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Electronic Execution of Franchise Documents and E-Disclosure

Electronic Execution of Franchise Documents and E-Disclosure

The global proliferation of e-commerce legislation confirms that governments have become increasingly aware of technological innovation and its centrality to modern corporate commercial transactions. However, despite the progress that has been made in the practice and regulation of electronic business, some specialties are just beginning to share in its rewards. This article examines the history of electronic business as it applies to franchisors, with a view to the impact legislative and technological change will have on the franchisor-franchisee relationship.

It is no small secret that lawyers are resistant to change. This is simply something that, through years of practice and socialization, we have grown to accept about our colleagues, our profession, and often ourselves. Instead of heralding the advent of new ideas and services we regularly prefer to focus on change's destabilizing effects. Lawyers rarely assess the long-term benefits of technical and legal developments, preferring to ask how those changes affect us today – what will it cost me? is it worth learning? how much time will it take? Throw in the old adage that "if it ain't broke, don't fix it" and our reluctance to face tomorrow's problems today, and you have the recipe for years of professional complacency.

But this complacency doesn't come without a cost. We can continue to shirk today's technological developments in favour of tried and true methods, but what happens when that new technology is adopted by competing law firms? What happens when our old, reliable technology is rendered obsolete? The widespread availability of quality legal services necessitates that we all focus on progress and evolution. If changes can be implemented to increase efficiency and decrease client cost, those changes must be assessed objectively with an eye to the big picture. It must be remembered that yesterday's solutions rarely answer tomorrow's problems.

Nowhere is this truer than in the field of electronic business. Used in the inclusive sense of the term to denote any form of trading and conducting business via electronic media, e-business as it is often referred to, is changing the nature of commerce as we know it. The enhancement of digital signature technology, third-party certification authorities, and public key encryption tools is pushing us in a bold new direction. Business transactions are now regularly conducted online. Client and customer documents can now be securely sent and received in a fraction of a second, and the cost of doing business has decreased exponentially. To the lawyers on the frontline of the corporate world, this means a plethora of new business opportunities.

Humble Beginnings

Although we tend to think of e-business as a relatively recent phenomenon, the truth is that its origins can be traced back over 20 years to the advent of the modern fax machine. The fax machine was an electronic marvel when it was first introduced. Until that time business partners had been heavily reliant on courier services and personal travel to complete corporate transactions. But the invention of the fax machine revolutionized the business world. Contract signings, licensing arrangements, and legal agreements no longer required delivery services or personal attendance - the fax machine permitted them to be processed at the press of a button. This had an immediate impact on the select few who were fortunate enough to own the technology. Efficiency went up, costs went down, and e-business was born.

But in the absence of government regulation and legislation, technical progress was only so useful. Fortunately for those whose business activities were regulated by government legislation, it was not long before the provinces came to appreciate the promise offered by this new mode of telecommunication. The Ontario Rules of Civil Procedure was one of the first legislative schemes to formally approve the use of electronic communication. The Rules were amended in 1988 to permit solicitors to serve originating documents on one another by way of fax. Soon after other changes were adopted to permit the service of motions, motion records, application records, trial records and appeal books by fax. Legislation would soon follow in other areas, as the government began to embrace the potential of electronic business.

Our use of technology as a business tool is constrained only by will and regulation, and the latter has evolved at an incredible rate over the past decade. Although personal computers, e-mail, and the Internet came along as the indispensable tools of the business trade in the early 1990’s, federal and provincial governments were slow to respond to the growing calls for legislative change. But the Canadian government wasn’t alone in this respect. Despite the meteoric rise and proliferation of computer technology and the Internet, few governments were willing to open themselves to the privacy and security quagmire that would have followed legislative approval. So amidst the uncertainty of this new technology, and in recognition of the need for more innovation in the field of cyber security, governments waited patiently. It was not until 1996 that we saw a glimpse of what was to come.

