Universal Property Services, Inc. v. Lehigh Gas Wholesale Services, Inc.

Factual Summary:

Universal Property Services, Inc. (Franchisee/Applicant) executed franchise agreements, comprising leases and fuel supply contracts, with Circle K Stores Inc. (Original Beneficiary) for 17 gas stations. Original Beneficiary subsequently assigned these agreements to Lehigh Gas Wholesale Services, Inc. (Franchisor/Beneficiary). To support payment obligations, Applicant was required to provide LCs and personal guaranties. Syed Kazmi (Applicant Owner/Guarantor) executed the personal guaranties and Soleil Chartered Bank (Issuing Bank) issued four LCs. However, the LCs contained a condition that Issuing Bank would only honor demands if Applicant first furnished indemnification to Issuing Bank.

In late 2019, Applicant ceased paying rent and fuel invoices. In response, Beneficiary began withholding credit card proceeds generated at the gas stations as security. When Beneficiary attempted to draw on the LCs to cover the Applicant's debts, Issuing Bank refused payment because Applicant had not funded the indemnity. Beneficiary demanded a new, acceptable LC. When Applicant failed to provide one and continued to miss rent payments, Beneficiary issued a notice terminating the franchise agreements.

Applicant filed suit alleging that termination violated the PMPA. Beneficiary counterclaimed for breach of the leases, fuel supply agreements, and the personal guaranties. Beneficiary moved for summary judgment. The U.S. District Court for the District of New Jersey, Castner, J., granted the motion in part and denied it in part.

Analysis:

Applicant argued that its failure to pay rent was justified because Beneficiary withheld credit card proceeds. Beneficiary argued that Applicant breached material and reasonable franchise provisions requiring rent payment without setoff. The Court evaluated the termination under the PMPA which permits termination if a breached provision is reasonable and material from an objective viewpoint.

Relying on Hillmen, Inc. v. Lukoil N. Am., LLC, the Court stated that a lack of funds cannot be characterized as a cause beyond reasonable control. The Court held that the without setoff provision was reasonable because Beneficiary contracted for a tenant with the financial wherewithal to pay rent without relying on withheld revenue. The Court ruled the termination lawful because Applicant violated a reasonable and material setoff provision by failing to pay rent for four months.

Beneficiary alternatively argued that termination was permitted due to Applicant's failure to pay sums legally due. The Court applied the objective reasonableness inquiry established in Patel v. Sun Co., viewing the decision from the perspective of a reasonable business person. The court found Beneficiary's reservations justified because Issuing Bank's LC contained an indemnity provision meaning Issuing Bank would only pay Beneficiary if Applicant paid Issuing Bank first. Because Beneficiary reasonably withheld credit card proceeds as security that Applicant did not otherwise supply, the Court held termination was permitted.

Beneficiary moved for summary judgment on its breach of contract counterclaims against Applicant for unpaid rent and fuel, and against Applicant Owner/Guarantor for failing to satisfy these debts. The Court found the fuel payment counterclaim moot because Beneficiary applied withheld credit card proceeds to fully satisfy the fuel debt after Applicant vacated the premises. However, the Court held Applicant Owner/Guarantor liable for breach of the guaranty agreements because Applicant Owner/Guarantor unconditionally guaranteed Applicant's lease payments and failed to pay the outstanding rent balance.

The Court granted summary judgment on liability for the lease and guaranty counterclaims, leaving the exact calculation of damages for a later proceeding in light of factual disputes over post-vacatur charges.

Note:

It is unclear why the four LCs issued totaled over USD 2.5 million when the total security requested by Beneficiary was only USD 487,500. Furthermore, the instruments contained an unusual condition requiring the applicant to pay the issuing bank before the beneficiary could draw, effectively undermining their function as independent and definite forms of payment.

Reviewed portions of Issuing Bank’s Managing Director’s civil deposition lend insight to Issuing Bank’s practices:

“When asked whether the only way for [Beneficiary] to receive payment from [Issuing Bank] would be if [Applicant] paid [Issuing Bank] the requested amount first, [Managing Director] replied: ‘Correct.’ [Managing Director] agreed that [Issuing Bank] ‘has no funds of its own to secure the ... letter of credit.’ And when asked what value [Issuing Bank] provided to [Beneficiary] given these facts, [Managing Director]: ‘both [Applicant] and [Beneficiary] agreed [to the letter of credit], so there must be some value, what value, I don't know ... .’ [Managing Director] also testified that he did not think [Issuing Bank] had ever ‘written a check in response to a claim and a ... letter of credit.’ But in his previous deposition, when asked whether [Issuing Bank] had ever paid a letter of credit, he replied that [Issuing Bank] ‘must have paid.’”