1. Introduction. Ontario, Canada’s most populous province and home to approximately 80 percent of franchisor head offices in Canada, has now passed franchise legislation for the first time in the province’s history.
2. Timing. The Arthur Wishart Act (Franchise Disclosure), 2000 was proclaimed in force in 2 parts. The first part, enacted July 1, 2000, imposes a statutory duty of fair dealing (which includes good faith and commercial reasonableness). The second part, enacted January 31, 2001, imposes a mandatory presale disclosure regime.
3. What is a Franchise Law? Although the U.S. has federal legislation and an extensive array of state franchise and business opportunity legislation, Ontario and Alberta are now the only two Canadian jurisdictions with a law specific to franchising.
Franchise laws come in three flavours: disclosure type, registration type and relationship type. Ontario and Alberta, whose laws are, for practical purposes, identical, have disclosure-type legislation (with a small element of relationship-type legislation). This is the least intrusive form of franchise law. It also requires the minimum amount of bureaucracy to administer it.
The sole function of disclosure legislation is to provide information to prospective franchisees prior to their purchase of a franchise, to enable them to make an informed decision regarding the proposed investment.
Registration type legislation requires franchisors, their disclosure documents and salespeople to pass examinations, be licensed by the government, and have their disclosure documents scrutinized by bureaucrats. Ontario and Alberta’s laws have none of this. Relationship-type legislation attempts to regulate the ongoing relationship between the franchisor and franchisee.
For instance, various U.S. state laws restrict the distance within which a franchisor may locate additional outlets, prohibit non-competition clauses following the expiration or termination of an agreement, and require good cause for termination of the franchise agreement. Ontario and Alberta have two important relationship-type provisions, namely a good faith and fair dealing obligation, and the right to associate (see below for details).
4. Definition of Franchise. The definition of “franchise” found in the Act is a three fold test common to most franchise laws: 1. payment(s) to the franchisor; 2. substantial association with the franchisor’s trademark; and 3. significant control or assistance by the franchisor in the franchisee’s method of operation. Even though the second part of the definition is clearly intended to sweep in product distribution schemes such as vending machines and display racks, the Act does not clearly deal with systems where no franchise fee or royalty is payable, but ongoing purchases are required to be made from the franchisor. The difference between the commonly used phrase in U.S. franchise legislation “continuing financial obligation” and the wording used in the Act “require[ment] to make a payment or continuing payments” may result in some systems being (inadvertently) exempt. Specific examples of the franchisee’s methods of operation that will be considered in determining the significance of the franchisor’s control or assistance are provided and include building design and furnishings, locations, business organization, marketing techniques or training. This represents a more inclusive approach than the typical “sale or distribution of goods or services under a marketing or business plan prescribed in substantial part by the franchisor”. The second part of the definition is aimed at systems where the franchisee is required to sell the franchisor’s products and receives location assistance. In such cases, there is no requirement that the franchisee be substantially associated with the franchisor’s trademark or be subject to or receive significant control or assistance.
5. Exemptions. The Act specifically excludes numerous “continuing commercial relationships or arrangements” including: 1. employer employee relationships; 2. partnerships; 3. cooperative associations (as specified in the regulations), trademark usage in connection with the evaluation or certification of goods or services; 4. single trademark license arrangements; 5. certain leasing arrangements; 6. purely oral agreements; and 7. arrangements with the Crown (government).
6. Disclosure. By far the greatest emphasis of the Act is the imposition of a pre sale disclosure requirement. Although the definition of “prospective franchisee” is extremely wide, there is no requirement to disclose prior to a first meeting. Franchisors may therefore advertise franchises for sale, exhibit at trade shows and otherwise negotiate with prospective franchisees without having to comply with the disclosure requirement until 14 days before the earlier of signing a franchise agreement and/or any other agreement relating to the franchise, and the payment of any consideration to the franchisor. Note, however, that the Act does not exclude confidentiality, non competition or site selection agreements from the definition of franchise agreement. There is nothing in this section of the Act that prohibits payment by a prospective franchisee and receipt by the franchisor of a deposit that is non refundable, either in whole or in part, neither is there anything in the Act that establishes the maximum amount of the deposit that may be accepted. The disclosure documents must be “one document” delivered “at one time”. The disclosure document must contain all material facts, including those defined by regulation. The Act does not provide for use of UFOC format disclosure, although we expect this to be included in the regulations. All information must be “accurately, clearly and concisely set out”. A material change must be disclosed to a prospective franchisee before the earlier of the signing of the franchise agreement and payment of any consideration. Interestingly, because the conjunction “and” is used, it may be argued that the obligation of the franchisor to disclose material changes continues until the prospective franchisee has both signed the franchise agreement and paid some consideration.
