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Creating Harmony in Franchise Legislation -- Franchise Lawyer Canada

Written by: Peter Macrae Dillon

Article Overview: Ontario's franchise law is out of sync with the laws in Alberta and all US jurisdictions. How did this happen, and what can we do to improve legislative harmony, so as to improve the environment in which franchising takes place, for the good of franchisors, franchises and consumers? peter macrae dillon franchise franchisor lawyer attorney Toronto Ontario Canada www.franchiselaw.ca

Creating Harmony in Franchise Legislation -- Franchise Lawyer Canada

Interested in Increasing Legislative Harmony Within North America? Let's start with Ontario

In 2000, Ontario introduced legislation to regulate a segment of the economy commonly thought to account for 40 percent of all retail sales. With very little formal study, Ontario introduced flawed legislation into a marketplace that was ill prepared. Ontario now has the highest disclosure requirements of any jurisdiction in the world. We stand on the brink of a painful period of learning in the school of hard knocks. There is an easier, softer way.

The Problem

If your practice includes representing franchise systems doing business in Ontario, you know that Ontario's Act and Regulations have a number of ambiguous and confusing provisions that are out-of-sync with United States state and federal law. Since Canada is the most common foreign destination of US systems and Ontario is by far the largest market for franchisors in Canada, the current state of the Arthur Wishart (Franchise Disclosure) Act, 2000 (simply stated, the "Act"), should be a matter of some concern to you.

First, franchisors have the spectre of dealing with a regime that requires disclosure of "all material facts" (the "open-ended" disclosure regime dreaded by franchise lawyers). This obligation introduces probably the toughest disclosure regime in the world—with the potential for personal liability to principals of the franchisor for failure to comply.

Second, Ontario's Regulation introduces structural impediments to the use of a UFOC-formatted offering circular in Ontario. This necessitates an extensive rearrangement of UFOC content. It's an impediment to the free-flow of franchising. The necessity to reformat its Ontario circular is also a considerable barrier to Ontario systems moving into the US. Most practitioners agree that use of a "wrap" is not compliant with Ontario law.

Remember too that those attempting to comply with the Act do not have access to the UFOC Guidelines, FTC Interpretive Opinions, or to administrative rulings available from state regulators in attempting to interpret and comply with the Act. There is no provision in the Act or Regulations for advice, guidance or interpretation from the Ministry responsible for administration of the Act (the Act is not administered by our Securities Commission, but by a consumer protection division).

The Solution

1. Become Active in NASAA Ontario (along with every other Canadian province) is a member of NASAA. Alberta, who was for many years an active participant in NASAA's Franchise Project Group, currently permits use of a UFOC-formatted disclosure statement to comply with Alberta disclosure law (the document must have any additional information which may be necessary in order to fully comply with the requirements of Alberta law; i.e. disclosure must be pertinent to Alberta). Ontario has never been active on NASAA's Franchise Project Group; it should do so now.

2. Expressly Permit the Use of the UFOC Disclosure Document Format Even if Ontario doesn't chose to actively participate in NASAA, it can easily, by way of a simple amendment to the Regulation, permit use of a UFOC-formatted circular in Ontario. As in the case of Alberta, this presumes that any such document would be required to disclose all additional information relevant to Ontario (a minor amendment removing the awkward requirement that certain material be grouped together would also be needed).

3. Expressly Permit the Use of Financial Statements Prepared in Accordance with the Accounting Standards of Other Jurisdictions As anyone who reads the Franchise Listserve knows, Ontario's recently introduced amending Regulation has caused a great deal of debate both North and South of the border. One of its more controversial aspects was the requirement that audited financial statements be prepared (not audited—presumably this is a mistake in drafting) in accordance with Canadian Generally Accepted Auditing Standards. I'm told that the Ministry intended to create greater harmony with Alberta's regulations by introducing this change. Unfortunately, the amendment does not track the Alberta Regulation, and is inconsistent in such a way as to increase, rather than decrease, confusion and the likelihood of non-compliance.

More important, Alberta's Regulation permits a disclosure document to append financial statements prepared in accordance with the accounting standards of any foreign jurisdiction, provided that the disclosure is equivalent to Canadian accounting standards. This approach eliminates rigidity, excessive costs and uncertainty. Any accountant I've spoken to is of the view that Canadian and American GAAP are equivalent, especially when one considers that we are considering the financial treatment of franchise systems, not some esoteric issue relating to a complex manufacturing system involving offshore holdings, import pricing on supplies from subsidiaries etc.

4. Get in Line with Global Standards for Disclosure Insofar as the requirement to disclose all material facts goes1, there is also an easy regulatory fix to bring Ontario into line with the rest of the world: add a provision similar to Alberta's that provides that a circular is properly delivered if it complies substantially with the requirements of the regulation. As business-to-business legislation, a franchisor should not be strictly liable in a situation where a prospect either had the information from another source or where the information was incorrect but not material. Ideally for purposes of harmonization and convergence, Ontario would adopt a closed-end disclosure regime (disclosure of enumerated items only) with a remedy for fraudulent disclosure—as is the case in every US jurisdiction. However, since that would require a legislative amendment, I posit the easier course that provides substantial relief in this area.

5. Simplify Financial Disclosure Requirements Ontario needs a minor regulatory amendment expressly providing for the use of consolidated financial statements by a franchisor (since many US and foreign systems want to use their parent's statements). While the UFOC Guidelines clearly permit this (with the requirement for a guarantee of performance by the parent), Ontario does not. This uncertainty and risk is needless, a barrier to trade, and can be easily removed.

6. Stakeholder Consultation Recognizing that franchising is a big part of the economy—that could be bigger—and recognizing that the current Act and Regulations are a big stick with potentially devastating consequences for well-intentioned franchisors and their advisors, Ontario should consider how to best advance the cause of franchising within its boundaries.

Has Ontario's recent Regulatory amendments regarding auditing standards been circulated amongst practitioners practicing in this area (especially those with US clients), the shortcomings would have been quickly identified. Given that the Regulation now makes no practical sense2 and is at best difficult to comply with, its amendment now becomes a necessity.

In this post-enactment regime, the community with whom the Ministry consults regarding proposed amendments needs to be broadened. Proposed wording needs to be circulated. The Ontario Bar Association has constituted a Joint Subcommittee on Franchising. This Subcommittee is composed of most of the leading Canadian practitioners in this area of law, and would make an excellent sounding board for proposed legislative and regulatory enactments.

Conclusion

In a subsequent article, we'll consider how some of the practical fallout from the current harsh provisions in the Ontario Act might translate into personal liability for franchisors—in ways that most American practitioners will not be familiar with. Until some of the amendments proposed in this article are enacted, or until the Court of Appeal has blunted some of the wide-sweeping early rulings of various trial judges, even detractors of Chicken Little should be investing in a hard hat whilst franchising in Ontario.

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