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Recent Issues of Importance in Franchising -- Franchise Lawyer Canada

Written by: Peter Macrae Dillon

Article Overview: This article examines some of the current legislative and judicial developments occuring in Canadian franchising. peter macrae dillon franchise franchisor lawyer attorney Toronto Ontario Canada www.franchiselaw.ca

Recent Issues of Importance in Franchising -- Franchise Lawyer Canada

Recent Developments of Importance in Franchising

Legislative Status

At present, there are only two provinces with franchise legislation, Alberta and Ontario.

ONTARIO

The Arthur Wishart Act (Franchise Disclosure), 2000, S.O. 2000, c.3 brought Ontario into the club of jurisdictions with franchise-specific legislation. The Act is somewhat unique and certainly one of the most demanding from a presale disclosure perspective, since it requires that all material facts, including those prescribed by regulation, be disclosed to prospects in a single, written document not less than 14 days prior to the receipt of monies by the franchisor or the signature of any agreement relating to the franchise by the prospect. Rights of rescission for nondisclosure or late disclosure exist, as does a right to damages for any misrepresentation contained in the disclosure document. The Act also sets a high watermark with respect to its relationship-governance provisions, which require that the parties deal fairly with each other, which includes a duty to act in good faith and in accordance with commercially reasonable standards. Finally, the Act enshrines a right of association for franchisees, and prescribes penalties for contravention of the right by a franchisor.

ALBERTA

After 25 years of prospectus-like franchise legislation, Alberta enacted presale disclosure legislation in 1995; the Franchises Act, R.S.A. 2000, c. F-23. Alberta no longer requires registration, filing or review of a disclosure document intended for use in Alberta.

Congruency

The legislation in Ontario and Alberta is substantially similar. However, there are many notable differences. For example, Alberta permits payment of a refundable deposit by a prospect prior to delivery of a disclosure document, while Ontario does not. There are also a number of differences in the formatting and content of disclosure documents which likely precludes using a disclosure document prepared under one province’s regime from being used in the other. The Ontario standard of fair dealing is more onerous than that of Alberta, requiring an unlimited obligation to act in good faith and in accordance with reasonable commercial standards. The latter requirement appears to be unique in the world of franchise legislation. A notable difference for American practitioners is the express ability granted by Alberta to use a "wraparound" document to conform a disclosure document prepared in accordance with the laws of another jurisdiction for use in Alberta. Ontario contains no such right and indeed contains a number of impediments to the use of foreign disclosure documents.

PEI

In 2001, draft franchise legislation was introduced in the Legislative Assembly of Prince Edward Island (Hansard, P.E.I. Legislative Assembly, 29 Nov 2001, p. 19). The Bill was referred to committee for study. The committee recommended introduction of legislation based upon the existing Ontario and Alberta laws. The legislation has not yet been enacted, as P.E.I. is awaiting the proposal of the Uniform Law Conference of Canada, discussed below.

PERSONAL INFORMATION PROTECTION AND ELECTRONIC DOCUMENTS ACT

The Personal Information Protection and Electronic Documents Act, 2000 S.C., c. 5 (“PIPEDA”) became enforceable against all private commercial enterprises in Canada on January 1, 2004. It is intended to create a balance between individual privacy rights and the needs of organizations to collect, use and disclose personal information for reasonable commercial purposes. PIPEDA, as well as the Canadian Standards Association Model Code for the Protection of Personal Information (CSA Standard CAN/CSA-Q830-96, 1996) and the European Union’s Data Protection Directive, all allow for consent to the collection of personal information to be implied.

In February 2002, the Government of Ontario released a draft version of the Ontario Privacy of Personal Information Act (“PPIA”). With the defeat of the provincial government in the November, 2003 election, PPIA died on the Order Paper. While no official word appears to have been provided by the government yet, there are indications that the new Liberal government will introduce a version of PPIA. If enacted, PPIA or its successor will be intended to supersede PIPEDA by being “substantially similar” to the federal legislation, as required for the provincial law to take priority over PIPEDA.