Jumping on the Cyber Bandwagon

In 1996, the United Nations Commission on International Trade Law (“UNCITRAL”) embarked upon the task of creating the world’s first model law on electronic commerce. The end product, appropriately titled The Model Law on Electronic Commerce (the “Model Law”), was “intended to facilitate the use of modern means of communications and storage of information.” With an eye to enhancing the use of paperless communication, UNCITRAL took paper-based concepts such as “writing”, “signature” and “original” and sanctioned their functional equivalents in electronic form. Importantly, the Model Law also established rules governing electronic commerce in specific areas, such as the carriage of goods. But for all its promise, the Model Law would be of limited value in the absence of state ratification and adoption. Indeed, one of the prevailing reasons behind the creation of the Model Law was the paucity and/or inadequacy of extant e-commerce legislation:

The decision by UNCITRAL to formulate model legislation on electronic commerce was taken in response to the fact that in a number of countries the existing legislation governing communication and storage of information is inadequate or outdated because it does not contemplate the use of electronic commerce…[w]hile a few countries have adopted specific provisions to deal with certain aspects of electronic commerce, there exists no legislation dealing with electronic commerce as a whole. This may result in uncertainty as to the legal nature and validity of information presented in a form other than a traditional paper document.

It seems that members of the international community were looking to one another for guidance, each one unwilling to be the first to enact a comprehensive legislative code for the regulation of e-business. But that all changed with the enactment of the Model Law.

With the global demand for e-business increasing, and a solid model framework in place, many countries took it upon themselves to enact national e-commerce legislation patterned after the Model Law. The United States was one of the first countries to hop on the cyber bandwagon with the enactment of the Uniform Electronic Transactions Act (the “UETA”) in 1999. The UETA was drafted by the National Conference of Commissioners on Uniform State Laws, and adopted on a state-by-state basis. The Act itself was substantially influenced by the Model Law and its principles. Specifically, both laws shared the mutual goal of removing barriers to the use of electronic media in commercial transactions. Unfortunately, legislative discretion prevented the Act from being adopted in every state.

The Electronic Signatures in Global and National Commerce Act (“E-SIGN”) was enacted by the United States federal government in October, 2000. E-SIGN was modeled after the UETA, with the obvious and notable difference that it created a nationally regulated system of electronic commerce. Instead of having a patchwork quilt of e-commerce legislation, as existed under the UETA system, E-SIGN assured business partners and consumers that they would all be subject to the same regulations. Specifically, E-SIGN established, on a national level, that electronic records, signatures, contracts and documents would not be denied legal effect solely because they were in electronic form. E-SIGN further provided that if a contract was required by law to be in writing, that onus could be discharged by creating the electronic document in a form that could accurately be retained and reproduced for later reference.

The non-discrimination provision enunciated in the Model Law, and subsequently adopted in UETA and E-SIGN legislation, has been met with approval all over the world. More than two dozen countries have now enacted the Model Law, or adopted legislation influenced by the Model Law and the principles on which it is based.

In 1999, the Uniform Law Conference of Canada (“ULCC”) approved model legislation patterned after UNCITRAL’s Model Law. The Uniform Electronic Commerce Act (“UECA”) spoke to many of the same matters as the Model Law, including the functional equivalency of electronic documents and the enforceability of electronic signatures. Despite the pleadings of the ULCC, the UECA was never given federal approval. However, the provinces saw the utility in the UECA and what it sought to accomplish. Given the rate at which e-commerce legislation was being enacted internationally, it was not so much a question of whether the provinces would enact similar legislation, but a question of when. In 2000 the provinces began drafting legislation for the regulation of e-commerce, most of which were based on the UECA. By the end of 2001, every province in Canada had e-commerce legislation in place to mandate, in one form or another, the functional equivalency of electronic documents.

In light of these developments, and in consideration of the need to maintain the integrity of electronic processes, the federal government took important steps in May 2004 to protect the use of digital signatures and authentication procedures. With the creation of the Principles for Electronic Authentication and the Secure Electronic Signature Regulations, the Canadian government signalled its recognition that e-commerce could not take place in the absence of proper security controls. It is important, especially for high-value transactions, or where the information is particularly sensitive, to safeguard informational integrity. The regulations and principles promote this objective by requiring the use of digital signature certificates for certain electronic transactions. In rather simplistic terms, a digital signature certificate allows people and organizations to certify that an electronic message was actually sent by the person who claims to have sent it. It is this type of secure technology that offers promise for the expansion of e-commerce and e-business into new and uncharted waters.

The Electronic Franchisor

Despite their centrality to the corporate world, franchisors and franchisees have remained largely unaffected by global policy change in the realm of e-business. This is certainly not by choice. I can imagine most franchisors and their legal counsel would welcome the opportunity to actively engage the use of electronic technologies, whether to electronically complete a franchise agreement, or to e-mail a prospective franchisee disclosure documents. The difficulty to this point has been effecting legislative change to make this opportunity a reality.

