KFC Corp. v. Kazi

Citations: 29 F. Supp. 3d 945; 2014 WL 2930833Docket: Civil Action Nos. 3:12-cv-564-H, 3:13-cv-291-H

Court: District Court, W.D. Kentucky; June 27, 2014; Federal District Court

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Zubair Kazi, founder and CEO of Kazi Foods, Inc., is involved in a legal dispute regarding guaranty agreements he signed for four Kazi franchisees operating 142 KFC restaurants. KFC Corporation and its affiliates (collectively, Plaintiffs) aim to collect debts they assert are covered by these guaranties. Kazi argues that the guaranties are unenforceable on two grounds: they do not comply with Kentucky's guaranty statute and lack consideration. He has also requested consolidation with a separate breach of guaranty lawsuit initiated by KFC National Council and Advertising Cooperative, Inc. 

The franchisees entered Chapter 11 bankruptcy in early 2011, leading to a collective restructuring effort under a Chief Restructuring Officer. Despite attempts to negotiate with KFC over franchise agreement terms and debt restructuring, the franchisees were unable to reach an agreement, resulting in the decision to sell their assets under Section 363 of the Bankruptcy Code in February 2012. The sales were made to two buyers, who assumed limited liabilities, with KFC affiliates receiving minimal payment. 

Plaintiffs are seeking to recover five types of obligations: (1) royalties owed under franchise agreements, (2) advertising fees for local co-ops, (3) payments for equipment leases guaranteed by KFCC, (4) obligations on ground leases for 13 restaurants, and (5) de-imaging costs associated with removing trade dress. The court determined that KFCC could enforce the guaranties up to the liability cap and approved the consolidation request.

Kazi’s 142 Guaranties are uniform except for variations in the franchisee, restaurant, agreement duration, and execution date. Each guaranty includes a commitment from Zubair Kazi, the Guarantor, to ensure that Kazi Foods of Annapolis, Inc. (the Obligor) meets all obligations to KFC Corporation and related parties (the Obligees). These obligations encompass various agreements related to operating a Kentucky Fried Chicken restaurant in Annapolis, Maryland. In the event of a default by the franchisee, Kazi must promptly fulfill these obligations without prior notice. The Guaranties are characterized as "continuing" and "absolute," and Kazi waives rights to diligence and notice in enforcement actions, meaning Obligees are not required to pursue the Obligor or collateral before seeking payment from Kazi. Additionally, the Guaranties include provisions for attorney’s fees for the prevailing party in litigation and set a maximum liability of $250,000 per guaranty. Kazi’s motion for summary judgment challenges the enforceability of the Guaranties based on two arguments: failure to meet Kentucky’s statutory formalities and lack of consideration. The Court's review will focus on these enforceability issues and the question of consolidation.

On summary judgment, a party is entitled to judgment only if the evidence, including pleadings and affidavits, demonstrates no genuine issue of material fact and that the party is entitled to judgment as a matter of law, as established in Celotex Corp. v. Catrett. The Court assesses whether the evidence necessitates a jury submission or is overwhelmingly in favor of one party, following the precedent set in Anderson v. Liberty Lobby, Inc. Kentucky's guaranty statute requires a guaranty to be in writing, signed by the guarantor, and must specify the maximum liability and termination date to be enforceable, per KRS 371.065(1). If any of these conditions are met, the guaranty is valid. The interpretation of contracts is a legal question for courts. In this case, the Guaranties do not reference the instruments they aim to guarantee, leading to the requirement of satisfying alternative enforceability conditions. The Court finds that KFC USP cannot enforce the Guaranties as it is not a named Obligor, and KFCC cannot enforce them for ground lease payments as the terms limit Kazi’s liability to obligations under leases between Obligors and Obligees. The focus shifts to whether KFCC can enforce the Guaranties for royalty payments, advertising fees, equipment lease obligations, and de-imaging costs. Under the statute, a guaranty must "expressly refer to" the underlying instrument but is not bound by a rigid description. The term "expressly" indicates a need for specificity, while "refer" directs attention to a source. The statute aims to protect guarantors from unknown obligations, confirming that the second prong is satisfied if the guaranty refers to the relevant instruments, not specific obligations. The Kazi guaranties expressly refer to the franchise agreements, which outline the obligations KFCC seeks to enforce, including payment of royalties and advertising fees.

Kazi's guaranties obligate him to fulfill all current and future debts to KFCC and NCAC related to the operations of a specific Kentucky Fried Chicken restaurant identified by its street address. Although the guaranties mention various obligations under different agreements, the critical point for KFCC's claims is their explicit reference to the franchise agreement associated with each restaurant. Kazi's reliance on the case of Brunswick Bowling & Billiards v. Ng-Cadlaon is noted, where the court ruled that a guaranty lacking an explicit reference to an underlying promissory note did not bind the guarantor. In contrast, Kazi's guaranties specifically name the franchise agreement for each outlet, making the term “Franchise Agreements” refer to a singular document for each restaurant.

The enforceability of Kazi’s guaranties is further supported by the precedent set in Alliant Tax Credit Fund 31-A Ltd. et al. v. Murphy, where the Sixth Circuit upheld a guaranty that explicitly tied obligations to a defined agreement. Similar to that case, Kazi's guaranties clearly identify the franchise agreements and the specific restaurant addresses, fulfilling the requirement for enforceability. Thus, the court concludes that Kazi’s guaranties are enforceable.

