Ex-franchisees sue Noble Roman's

July 7, 2008

Nine former Noble Roman's franchisees and a current operator have filed a lawsuit charging that the Indianapolis chain lied to them about the costs and risks of opening one of its pizza and sub restaurants.

The franchisees say the 1,000-restaurant chain aggressively marketed its stand-alone, dual-brand Noble Roman's and Tuscano's Italian Style Subs restaurants without testing the concept--a scheme they contend was designed to inflate the company's stock price so owners could unload shares at a profit.

The plaintiffs are seeking more than $6.4 million in actual damages and likely will seek much more in punitive damages in the lawsuit, filed June 19 in Hamilton County. The group includes franchise owners and area developers from Indiana, Ohio, Kentucky, Texas, Georgia, North Carolina and California.

Noble Roman's President A. Scott Mobley denied the allegations in a statement to IBJ. He declined to elaborate on the specifics of the case, citing company policy.

"Virtually anyone can file a lawsuit, but that does not automatically make it legitimate," Mobley wrote. "We do not believe this lawsuit has merit, and we intend to vigorously defend against it."

The suit names Scott Mobley, 44, and his father Paul, 67, who serves as the company's chairman. It also names company vice presidents Troy Branson and Mitch Grunat, along with lenders CIT Small Business Lending Corp. of New Jersey and PNC Bank of Kentucky. The suit accuses the lenders of acting "in concert" with Noble Roman's to mislead franchisees.

The local attorney for the plaintiffs, John R. Price of Price-Owen Law, said he has limited knowledge of the case and referred questions to lead attorney David M. Duree of Illinois-based David M. Duree & Associates PC.

Duree, who specializes in franchise cases, said the plaintiffs contacted him about taking on Noble Roman's. He filed the case in Hamilton County, as required by the franchise agreements.

"The plaintiff's contention is they were misled about the prospects for success and the costs involved in starting up one of these restaurants," Duree said.

The 10 franchisees who are suing reported operating losses for their restaurants ranging from $100,000 to $200,000, after spending $310,000 to $610,000 on startup costs.

The suit claims Noble Roman's said franchisees would spend no more than $241,000 on startup costs, and the typical franchisee would earn a profit of more than $100,000 per year. The chain provided the figures in advertisements, DVDs and documents filed with state franchise regulators, the suit says.

Franchise documents Noble Roman's filed in Indiana estimate an initial investment of $212,600 to $338,000 for stand-alone, dual-brand restaurants. The document says Noble Roman's does not provide or authorize its salespeople to provide estimates of "potential sales, costs, income or profit."

Franchisees to blame?

All but one of the restaurant franchises mentioned in the lawsuits has closed. Three of the plaintiffs also had paid Noble Roman's for area-development agreements and are seeking additional damages stemming from those deals.

A courtroom loss for Noble Roman's would be a devastating blow for the publicly traded company, which reported profit of $2.5 million in 2007 on royalty and fee income of $10.4 million.

Noble Roman's has struggled in recent years, blaming franchisees for many of its problems, including the closing of several stand-alone stores that closed shortly after opening. The problems have decimated Noble Roman's stock, which had been marching higher before last fall.

The company last year stepped up its enforcement of franchise standards, lengthened training requirements, and strengthened the franchisee-selection process. And earlier this year, Noble Roman's took over the operation of six franchised restaurants in Indianapolis in a bid to prove its concept can be executed profitably.

Paul and Scott Mobley have said those efforts are paying off.

But plenty of the blame for franchise problems rests with the Mobleys, according to Michael Goode, a St. Louis stock trader and financial blogger who writes Goode-Value.com.

The company owns only a few stores, giving it little opportunity to prove the model works and to test new products or strategies, Goode said. The Mobleys also tried a nationwide expansion despite lacking national marketing and having limited brand recognition.

But the biggest red flag for Goode was the barrage of area developer agreements that boosted revenue and profit.

"They engaged in business in such a way to get lots of near-term earnings at the expense of future earnings," said Goode, who previously bet against Noble Roman's by selling the stock short but no longer has a position.

Built on reinvention

Noble Roman's has reinvented itself several times since launching in the 1970s as a chain of dine-in restaurants. In 1997, after intense competition and rising costs made stand-alone pizza joints difficult to operate profitably, Noble Roman's turned to franchising nontraditional outlets like bowling alleys and gas stations--a strategy that paid off handsomely.

But the strategy of stand-alone, dual-brand restaurants has been a drag on the company. Shares of Noble Roman's are off 85 percent from their 52-week high and now trade for only about $1.20 each.

In late 2006, before the big drop, insiders began selling Noble Roman's thinly traded shares.

New York-based Geovest Capital Partners LP, a company controlled by board member Douglas H. Coape-Arnold, sold more than 950,000 shares in dozens of transactions between November 2006 and June 2007, at prices ranging from $3 to $7 per share.

Mobley, for his part, sold about 169,000 shares for $1.2 million in June 2007. Still, insiders own about 40 percent of the shares in Noble Roman's, and Paul Mobley alone owns about 20 percent.

In March, the company said it had hired Newport Beach, Calif.-based Roth Capital Partners to evaluate "various strategies to enhance shareholder value."

The move raises the possibility that the company could be sold, although observers say tight credit markets and a sputtering economy likely would make a sale difficult.

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