Most jurisdictions that regulate franchise law do so explicitly. That is, adherence to franchise law is never a choice, it is a strict obligation. Those franchisors that fail to adhere to the law, however small the gaffe, may gift-wrap for the prospective franchisee a prima facie right of rescission. Accordingly, it stands to reason that franchisors should ignore temptations to stray from their governing statutes. But much like all matters in franchise law, there exists a strong degree of uncertainty as to what is and what is not permissible in this new age of e-business. Some statutes simply fail to consider the use of electronic technologies. Other statutes consider those technologies but fail to prescribe any guidance as to how, or with what qualifications they can be used.

Of special interest to franchisors is the prospect of satisfying disclosure obligations by way of electronic technology, either by e-mail or via a secure website. The administrative savings from both a cost and time perspective make this option particularly appealing. However, the degree of uncertainty that exists with respect to the legality of electronic disclosure, combined with the grave repercussions for legislative non-conformity, make such a venture downright risky. Fortunately, some jurisdictions have clarified the regulatory requirements for the use of electronic disclosure.

Australia is one of the only countries whose national government has expressly sanctioned the electronic delivery of disclosure documents. The Franchising Code of Conduct (the “Code”) was introduced in July 1998 and became fully operational in October of that year. Much like all franchise legislation, the Code regulates “franchise agreements” and includes comprehensive disclosure obligations on the part of a franchisor who intends to enter into an agreement with a prospective franchisee. In its initial form the Code did not provide for the electronic delivery of disclosure documents. However, the Code was amended in October of 2001 to provide, among other things, that a franchisor can provide electronic copies of any document to a prospective franchisee so long as: (1) the information will be readily accessible to the receiver in a useable form; and (2) the franchisee consents to it being provided electronically. Written consent is not specifically required.

The Federal Trade Commission (the “FTC”), the governing body that oversees the administration of federal franchise law in the United States, has yet to formally amend its "Franchise Rule" to provide for the electronic delivery of disclosure documents. However, with the enactment of E-SIGN, it appears that such an amendment may now be unnecessary. Indeed, by eliminating the barriers to the use of electronic documents, it appears that E-SIGN may have sanctioned not only the electronic delivery of disclosure documents, but also the electronic formation of franchise agreements.

Any uncertainty regarding the legal enforceability of electronic contracts was calmed with the enactment of E-SIGN. E-SIGN expressly provided that documents, records, contracts and signatures would not be denied legal effect or enforceability solely because they were in electronic form. This had far-ranging implications. Notably, in the franchise world this meant that franchisors could now create and execute electronic franchise agreements without ever having to use a single sheet of paper. Eventually, the same opportunity came to be provided to franchisors in other jurisdictions, including franchisors in all Canadian provinces, following their enactment of "functional equivalency" schemes. But the right to electronic contract formation did not come without qualification. Specifically, each legislative scheme provides, in one form or another, that nothing may require a person to use, provide or accept information or a record in electronic form without the person’s consent. Thus, a franchisee cannot be compelled to accept or execute a franchise agreement in electronic form. Further, where there is a legal requirement that a document be executed in writing, that onus can be satisfied by providing the document in a form that can be retained and accurately reproduced by the parties. Apart from these necessary qualifications, with a few technical variations from one statute to the next, the aforementioned legislative schemes have now effectively removed the barriers to the execution of electronic franchise agreements.

Since it was enacted by the FTC in the late 1970's, the "Franchise Rule" has prescribed what information is due to prospective franchisees, when that information is due, and how it is to be delivered. E-SIGN appears to have modified the Franchise Rule by expressly permitting documents to be sent in electronic form (with the approval of the prospective franchisee). However, the FTC and the North American Securities Administrators Association Inc. (“NASAA”) have proposed their own guidelines for the electronic delivery of disclosure documents, both of which are more onerous than those prescribed by E-SIGN. The 2003 Statement of Policy from NASAA provides that a franchisor can deliver a disclosure document by any electronic means if the document: (1) is delivered as a single document; (2) has no extraneous content; (3) has no links to or from external documents; (4) is delivered in a form that enables the recipient to store, retrieve and print the document; (5) conforms to the requirements of law; and (6) allows the franchisor to prove that he delivered the document electronically.

