IN RE EMPOWER CENT. MICHIGAN, INC.

661 B.R. 222

IN RE: EMPOWER CENTRAL MICHIGAN, INC., Debtor.

Case No. 23-31281-jda

United States Bankruptcy Court, E.D. Michigan, Southern Division

Signed April 26, 2024

Zachary R. Tucker, Grand Blanc, MI, Michael Cole, Fahey Schultz Burzych Rhodes PLC, Okemos, MI, for Debtor.

Jill M. Gies (UST), Detroit, MI, Ariel M. Olah (UST), Office of the U.S. Trustee, Detroit, MI, for U.S. Trustee.

OPINION GRANTING IN PART DEBTOR'S MOTION TO REJECT EXECUTORY CONTRACTS

Joel D. Applebaum, United States Bankruptcy Judge.

This matter came before the Court on the Motion to Reject Executory Contracts (the "Motion," Dkt. 82) filed by debtor Empower Central Michigan, Inc. ("Debtor" or "Empower"). Specifically, Debtor seeks to reject a Franchise Agreement and "several other related agreements" entered into with creditor Auto Lab Franchising, LLC ("Auto Lab").¹

On April 3, 2024, after having reviewed the parties' initial and supplemental briefs, and having heard lengthy oral argument, the Court ruled from the bench, granting Debtor's Motion to Reject the Franchise Agreement, but finding that the non-compete clause in the Franchise Agreement remained enforceable post-rejection. The Court further ruled that the separate Confidentiality Agreement was not an executory contract subject to rejection and, therefore, remained enforceable.² This written Opinion augments the Court's bench ruling.

I. FACTUAL BACKGROUND

Auto-Lab Franchising, LLC is in the business of franchising Auto Lab Complete Car Care Centers throughout the midwest. In late 2020, its Fenton, Michigan location, which had been in business for 15 years, was purchased by Empower.

On August 4, 2023, Debtor filed a chapter 11 (subchapter V) bankruptcy petition. Initially, Debtor anticipated reaffirming the Agreements and continuing to operate the Fenton location as an Auto-Lab franchise and filed a plan of reorganization to that effect. At some point thereafter, however, Debtor abruptly changed course and filed a Second Amended Plan of Reorganization. This amended plan sought to reject the Agreements, while allowing Debtor to continue to operate as an independent auto repair shop in the same location. (Dkt. 84). To that end, prior to any ruling on Debtor's Motion, Debtor began severing its franchise relationship with Auto Lab. Among other things, it repainted the interior space of the Fenton location with an unauthorized color, stopped reporting sales to Auto Lab, posted a notice to customers that the franchise was ending and Debtor was changing its name to Fenton Car Care Center, and began copy customer lists and, possibly, other confidential intellectual property, all the while continuing to utilize Auto Lab's trademarks and other confidential and proprietary intellectual property. Debtor does not contest that its actions constituted a material breach of the Agreements.

Pursuant to the amended plan, on February 23, 2024, Debtor filed the Motion arguing that the Franchise Agreement no longer benefitted Debtor because the monthly franchise fee was Debtor's largest expense, and the Franchise Agreement provided no tangible benefit to Debtor. Pursuant to 11 U.S.C. § 365 and the business judgment rule, Debtor argued that rejection of the Agreements was warranted.

Auto Lab objected to the Motion, arguing that: (1) while the Franchise Agreement may be an executory contract, the covenant not to compete provision contained within is non-executory and cannot be rejected, and (2) Auto Lab has fully performed under the Confidentiality Agreement by providing all of its business practices, systems, trademarks, and other confidential intellectual property to Debtor at the inception of their relationship. Because Debtor has received the full benefit of the Confidentiality Agreement, and no material performance remains due from Auto Lab thereunder, the Confidentiality Agreement is not an executory contract and is not subject to rejection under Section 365 of the Bankruptcy Code.

In order to address the parties' arguments, the Court must look at the specific language of the Agreements.

