April 08, 2025|Articles/Op-eds
April 8, 2025 | Appellate Division of the Supreme Court of New York, First Department | Published Opinion
Executive Summary
In a published opinion, Justice Moulton of the Appellate Division, First Department, writing for a unanimous panel, affirmed in part and modified in part a judgment of Justice John J. Kelley of the New York County Supreme Court. Sub-franchisees of ice cream shop franchises sued their sub-franchisors under the New York Franchise Sales Act (“Franchise Act”) and for common-law fraudulent inducement. Plaintiffs alleged that defendants misrepresented profits and failed to disclose product markups exceeding 58 percent. The trial court found willful and material violations, rescinded the franchise agreements, and awarded damages with six percent interest and attorneys’ fees. On appeal, defendants argued that merger clauses and nonreliance disclaimers barred fraud claims. The Appellate Division held that statutory fraud claims under the Franchise Act survived such clauses, but that common-law fraud claims were barred. The judgment was therefore affirmed as modified.
Relevant Background
The dispute arose out of the expansion of an ice cream shop franchise concept. South Shore D’Lites, LLC and affiliated franchisees purchased sub-franchises through First Class Products Group, LLC, which acted as sub-franchisor under a larger system. According to plaintiffs’ testimony, sales presentations and financial projections emphasized profitability while minimizing operational costs. Plaintiffs claimed they were promised sustainable margins and assured of strong returns on investment.
The trial court credited evidence that defendants required franchisees to purchase proprietary ice cream exclusively from First Class. These products carried a markup of more than 58 percent above First Class’s cost, a fact that plaintiffs alleged was never disclosed before they signed. The sub-franchisees testified unequivocally that “had they known that the ice cream product purchased from defendants was marked up over 58% of the cost … they would not have entered into the franchise agreements”.
Plaintiffs further alleged that defendants concealed the true economics of store operations. Forecasts of profitability presented to prospective sub-franchisees overstated gross margins while excluding the impact of inflated product costs. The court also noted testimony that defendants’ disclosure documents were incomplete and that financial performance representations were not properly substantiated.
Procedurally, the case proceeded through a nonjury trial before Justice Kelley. The trial court found that defendants’ conduct violated N.Y. Gen. Bus. Law §§ 683 and 687, provisions requiring written disclosure and prohibiting fraud in franchise sales. Justice Kelley determined that these violations were both “willful and material” within the meaning of § 691(1). Remedies included rescission of the franchise agreements, restitution of sums paid plus six percent annual interest, and an award of attorneys’ fees. Defendants appealed, contesting both liability and remedies, and raising contractual defenses based on merger clauses and disclaimers of reliance.
Decision
The Appellate Division unanimously affirmed rescission and statutory remedies but modified to dismiss the common-law fraudulent inducement claim.
First, the Court upheld the trial court’s finding of willful and material violations. As the panel explained, “Supreme Court properly found that defendants’ violation of the New York Franchise Sales Act … was willful and material within the meaning of General Business Law § 691(1), meriting rescission, damages, and an award of 6% of the recovery, along with attorneys’ fees”. The Court emphasized that misrepresentations about profitability and undisclosed markups “go to the heart of a customer’s investment decision and are therefore material as a matter of law” (quoting CFTC v. Int’l Fin. Servs., 323 F. Supp. 2d 482, 501 (S.D.N.Y. 2004)).
Second, the Court affirmed the trial court’s finding that plaintiffs reasonably relied on defendants’ representations. The defense argued that plaintiffs’ education level should have alerted them to potential risks, but the Court rejected that framing. Citing N.Y. Gen. Bus. Law § 683(2)(u), the Court explained that disclosures “will afford prospective franchisees an adequate basis upon which to found their judgment,” and thus the statutory structure allows reliance. The panel concluded: “Plaintiffs also demonstrated that they reasonably relied on defendants’ misrepresentations” because “there were no obvious signs of falsity and the relevant information was under the control of defendants” (Emfore Corp. v. Blimpie Assoc., Ltd., 51 A.D.3d 434, 435, 860 N.Y.S.2d 12 (1st Dep’t 2008); Coraud LLC v. Kidville Franchise Co., LLC, 121 F. Supp. 3d 387, 393–94 (S.D.N.Y. 2015)).
Third, the Court addressed contractual defenses. It rejected defendants’ reliance on boilerplate merger and no-oral-modification clauses, holding that “the boilerplate merger and no-oral modification clauses in the franchise agreement are invalid and unenforceable as a defense to the fraud claim under the Franchise Act” (citing N.Y. Gen. Bus. Law § 687(5); Emfore Corp., 51 A.D.3d at 435). The Court noted that the Act explicitly prohibits requiring franchisees to waive statutory rights.
Fourth, however, the panel agreed with defendants that common-law fraud claims could not survive such disclaimers. It reasoned: “Outside of the franchise context, plaintiffs cannot maintain a claim for common-law fraudulent inducement in the face of the aforementioned nonreliance disclaimers” (citing EV Scarsdale Corp. v. Engel & Voelkers N.E. LLC, 48 Misc. 3d 1019, 1033–34, 13 N.Y.S.3d 805 (Sup. Ct. N.Y. Cnty. 2015)). Accordingly, the judgment was modified “to dismiss the claim for common-law fraudulent inducement, and otherwise affirmed, without costs”.
Finally, the Court disposed of defendants’ jurisdictional argument. Defendants contended that the Act should not apply to plaintiffs’ West Caldwell, New Jersey store. The Court disagreed, holding that “the record here shows that the Franchise Act applies … which was located in New Jersey” because the franchise sale occurred in New York (citing Mon–Shore Mgmt., Inc. v. Family Media, Inc., 584 F. Supp. 186, 191 (S.D.N.Y. 1984)).
Looking Forward
This decision reflects how carefully New York courts scrutinize franchise disclosures and the promises made during franchise sales. The opinion illustrates that undisclosed supplier markups and profit projections can become central to litigation when franchisees testify that those omissions shaped their decision to invest. It also demonstrates that the statutory protections of the Franchise Act limit the effectiveness of merger clauses and reliance disclaimers, even though those provisions may continue to shield franchisors from common-law claims. At the same time, the Court’s modification signals that contractual disclaimers still hold value outside the statutory framework, and franchisors can expect them to be enforced against general fraud claims.
For franchisors and other employers operating in New York, the ruling is a reminder that contractual language cannot substitute for compliance. The best risk management strategy lies in accurate and transparent disclosure practices, especially when offering financial performance representations or imposing mandatory purchasing requirements. While the Court’s analysis turned on facts unique to this case, the opinion serves as a useful guidepost for how courts may evaluate similar disputes in the future.
This article is based solely on the opinion of the Court in this matter. The author has not conducted any independent investigation into the facts. For the avoidance of doubt, each statement related to the law and facts in this article is drawn from the Court’s opinion in this case.
Thomas O’Connell is a Shareholder at Buchalter APC and Chair of the firm’s Franchise Practice Group. For questions about this article or media inquiries, you can contact Tom at toconnell@buchalter.com.
This communication is not intended to create or constitute, nor does it create or constitute, an attorney-client or any other legal relationship. No statement in this communication constitutes legal advice nor should any communication herein be construed, relied upon, or interpreted as legal advice. This communication is for general information purposes only regarding recent legal developments of interest, and is not a substitute for legal counsel on any subject matter. No reader should act or refrain from acting on the basis of any information included herein without seeking appropriate legal advice on the particular facts and circumstances affecting that reader. For more information, visit www.buchalter.com.