The Federal Trade Commission issued a Staff Report in August, 2004, that reflected on possible changes to the “Franchise Rule”. This Report echoed the NASAA statement in several ways. Most importantly, the Report endorsed the legitimacy of electronic disclosure if certain conditions were met. Specifically, the Report requires the disclosures to be in a form that permits the franchisee to retain the document for future reference. The prospective franchisee must also have the ability to opt out of the electronic disclosure process, and obtain a paper copy of the document if so inclined. Finally, the Report mandates that the franchisor provide the prospective franchisee with “how to” instructions for downloading and signing the electronic document.

Many commentators have argued that E-SIGN legislation is an express invitation to the use of electronic disclosure. Others have contended that NASAA’s Statement of Policy and the FTC’s August 2004 Staff Report have authorized its use with certain qualifications. Either way, it appears that there is now a firm legal foundation for the right to electronic disclosure in the United States. This is further reinforced by the fact that the FTC has, in limited instances, expressly sanctioned the use of electronic disclosure for franchisors who diligently adhere to their guidelines. However, until such time as the FTC Franchise Rule is formally amended, it will be impossible to determine with any precision the parameters for electronic disclosure in the United States.

Canadian franchise law has been far less progressive than its American counterpart. While American franchise law is regulated by both federal and state government, Canada has no federal franchise legislation, and there are currently only three provinces (Ontario, Alberta and Prince Edward Island, with New Brunswick pending) that regulate franchising. Of these provinces, none expressly provide for the use of electronic disclosure. Further, to the best of this author's knowledge, there have been no discussion papers, no opinions solicited, and no proposed legislative amendments that have contemplated extending to Canadian franchisors the express right to electronic disclosure.

True to its onerous form, the Arthur Wishart Act, Ontario's franchise legislation, does not contemplate the electronic delivery of discovery documents. The Act states that a disclosure document can be delivered "personally, by registered mail or by and other prescribed method." Prescribed refers to the Act's enabling regulations. However, the regulations do not prescribe any alternative methods of delivery. While other statutes leave room for interpretation, the strict wording of the Arthur Wishart Act suggests that, until such time as the Regulation is amended, franchisors will be limited to the two methods of delivery currently contemplated.

So far as franchise legislation goes, the Alberta Franchises Act is a bit of an anomaly in that it fails to prescribe any method for the delivery of disclosure documents. The Act states that "a franchisor must give every prospective franchisee a copy of the franchisor's disclosure document." The Act does not prescribe how the document must be delivered, nor does it provide a definition of the term "give". None of the content requirements prescribed by the Act or its regulations seem to be incompatible with the electronic delivery of disclosure documents. Presumably, this means that franchisors in Alberta can legally "give" prospective franchisees disclosure documents through any manner of delivery. Unfortunately however, the regulations to the Act and the common law have yet to provide any guidance in this respect.

Earlier this year Prince Edward Island introduced the Franchises Act, thus becoming the third Canadian province to statutorily regulate the franchise relationship. But unlike the Ontario and Alberta Acts, it seems that the drafters of the PEI Act may have turned their minds to the possibility of electronic disclosure. The PEI Act states that a disclosure document can be delivered "personally, by registered mail or by any other prescribed method." However, the regulations to the Act clarify that "the prescribed method of delivery is any method which is agreed on in writing by the franchisor and the prospective franchisee." The regulations to the Act have yet to be enacted, so there remains some uncertainty as to how they will appear in final form. However, at present PEI appears poised to become the first Canadian province to sanction, albeit implicitly, the electronic delivery of disclosure documents.

Conclusion

There is no denying how far we have come in the practice and regulation of e-business. At the same time, there is no denying how far we have yet to go. The opportunities for e-business are endless, but many of those opportunities remain closed because of outdated legislation and/or our lack of faith in existing security systems. In many instances, such as with the electronic delivery of disclosure documents, it will be necessary to await legislative change before those opportunities become reality. But the rapid proliferation of global e-commerce legislation suggests that governments are becoming increasingly aware of technological innovation and its centrality to modern corporate commercial transactions. If we continue along this path, it will be those who remain attentive to legislative and technological change who will be the first to share in its rewards.

Author:. Peter Macrae Dillon is one of North America’s leading and most-respected franchise attorneys. He is licensed to practice law in Ontario and New York. He specializes in advising start-up franchisors in the conversion and early stages of franchising. His group represents mature Canadian and American franchise systems operating in Canada, the United States, and internationally. Email Peter at peter.dillon@siskinds.com or visit his website at: www.franchiselaw.ca peter macrae dillon franchise fra... Go Deeper | Website

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