7. Exemptions. The Act contains eight classes of sale (the word used is “grant”) transactions that are exempt from the disclosure requirement. It is important to note that this exemption is only from the requirement to provide disclosure; the relationship aspects of the Act (the good faith and fair dealing obligation and the right to associate) continue to apply to the relationship created between the franchisor and the franchisee who purchases without having received disclosure. The disclosure exemptions are for the most part the “usual” ones, including sale by the franchisee; sale to an officer or director of the franchisor; sale to an existing franchisee; sale by an executor, receiver, trustee, etc.; fractional franchises; renewal or extension; and a minimum purchase exemption. A somewhat unusual exemption is a “sophisticated franchisee” where the investment by the franchisee will exceed a defined amount (with the amount to be defined by regulation).
8. Financial Exemption. As with most franchise disclosure legislation, the Act requires disclosure of financial information, specifically “financial statements as prescribed”. The Act provides a mechanism, to be enacted by regulation, to exempt from the financial disclosure obligations those franchisors who meet certain established criteria. The criteria for Ontario have, of course, not yet been established. In the case of Alberta, which has served as a model for Ontario’s legislation, the exemption is available for franchisors with a net worth in excess of CDN$5,000,000 and having at least 25 franchisees conducting business at all times during the five year period immediately preceding the date of the disclosure document.
9. Good Faith and Fair Dealing. For Americans, who are accustomed to good faith and fair dealing obligations in their commercial laws, a fair dealing requirement is no big deal. However, although certain Canadian legislation does impose a good faith obligation, it is not generally considered to form an integral part of the existing sale of goods law or other commercial legislation in Canada. While our courts have struggled to find and impose a good faith obligation, such efforts have been spotty and confused. The fair dealing duty (which is defined to include good faith and behavior in accordance with reasonable commercial standards) imposed by the Act applies to both parties. Note that the fair dealing obligation is imposed with retrospective effect to franchise agreements entered into before the coming into force of the Act. It is worth noting that the fair dealing obligation is limited to the “performance and enforcement” of the franchise agreement, which arguably excludes any requirement to deal fairly in the negotiation of the agreement. Whether a party to a franchise agreement has complied with its fair dealing obligation will require both a subjective consideration of the party’s reasonable expectations surrounding the agreement, as well as an objective examination of whether the parties’ conduct is in accordance with the practices, usages and customs of the industry in which they operate.
10. Right to Associate. The Act creates an unrestricted right of association of a franchisee with other franchisees, along with an unfettered right to form or join any organization of franchisees, for whatever purpose. It prohibits franchisors or their associates from interfering with, prohibiting or restricting the exercise of such right of association or the formation or joining of a franchisee association and prohibits a franchisor from penalizing a franchisee who associates with other franchisees. Since the penalty must be neither direct nor indirect, it would extend to include such actions as refusal to supply inventory or influencing upward the price of supplies provided by the franchisor or others, or a decision to reduce or eliminate advertising within the territory of the franchisee. Franchisees are provided a right of action for damages against a franchisor or its associate who violates these provisions. The Act stops short of providing a right to franchisee associations to commence an action in the nature of a representative action on behalf of a class of plaintiff franchisees. Given that Ontario has class action legislation, any such representative action may be started pursuant to the Class Proceedings Act.
11. Registration. The Act does not contain any requirement for registration with any government ministry, either on the part of the franchisor or any of its salespeople. Likewise, there is no requirement to file the disclosure document with any government agency.
