acted in bad faith. There, the employer correctly argued that termination of the employee was expressly permitted by the contract, and that all amounts payable under the terms of the contract at the time of termination had been paid. We concluded, however, that the law imposed an obligation of good faith on the employer and that the employer violated that obligation in terminating the relationship in order to avoid the payment of amounts earned, but not yet payable. The Legislature has limited the right of certain franchisors to terminate franchise agreements without cause.18 On the other hand, the Legislature has not adopted limitations on the right to terminate all franchise agreements in general, and its failure to do so is understandable because of the varied nature of franchise arrangements, where such varying factors exist as the relative bargaining power of the parties, the extent of investment by franchisees, and the degree to which the franchisee's good will, as opposed to that of the franchisor, is involved in the business operation. Further, in recognition of a general duty of good faith and fair dealing in business transactions under the law of the Commonwealth, c. 93A of the General Laws imposes on any person who engages in the conduct of any trade or commerce an obligation not to use any "unfair or deceptive acts or practices," as defined in G.L.c. 93A, § 2 (a), as appearing in St. 1967, c. 813, § 1, in dealing with another person who engages in any trade or commerce. G.L.c. 93A, § 11, as amended through St. 1979, c. 72, § 2.

We thus analyze the case before us in terms of whether in terminating the agreement Dairy Mart failed to act in good faith in a broader sense than the term is used in G.L.c. 106, § 1-203, or dealt unfairly with the Zapathas, and whether Dairy Mart engaged in any unfair or deceptive act or practice. Much of what we said in discussing unconscionability and bad faith in terms of the Uniform Commercial Code applies here and need not be repeated. There is no showing that Dairy Mart usurped funds to which the Zapathas were reasonably entitled. Certainly Dairy Mart did not deprive the Zapathas of income that they had fairly earned, as the employer attempted to do in the Fortune case. We know nothing of any good will that the Zapathas had developed in their own name. There was no showing that, by their special efforts, the Zapathas built up the business at the Springfield store. As far as the record shows, they would lose no financial investment on termination and would not be left with unsaleable inventory or special purpose supplies and equipment. Chapter 93A, § 2 (b), instructs us to look to interpretations of the Federal Trade Commission Act in construing the meaning of the words "unfair or deceptive acts or practices" in G.L.c. 93A, § 2 (a). No case or Federal Trade Commission interpretation has been brought to our attention making the termination at will of a franchise agreement of the character involved here an unfair or deceptive act or practice.19

We are most concerned, as was the judge below, with the introductory circular that Dairy Mart furnished Mr. Zapatha. The judge ruled that the introductory circular contained misleading information concerning the Zapathas' status as franchisees. However, we cannot find in that document any deception or unfairness that has a bearing on the right of Dairy Mart to terminate the agreement as it did. A representative read the termination clause to Mr. Zapatha before the Zapathas signed the agreement. Mr. Zapatha declined an invitation to take the agreement to a lawyer. He understood individually every word of the termination clause. Moreover, when Dairy Mart terminated the agreement, it offered to negotiate further, and the Zapathas did not take the opportunity to do so.

Unless we were to take the position that termination without cause of a franchise agreement of the character involved here is prohibited invariably by the law of the Commonwealth, a position we decline to adopt (cf. Richey v. American Auto. Ass'n, 380 Mass. 835 (1980)), Dairy Mart lawfully terminated the agreement because there was no showing that in terminating it Dairy Mart engaged in any unfair, deceptive, or bad faith conduct.

Judgments reversed.