The Guaranties meet the third prong of Kentucky’s guaranty statute, as each has a liability cap of $250,000 and specifies a termination date, typically twenty-five years from execution. Kazi contends the agreements lack a termination date at the time of execution, rendering them unenforceable. KFCC does not contest this directly but states it stamps the date on received documents. However, a review reveals that most date-stamped Guaranties had a handwritten execution date that was redacted prior to stamping, indicating they did have a termination date upon signing. KFCC is not attempting to enforce the Guaranties post-termination date, which further diminishes the relevance of any date discrepancies. The enforceability of the Guaranties is not impacted by this issue since the cap on liability remains applicable regardless of enforceability under the statute.

Kazi also argues the Guaranties lack consideration, but the Court finds this argument insufficient. According to Kentucky law, if consideration for the original debt has passed before the guarantor's contract is made and the guaranty was part of the inducement for the original debt, it is adequate. Kazi’s differentiation from precedent cases fails to undermine this principle. Each Guaranty explicitly acknowledges sufficient consideration from KFCC to Kazi, as it induced KFCC to enter into franchise agreements based on Kazi's personal guarantees. Additionally, extrinsic evidence supports that the Guaranties and franchise agreements were interconnected. Therefore, the Court concludes that there is sufficient consideration to enforce the Guaranties.

KFCC is entitled to enforce the Guaranties to collect specific payments, including royalty, advertising, de-imaging, and equipment lease payments, as these obligations are clearly outlined in each outlet's franchise agreement, which the Guaranties reference. However, there is a liability cap of $250,000 for damages per restaurant. Consolidation of this case with NCAC's lawsuit against Kazi is deemed beneficial for judicial efficiency and does not unfairly prejudice any party. NCAC's suit involves guarantor liability from promissory notes extended to bankrupt franchisees, with Kazi arguing that NCAC could invoke the Guaranties. The court finds that the need for NCAC to use the KFC Corporation and NCAC Guaranties is minimal, as they are dated and specific to different promissory notes. The court denies Kazi’s motion for summary judgment and sustains the plaintiffs’ motion regarding Kazi's liability. Plaintiffs are ordered to file a memorandum on damages by July 21, 2014, with Kazi's response due by August 18, 2014. Additionally, KFC's motions for consolidation are granted, and the NCAC suit will remain for further proceedings. The court notes that multiple Kazi entities operated numerous restaurants, most of which lost their licenses due to defaults or bankruptcy filings. KFC terminated licenses for Michigan restaurants in December 2010 and opposed the assumption of the restaurants by the bankruptcy court, citing lack of licensing and unfulfilled obligations. The franchise agreements stipulate that royalty payments are due only when a restaurant is operational, and advertising fees are owed during the license term.

Michigan restaurant licenses were terminated prior to the bankruptcy petition, while other licenses were terminated upon the franchisees' filing. The timeline of operations and closures post-petition remains unclear and will be resolved when the court addresses Kazi’s guarantor liability, which includes obligations for rent, property taxes, and lease termination fees. The complaint suggests that 13 restaurants are implicated, with Kazi New York leasing 5, Kazi Michigan 7, and Kazi Florida 1. The absence of ground leases in the record creates ambiguity around which properties were subleased by KFC USP and the nature of its liability for franchisee lease obligations.

Due to franchisees' non-payment, KFC USP has incurred liabilities for unpaid rent, termination fees, and other lease-related amounts. KFC had no obligation to pursue actions against the Obligors, despite its participation in bankruptcy proceedings. The court cannot ascertain whether KFC or KFC USP holds rights to ground lease debts under indemnity provisions due to missing ground lease records. 

The Guaranties, clearly labeled as such, will not be interpreted as indemnity agreements despite broad language suggesting otherwise. They are classified as 'special guaranties,' enforceable only by named entities, KFC Corporation and KFC National Council and Advertising Cooperative, Inc. KFC USP is not included as a named Obligee, barring it from benefiting from the Guaranties or claiming them as indemnity agreements. General contract principles in Kentucky dictate that a guaranty is enforceable only by the party entitled to the principal obligation. The court notes that all restaurant franchisee agreements are identical to the Annapolis franchise agreement on record. The enforceability of the Guaranties concerning specific obligations, rather than the extent of liability, is independent of the franchisees' subsequent contracts for equipment, advertising, or remodel obligations.

Kentucky’s statute mandates that a guaranty must explicitly refer to an underlying instrument, not just underlying obligations. In this case, interpreting the statute differently would overlook the 'continuing' nature clause in each guaranty. The question of whether KFCC is an intended beneficiary entitled to collect from franchisees regarding advertising and equipment lease contracts will be resolved later, contingent on the determination of guarantor liability from Kazi. The potential ineffectiveness of the Guaranties for other obligations is not significant due to their severability provision, which ensures all remaining provisions remain effective if any are invalidated. The Guaranties also limit the Guarantors' total liability to $250,000 and include a termination clause linked to the execution date. Specifically, Margaret Ng-Cadlaon signed a guaranty obligating her to perform under various Security Obligations. Kazi may be liable for obligations tied to the franchise agreements since the Guaranties reference these agreements. However, KFCC's ability to collect for certain obligations hinges on proving its status as an intended beneficiary of the franchisees' contracts with local advertising co-ops and the oven equipment lessor. The liability cap is acknowledged, and Rule 42(a) allows for the consolidation of actions involving common legal or factual issues, with motions to consolidate referenced in two specific case filings.