PROPOSED AMENDMENTS TO THE COMPETITION ACT

In what appears to be a follow-up to the introduction of Bill C-23 in June of 2002, the federal government released a Discussion Paper which detailed the next round of proposed amendments to the Competition Act (the “Act”) on June 23, 2003. Among the noteworthy initiatives proposed in the Paper (many of which were reflected in Bill C-23) are a minimizing of the burden required to obtain criminal convictions, such that there will be no need to establish “undue” lessening of competition to obtain a criminal conviction. It is also proposed that the Competition Tribunal be empowered to impose financial penalties for breaches of the Act’s non-merger civil reviewable practices, including tied selling, refusals to deal, exclusive dealing and abuse of dominant position. Breaches of such practices are also proposed to be subject to civil penalties, in contrast to the Act’s current limiting of recovery to criminal actions only. Additionally, the Paper suggests repealing the Act’s criminal prohibitions against price discrimination, predatory pricing and promotional allowances and have the Act’s “abuse of dominance” civil provisions provide the appropriate remedy.

It is suggested that franchisors that operate multiple franchise systems in related business sectors will want to follow these developments to ensure that their operations are in accordance with the Act. The opportunity for a member of the public to bring a civil action under the Act instead of having to bear the expense of doing so before the Competition Tribunal, combined with the lowered burdens necessary for a finding of guilt, may result in an increased amount of litigation in areas where there was previously little activity.

THE UNIFORM LAW CONFERENCE OF CANADA

The purpose of the Uniform Law Conference of Canada (ULCC) is to harmonize the laws of all Canadian jurisdictions. Although the ULCC promulgated a draft model law on franchising in 1984, it has decided to propose a new draft model franchise law, based upon the existing franchise legislation in Ontario and, to a lesser extent, Alberta, due to the interest in various provinces in introducing franchise legislation. On June 17, 2002, it announced the establishment of the National Franchise Law Project and a working committee (the “Committee”) thereunder to consider and make recommendations for the adoption of uniform franchise legislation. The ULCC directed the Committee to continue its work at its annual meeting on August 21, 2002.

The Committee released a report on August 11, 2003, with a copy of its running draft of the proposed legislation. The Model Act is intended to improve upon both the Ontario and Alberta statutes. As disclosure requirements are dealt with largely by way of regulation in Ontario and Alberta, the Committee has only dealt with issues surrounding disclosure documents in a general sense thus far.

LIMITATIONS ACT 2002

The Limitations Act 2002, S.O. 2002 Chap. 24 came into force January 1, 2004. The cumbersome inconsistencies in the previous Limitations Act have been addressed and will result in greatly reduced timeframes for the commencement of the majority of personal actions in the province. Though there are exceptions, there is now a basic two-year period during which all lawsuits must be commenced from the date of discovery of the claim. This will, in turn, simplify the establishment of dates related to a claim. Additionally, it may also make it more difficult for parties to postpone or negotiate around the obligations under the new Limitations Act.

UNIDROIT

Any mention of Joint Subcommittee? No mention in last year’s summary…

RECENT CASELAW OF SIGNIFICANCE TO FRANCHISING

DISCLOSURE / RESCISSION

Payment of a deposit is sufficient for the purposes of making all parties subject to the terms of the Arthur Wishart Act. A deposit was provided to a potential franchisor without the receipt of a disclosure document, and the franchisee later sought to have the franchise agreement rescinded and provided a notice of rescission, prior to the completion of the purchase. Franchisor argued that protection under the Act does not arise until one is a franchisee, which cannot happen until a transaction has been closed and finalized. The Courtdisagreed, holding that the provision of the deposit and the securing of the balance of a vendor take back loan was sufficient to afford the purchaser the protection of the Act, and that any other result would nullify the very protection that the Act was designed to provide. (1368741 Ontario Inc. v. Triple Pizza (Holdings) Inc., [2003] O.J. No. 2097 and Bekah v. Three for One Pizza, [2003] O.J. No. 4002 (S.C.J.))

