The State of California has passed a law rendering unenforceable any forum-selection clause that restricts venue to another state for a dispute under a franchise agreement involving a franchised business operating in California. The new law took effect on January 1, 1995 and applies to franchise agreements that are newly registered or renewed in California after the effective date.

Most franchisors that operate in multiple states include in their standard franchise agreements a clause designating their home jurisdiction as the exclusive venue for actions under the contract. The purpose of California's new law is to ensure that California franchisees are not forced to litigate claims arising out of their franchise agreements in out-of-state courts.

When first introduced, the bill applied only to disputes arising under the California Franchise Relations Act, which deals primarily with the renewal and termination of franchises. The measure was broadened during the legislative process to cover all disputes arising under or relating to franchise agreements, including those based on breach of contract and alleged violations of the Franchise Investment Law, which concerns franchise registration and disclosure.

The new law does not deal with contractual choice-of-law provisions. It also does not appear to preclude transfer of an action involving a California franchise to an out-of-state court under the doctrine of forum non conveniens in a case in which the applicable law is that of another state or the witnesses and evidence are located out of state.

It should be noted that the statute does not prohibit forum-selection clauses designating out-of-state venues, but merely says that such provisions are void. This is an important distinction for multi-state franchisors, which typically use the identical franchise agreement in all states in which they operate, attaching an addendum to their offering circulars noting the enforceability of specified provisions under the laws of particular states.

The new statute seemingly applies to choice-of-forum clauses for both litigation and arbitration purposes. A question thus arises under the new statute as to whether the Federal Arbitration Act preempts state law that declares void the designation of an out-of-state venue in an arbitration clause; if California law was selected by the parties in their contract, maybe not. However, if the choice-of-law clause designates the law of another state, or if the arbitration clause states that it is governed by the Federal Arbitration Act, the one district court within the Ninth Circuit that has considered the issue has found that state law is preempted. Alphagraphics Franchising, Inc. v. Whaler Graphics, Inc. Despite that finding, the district court in Alphagraphics held that the arbitration clause was unenforceable. In Alphagraphics, as a condition of registration, the state of Michigan required the franchisor to attach a notice to the offering circular stating that the forum-selection provision in the arbitration clause was void under Michigan law. Because the franchisor had not advised the franchisee of its intent to enforce the choice-of-forum clause despite the notice, the court held that the franchisor's conduct constituted fraud in the inducement, enabling the franchisee to rescind the clause.

Under California's current regulations, every offering circular must state that, if any provision in a franchise agreement is inconsistent with the law, which will now include the new prohibition on foreign forum-selection clauses, the Business and Profession Code will control. Therefore, a non-California franchisor that wishes to preserve its right under the Federal Arbitration Act to arbitrate a dispute over a California franchise in its home forum, without falling into the Alphagraphics trap, is in a quandary. It must either convince the examiner who reviews its California registration application to accept compromise language, or fight the regulation through administrative channels at the time of registration- a daunting and expensive proposition.