Restaurateurs fuming over rewards network 'advances'.

Patrice Lambert said he should have read the writing on the wall when the Sept. 11, 2001, terrorist attacks occurred just three weeks after he opened his first restaurant, Tournesol, in Studio City.

Lambert had received a rave review in the Los Angeles Times, "but three days later, no one cared about good French food," said the native of Cannes, France.

Business started slowly, so he accepted a cash "advance" from Rewards Network Inc., then known as iDine, an administrator of loyalty and reward programs to which Lambert had already paid between $5,000 and $10,000 for marketing services. The first advance was for $25,000, which he paid back in a few months--plus 100 percent interest, a requirement spelled out on the first page of the two-page contract Lambert signed.

The re-payments for these advances came from bills paid by customers designated as "iDine members," who received discounts or other benefits, such as free flight miles, for using their credit cards when they purchased their meals.

The network has deals with United Mileage Plus, American Airlines' AAdvantage and Delta SkyMiles, all of which offer credit cards through Visa or MasterCard. Each time a customer paid with one of these cards, the bulk of the payment went to iDine, until the advance was paid off.

Lambert said that paying back the first advance left him so strapped for cash that he had to accept another to keep his doors open, even though he knew the interest rate was extremely high and the term of the repayment so short that he'd almost certainly face cash-flow problems. In total, he took five lump sums from Rewards, a total of about $150,000. He said that he had repaid about $300,000 when he was forced to close his doors in 2004.

Now, Lambert is one of nearly 3,000 California restaurant owners who received money from the company between May 25, 2000, and May 25, 2004, that have joined a class action suit against Rewards Network. The restaurateurs say the "advances" were really just high-interest loans, marketed so as to circumvent California's usury laws and the state's Unfair Business Practices Act. Rewards, which continues to offer the program, counters in its filings that the money given to the restaurants is an advance purchase of "food, beverages, goods and/or services."

The crux of the issue appears to be whether the money obtained by the restaurants was an advance or a loan. The publicly traded company is not a licensed lender in California, but if it's just making an advance for the purchase of goods and services, it is not doing anything illegal. However if Rewards is determined to be making a loan, then they're bound by state usury laws, which cap the legal interest rate at 10 percent.

The suit seeks full interest-rate refunds, to void any outstanding contracts, and damages, and asks that three times the interest paid from May 2003 to the date the case is resolved be returned to the restaurateurs, which puts the value of the case at around $250 million. Rewards Network and its attorneys for the case, Stroock & Stroock & Lavan LLP, declined to comment.

Catch 22?

It's not hard to see why Rewards Network appeals to restaurant owners. The notoriously volatile dining industry is plagued by a high default rate on traditional business loans nationwide. As a result, most lenders won't touch restaurants, creating a niche for a company like Rewards.

The firm, according to its SEC filings, "provides restaurants that participate in our Marketing Credits Program access to capital by purchasing dining credits from these restaurants. We purchase dining credits in advance, in bulk and at a discount from the retail price of the goods and services provided by the restaurant."

They are paid back when their members eat at the restaurant and pay with a credit card with which Rewards had an agreement.

"When a member dines at the restaurant, we receive an agreed-upon percentage of the bill and redeem the restaurant's dining credits in an equal amount," the company states in filings.

Consumers looking to save while dining can sign up with Rewards online. The program is marketed as "a national savings program that is totally discreet." The Rewards Web site does not describe the savings, but promises customers will, "save on your entire bill, including food, drinks, tax and tip at all participating restaurants." Among the credit card participants is Upromise Inc., a program designed to help parents save for their kids' college tuition payments.

Restaurant owners say the payment model created a Catch-22. After accepting the-first payout, they didn't have any money because they had been paying back Rewards Network, but no one else would lend them money so they had to accept more Rewards' offers just to keep their doors open. And once they were on the payment treadmill, it was nearly impossible to get off, Lambert said.

"It wouldn't have been a problem if that was 5 percent to 10 percent of the business, but it's almost everyone using a credit card," he said. "That's why it started to be bad. iDine customers are you and me and everybody on your staff. When you have a 20 percent (profit) margin and iDine is taking between 40- and 45 percent of the (total), you're losing 20 percent."

By the time the father of four closed his restaurant, he'd taken out four mortgages on his house. He owed money to his landlord, the IRS, his bank, and of course iDine. Lambert managed to sell his home a week before the bank would have foreclosed on the property.

In the middle of this maelstrom, Lambert got wind of some other restaurant owners having the same difficulties and he contacted Anat Levy, a sole practitioner in Beverly Hills.

Levy was familiar with the Rewards Network, from a suit brought against one of her clients. A restaurateur had borrowed $40,000 and paid back $76,000, but was being sued by Rewards for more money.

When Levy started investigating their lending practices, she said Rewards dropped the suit against her clients. She kept poking around, turned up similar cases and teamed with lawyers at Quinn Emanuel Urquhardt Oliver & Hedges LLP. The case was filed May 25, 2004, and the class action was certified in October 2005. Trial is tentatively set for October 3, although both sides have filed for summary judgment.

Richest Rewards

The Rewards Network operates nationally, but California's relatively tight usury laws made it the logical front to open the battle, according to Daniel L. Brockett, a partner at Quinn Emanuel and now the lead attorney for the restaurant owners.

"Frankly I'm surprised the class action bar hasn't jumped on this," he said.

The suit comes at a difficult time for Rewards Network. Known as Transmedia when it was founded in 1984, it became the iDine Rewards Network when it merged with Dining-a-la-Card in 2002. It changed its name once more to Rewards Network Inc. in 2003. The firm did $267 million in revenues last year, off sharply from $320 million in 2004. In an SEC filing, it attributed the drop to "declining restaurant membership" and fewer "qualifying transactions." Midwestern real estate mogul Sam Zell stepped down as board chairman last year.

The company faces some stiff competition in this market, from two privately held firms. AdvanceMe Inc. provides hospitality and retail businesses with funds to remodel or open locations, purchase inventory or launch advertising programs. AmeriMerchant LLC provides "businesses that normally can not receive financing through traditional means with working capital solutions." Among other incentives, it offers up to 1,000 Delta SkyMiles for every $10,000 advanced. Both competitors are private and offer small business with Sums up to $150,000. AdvanceMe calls its funding "advances," AmeriMerchant calls them "working capital."

Sadder, wiser

While some of the restaurateurs who are party to the suit feel they were misled, several acknowledge they should have paid closer attention to the repayment terms when they accepted the money.

"I feel like such an idiot," said Rebekah Barrow, who owns Minibar Lounge in Hollywood and received money from Rewards. "But that's why I had to be a part of this. There are so many people. We're not all stupid. We just got duped."

Barrow bought Minibar Lounge, her first restaurant, back in 2003. It was an investment she and her partner had been planning for 10 years.

What she hadn't planned was paying $30,000 in interest payments in the first four months of ownership.

The first loan, $20,000, was one she inherited when she bought the restaurant. Barrow took over Minibar in April and had paid back $30,000 by August. That's when representatives of the Rewards Network came back to her restaurant offering her more money, she said.

She was short on cash from the payments she'd been making on the first loan and she wanted to remodel, so she took another $40,000.

Barrow eventually had to take out $50,000 in personal loans to keep her doors open. She'd repaid about $50,000 on the $40,000 loan when she joined the suit in 2004.

These days she said the business is starting to break even. But she'll be paying back the bank and generous friends for some time to come.