Attempts to avoid the disclosure requirements by putting the potential franchisees on a three-year “probationary period” were found to be unacceptable. Calling a license fee a “payment for instruction” did nothing to sway the Court that it was just another name for a fee that was an indicator of a franchise arrangement. Furthermore, the defendant that takes advantage of a plaintiff’s vulnerability by not reducing an agreement to writing to ensure its terms could not be conclusively proven was sufficient to warrant the awarding of punitive damages as well as rescission of the franchise. (Khachikian v. CMAC Toronto, November 23, 2003, Unreported – court file number 02-CV-233261SR, (Ont. S.C.J.))

No exemption is available from the provision of disclosure documents when the vendor and the franchisor are, effectively, one entity. Plaintiff sought rescission on the basis that it had not received disclosure when it purchased an existing franchise from a related company to the franchisor. Defendant franchisor argued that they were not required to provide disclosure under the Arthur Wishart Act because they were not involved in the sale, which was merely a resale by an affiliated company. The Court found that both entities were treated by their principals as one entity, and that each was effectively acting as the franchisor. Therefore, no exemption from the disclosure requirements was available and the plaintiff was granted rescission of the franchise agreement and associated costs and losses. (MAA Diners Inc. v. 3 for 1 Pizza and Wings (Canada) Inc., [2003] O.J. No. 430, (S.C.J.))



CONTRACT LANGUAGE / INTERPRETATION

In a Development Agreement between a franchisee and First Choice Haircutters Ltd., the word “shops” was defined ambiguously such that the plaintiff contended it meant generic full-service haircutting shops, and not just First Choice shops. The plaintiff desired the right to establish any sort of full service salon, regardless of brand. The core documents, being the Development Agreement, the Unit Franchise Agreement, and the Trademark License Agreement, were examined and it was clear that only First Choice shops were intended to be available to the franchisee. Any other interpretation would have created a scenario of commercial absurdity. Contra proferentum was not applied as the ambiguity was resolved internally within the documents, nor was the plaintiff allowed to rely on section 3 of the Arthur Wishart Act, as there was no evidence of bad faith dealing between the parties. (Simpson v. First Choice Haircutters Ltd., [2003] O.J. No. 2884 (S.C.J.))

During the share sale of the whole of the Algonquin Travel franchise system, indemnity/exclusion provisions were included in the sale documentation sheltering the purchaser from liability post-closing related to various claims save and except for current claims of identified franchisees regarding volume rebate payments. These exceptions from the indemnity were identified on a separate schedule. Your Travel was a franchisee that initiated litigation regarding volume rebate payments subsequent to the drafting of the exclusionary clauses as part of the sale of Algonquin Travel and was not part of the schedule. At issue was whether the claim by Your Travel would be captured under the Share Purchase Agreement’s general indemnity provisions since it was not included on the schedule to the SPA, thus sheltering the purchaser, or whether it was substantively the same claim as the other actions referred to in the side letter, which would absolve the vendor from liability. Furthermore, the vendors asserted that the purchasers were well aware of which franchisees, including Your Travel, had clauses in their franchise agreements obligating the franchisor to provide volume rebates and thus such related actions were able to be anticipated and it was the real intention of the parties that all such actions were to inferred into the amending agreement. It was found that the parties should have stated if this was, in fact, their real intention, and the Court was not willing to infer anything to find in favour of the vendor. Particular claimants having been clearly identified in the amending agreement made the Court loathe to infer that other parties should reasonably be part of the list. The Court also noted that the amending agreement used the term “waiver of certain specific indemnities” and cited the use of “specific” as an indicator that the parties intended the waiver to apply in only a limited manner. Caution is recommended for solicitors who are involved in commercial transactions where ongoing litigation plays a role in the drafting of transactional documents, that care be taken in the drafting language used to reflect the true intentions of the parties both at present and in the foreseeable future. (172238 Canada Ltd. v. Algonquin Travel, [2003] O.J. No. 148 (S.C.J.))