12. Rescission. Where the franchisee did not receive a disclosure document or a statement of material change within the time required by the Act, or if the contents of the disclosure document did not meet the requirements of the Act, but the franchisee later receives a disclosure document, the franchisee will have a right of rescission (cancellation) for a period of 60 days following the date of receipt of the disclosure document. One can envisage a franchisor attempting to correct his inadequate disclosure by providing a proper form of disclosure document as soon as possible to a franchisee. In those circumstances, a franchisee has an absolute and unqualified right to rescind the agreement and oblige the franchisor to compensate him on the terms specified in the Act. Why would a franchisor bother to provide late disclosure? Presumably to crystalize the franchisee’s rescission rights immediately, and leave himself open to the possibility of rescission for only 60 days whereas, if no disclosure document is provided, the possibility of rescission will remain open for up to two years after the date of entering into the franchise agreement. Note that the franchisee’s right of rescission arises not only upon failure of the franchisor to provide a disclosure document, but also upon the failure of the franchisor to provide any statement of material change. Although the intent of the rescission remedy contained may be to place the parties in the same position as they would have been had the agreement not been entered into, the Act creates the potential for a huge windfall to a franchisee since it requires the franchisor to reimburse the franchisee for potentially every dollar invested by the franchisee in the business, but does not require the franchisee to account for any profits earned in the operation of the business, which would seem to be a fundamental requirement.
13. Damages for Misrepresentation. The scheme of the Act puts emphasis on providing compensation to those who have suffered a loss as a result of a misrepresentation. There are no provisions of the Act that provide for penalties or criminal sanctions against those who contravene its provisions. The right to recover damages contained in the Act requires that a franchisee prove four things. First, the franchisee must prove that they suffered a loss. Second, the franchise must prove the existence of a misrepresentation. Third, the franchisee must prove that the loss was incurred as a result of a misrepresentation. Fourth, the franchisee must prove that the misrepresentation that they relied upon was contained in a disclosure document. If each of these four elements is proven, then the franchisee is given a right of action to recover damages against the franchisor and against the individuals who signed the disclosure document. The liability of those defendants is joint and several. The Act deems a franchisee to have relied upon any misrepresentation that is shown to have been contained in a disclosure document. This effectively removes the defence that was sometimes utilized by franchisors that, although a misrepresentation was shown (or admitted) to have existed, nevertheless it was of a kind or of a degree that the franchisee clearly discounted or paid no attention to at all, and, therefore, would have purchased the franchise in any event.
14. Waiver. The Act provides that any purported waiver or release by a franchisee of a right given under the Act or of an obligation or requirement imposed on a franchisor or franchisor’s associate by or under the Act is void.
15. Applicable Law. The Act prohibits restrictions in a franchise agreement on the application of Ontario law or to venues outside of Ontario. This, however, does not mean that the parties may not commence and continue actions outside of Ontario. Where such an action is commenced and the jurisdiction is attorned to by all relevant parties, the action should be properly constituted and not in violation of the Act. The final words of this section limit its scope to claims “otherwise enforceable under this Act in Ontario”. This limitation suggests that only aspects of a franchisee’s claim relating to enforcement of provisions of the Act will be mandatorily subject to the jurisdiction of Ontario courts. Otherwise, matters of tort and contractual dispute, including arbitration matters, will continue to be determined by reference to the choice of law and venue provisions of the franchise agreement.
16. Regulations. As mentioned, the government must still draft regulations to the Act. The regulations will specify the types of information required to be disclosed by franchisors. For instance, a franchisor must disclose information about litigation, bankruptcies, franchise closures and terminations as well as its own financial statements. In addition, the government has agreed, in order to satisfy interest groups who wanted a franchise law with considerably more relationship type content, to require franchisors to inform prospective franchisees that the cost of goods and services acquired under their franchise agreement may not correspond to the lowest cost of goods or services available in the marketplace, and a statement as to whether or not a franchisor or its associate receives any rebates, commissions, payments or other benefits from vendors as a result of purchases of goods or services made by franchisees, including specific information on franchisees buying, inventory obligations, restrictions and terms. This type of information is of course particularly important to franchises in the foodservice sector.
More information. For more information on franchising in Canada, the United States and internationally, please contact Peter Macrae Dillon, head of Siskinds Franchise Law Group. Peter is the author of the annotated Ontario Franchise Disclosure Act and the annotated Alberta Franchises Act and over 30 other publications on the subjects of franchising, licensing and distribution. He is licensed in Ontario and New York. Peter can be contacted at 800-816-9596 ext. 389 or by email at peter.dillon@siskinds.com. Please visit our website at www.franchiselaw.ca The information contained in this note is for general reference only, and should not be relied upon as constituting legal advice.
(peter macrae dillon franchise lawyer ontario toronto franchising attorney canada)
16 Things You Should Know about Ontarios Franchise Legislation - To learn more about this author, visit Peter Macrae Dillon's Website.
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