A. The Franchise Agreement

On November 20, 2020, Auto Lab Franchising, LLC, as the Franchisor, and Empower Central Michigan, Inc., as the Franchise Owner, executed the Franchise Agreement. (Auto Lab's Motion for Relief from the Automatic Stay, Dkt. 81, Ex. 6-1). The Franchise Agreement includes the following provisions relevant to the present Motion:

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14. REASONS FOR TERMINATION OF THIS FRANCHISE

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14.3 [Liquidated Damages] Should this Agreement terminate due to a material breach by Franchise Owner, Franchise Owner shall pay to [Franchisor] for a period of four years (or the [remainder] of the Term of the Agreement if that period is less than four years) a continuing Royalty (as partial compensation for the future fees that would have been paid by the Franchise Owner under this Agreement) in an amount equal to the total Royalty due from Franchise Owner for the 52 weeks preceding the termination divided by 52. If the Franchise Store was open fewer than 52 weeks, then the average of all weeks for which the Franchise Store was open shall be used. Payment of the Royalty Payment to Franchisor shall be in addition to other amounts to which Franchisor is entitled to recover, including without limitation, attorney fees and other costs and expenses of collection. Payment of the Royalty shall not affect Franchisor's right to obtain appropriate injunctive relief and other remedies to enforce this Agreement.

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17. NONCOMPETITION

In order to protect the Trademarks licensed hereby, Franchise Owner in his or her individual capacity or if a corporation or partnership, its respective stockholders, officers, directors, partners, agents and employees in such capacities as may be applicable, shall:

17.1 Neither be associated, directly or indirectly, as an employee, proprietor, partner, member, stockholder, officer, director, agent or otherwise in the operation of any similar to or competitive with Franchisor during the term of this Agreement no matter where such similar business may be located; nor be associated directly or indirectly, as an employee, proprietor, partner, member, stockholder, officer, director, agent or otherwise of a similar business for a period of two (2) years from termination or from the date of entry of a formal judgment enforcing this covenant by a court of competent jurisdiction, whichever is the later date.

The post-term covenant shall apply for the geographic area located within thirty (30) miles of the territorial boundaries of any Designated Area of any similar, existing business (as of the date of termination of this Agreement) to the business franchised hereby which is being operated by another franchise owner or by the Franchisor upon the termination of this Agreement (termination as used in this Article shall mean either expiration of this Agreement or severance of the franchise relationship pursuant to procedures set forth herein).

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17.3 The non-competition covenants contained in this article and Non-disclosure Agreement may be reduced in scope by an arbitrator or court of competent jurisdiction in order to render them enforceable under the prevailing law in lieu of declaring such non-competition covenants unenforceable as written.

17.4 Franchise Owner also acknowledges and agrees that if Franchise Owner should violate the provisions of this Article with respect to the operation of a competing business following assignment, expiration or termination of this Agreement, then the period for which the prohibition stated therein shall be applicable shall be extended until 2 years following the date Franchise Owner ceases all activities that are in violation of such provision.

17.5 Franchise Owner agrees that the restrictions contained in this Article are reasonable and necessary in order to protect the business interests of Franchisor, which business interests the Franchise Owner acknowledges to be valuable and legitimate.

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25. MISCELLANEOUS

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25.11 Franchise owner has carefully considered the nature and extent of the restrictions upon Franchise Owner set forth in this Agreement (including without limitation, the covenants not to compete, confidentiality restrictions and the restrictions on assignment) and the rights and remedies conferred upon Franchise Owner and Franchisor under this Agreement. Such restrictions, rights and remedies: (a) are reasonable, including but not limited to, their term and geographic scope; (b) are designed to preclude competition which would be unfair to Franchisor and the Franchise System; (c) are fully required to protect Franchisor's legitimate business interests; and (d) do not confer benefits upon Franchisor that are disproportionate to Franchise Owner's detriment. The covenants not to compete set forth in this Agreement are fair and reasonable and will not impose any undue hardship on Franchise Owner, since Franchise Owner has other considerable skills, experience and education which afford Franchise Owner the opportunity to derive income from other endeavors.

B. The Confidentiality Agreement

In November, 2020, the parties also executed the Confidentiality Agreement. That agreement was executed between Empower as "Franchisee," Brokaw as owner of the equity interest in Franchisee, and Auto Lab. (Auto Lab's Motion to Lift Stay, (Dkt. 81, Ex. 6-2). Auto Lab required the Franchisee and Brokaw to sign the Confidentiality Agreement to induce Auto Lab to transfer confidential information to Debtor. Many of the Agreement's provisions begin with "Owner agrees ... "Paragraph 6 of the Confidentiality Agreement sets forth the same time and place restrictions set forth in the Franchise Agreement's non-competition provisions.

Paragraph 7 of the Confidentiality Agreement addresses relief — both equitable/injunctive relief and monetary damages — resulting from a material breach of the Confidentiality Agreement. That paragraph states in full,

Owner acknowledges that

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