In another interesting case, the defendant franchisor decided to change the look and name of the franchise system and cease using its former name. When plaintiff refused to change the name, which he was not explicitly required to do under the franchise agreement, franchisor unilaterally withheld funding and caused an immediate drop in the franchisee’s revenues and then sought to have the entire franchise agreement terminated. The Court found that the franchisor was not within its rights to terminate the franchise agreement. The franchise agreements were found to be clearly worded and entitled the franchisee to use the name for which he paid. There was nothing in the franchise agreement that limited the plaintiff’s right to use the original business name. The Court reasoned that goodwill attaches to names under which businesses are developed, and as such any clause purporting to take away such a valuable business asset should be so worded in clear, unambiguous language. If there was any ambiguity, which the Court did not find, the franchise agreement should have been interpreted under the notion of contra proferentum. (Halligan v. Liberty Tax Services Inc., [2003] M.J. No. 289 (Q.B.))

TRADEMARKS

Similar trademarks associated with similar wares and services were found not to be infringing each other provided that any confusion that may have arisen was not found to cause any specific harm. Boston Pizza International (“BPI”), using the “Boston Pizza” mark in Canada since 1965, filed a request for an interlocutory injunction against Boston Market Corporation (“BMC”) to prevent the use of the trade name “Boston Market” in association with restaurants or the sale of prepared foods. BMC argued that their restaurants catered to a different kind of client than did Boston Pizza, since BMC’s focus was on drive-through, take-out, self service, and prepared meals. As evidence of their claim of confusion, BPI adduced a study demonstrating that 18% of the population that visited restaurants were likely to confuse BPI and BMC as being one and the same entity. However, the Court found that not only did BPI not show a likelihood of immediate and irreparable harm sufficient to justify the granting of the interlocutory injunction, but also that the clientele of the two businesses was sufficiently distinct as not to create confusion among the public. Finally, as BPI could not establish any specific loss had occurred, the Court was resistant to speculate on future losses in light of the above. The differences in the business models of the two firms clearly had a strong effect on the court, but one wonders if the result would have been the same if the cited marks did not both include a generic geographic name but instead contained more of an artificial trade moniker that was shared among both companies. (Boston Pizza International v. Boston Market Corp., [2003] F.C.J. No. 531 (F.C.))

JURISDICTION

In a dispute over jurisdiction, defendants claimed that Alberta was the forum conveniens because the Franchises Act, which applied to the agreements in question, gave the Alberta courts jurisdiction. The franchise agreements also specified that Alberta law would govern. However, the Manitoba Court of Queen’s Bench disagreed, holding that the Franchises Act did not give Alberta courts exclusive jurisdiction. The plaintiffs had chosen to bring the action in Manitoba, and their right to choose the forum was an important consideration for the court. The Court also found a real and substantial connection to Manitoba, in that the defendants all carried on business and resided in Manitoba. (1279022 Ontario Ltd. v. Posen, [2003] M.J. No. 133 (Q.B.))

In a British Columbia Supreme Court dispute between Clayton Systems 2001 Ltd. (“Clayton”), as plaintiff purchaser of rights to 10 Quizno’s franchises, and defendant Quizno’s Canada Corp. (“Quizno’s”), the Court also overruled the forum selection clause in the franchise agreement. The original defendant in the case was QCC Ventures (“Ventures”), who was sued by Clayton for alleged misrepresentations. The plaintiff sought to add Quizno’s as a third party, alleging that Ventures had transferred all of its assets to Quizno’s, including the franchise agreements entered into by the plaintiff, prior to being served with the statement of claim. Quizno’s sought to have the third party notice desired by Ventures stayed on the basis of the choice of forum clause in the franchise agreements, which identified Colorado as the sole venue for any disputes relating to the agreement. The Court stated that a party who desires another forum has the burden of establishing a strong reason for the change of venue. Because the agreement was between two B.C. companies, was negotiated, drafted and signed in B.C., almost all of the assets transferred were in B.C., Quizno’s only known assets were in Canada, and that there was a trial underway in B.C. already, the Court was satisfied that Ventures met the burden of demonstrating why the forum selection clause should not determine the venue of the third party proceedings. (Clayton Systems 2001 Ltd. v. Quizno’s Canada Corp. et al., [2003] B.C.J. No. 2342 (B.C.S.C.))

LABOUR

Although a franchisor may exert some degree of control and varying degrees of involvement with a franchisee’s business, it is not generally deemed to be an employer of the franchisee’s employees when claims for unpaid wages are made. However, when the level of control over the management of the business is such that it is “substantial” in the eyes of the Court, the franchisor can become an employer under provincial labour legislation. (Youngblut v. Jim & Jaklen Holdings Ltd., [2003] W.W.R. 124 (Sask. Q.B.))

INJUNCTIONS and NON-COMPETITION COVENANTS

Plaintiff appealed an order dismissing its motion for an interim injunction restraining the defendant from operating a Sussex Insurance agency, which plaintiff claims occurred under a sale that violated its right of first refusal to purchase the franchise. The terms of the franchise were contained in a separate document that did not mention the right of first refusal. Plaintiff argued that trial judge erred in his assessment of irreparable harm and balance of convenience, and that it was not necessary to demonstrate irreparable harm because the covenant was a negative covenant and as such the standard for the granting of the injunction was merely to show a fair question to be tried. The appeal was dismissed, as the Court found that difficulty in quantifying damages does not make them impossible to determine, and thus one of the requirements for an injunction was not met. Additionally, the Court held that a negative covenant is less likely to be enforced on an interim basis than at trial. Therefore, there was no reason to interfere with the discretion exercised by the trial judge. (Sekhon v. Armstrong, [2003] B.C.J. No. 1552 (B.C.C.A.))

GOOD FAITH

One of the most important cases of the year affecting franchises was the decision of the Ontairo Court of Appeal in Shelanu. This case involved several areas of dispute between the franchisee Shelanu Inc. (“Shelanu”) and the franchisor, Print Three Franchising Corp (“PTFC”). Shelanu wanted to enforce an oral agreement made between the parties that it could treat both of its franchises as one entity, thus increasing the royalty rebates payable to the franchisee. The Court of Appeal found that oral agreements that do not conflict with the written agreements were enforceable, notwithstanding the existence of an “entire agreement” provision in the document. The case had other significant aspects to it as well. Franchisees saw their ability to render the franchise agreement unenforceable as a result of the franchisor’s “fundamental breach” severely curtailed. The trial Court found that the various failings and breaches by PTFC constituted a fundamental breach. The appeal Court held that none of these breaches impaired the ability of the franchisee to carry on the commercial purpose of the agreement or deprived the franchisee of substantially the whole benefit of the contract, and were therefore not fundamental and the franchisee remained bound under the franchise agreement. Regarding the good faith standard, the Court reaffirmed that no fiduciary relationship exists between the parties, and that franchisors may act in their own self interest, with the crucial caveat that they have regard to the legitimate interests of their franchisees. Therefore, franchisors must now consider the interests of their franchisees before they exercise their discretionary powers. In doing so, the franchisor must act honestly and reasonably. Despite the fact that PTFC had started a competing franchise system, also in the printing business segment, which caused the trial judge to declare it “intrinsically troublesome for a franchisor to develop a concept for a new franchise operation that will operate in competition with its existing franchise operation”, the Court of Appeal found that the trial judge had failed to consider several material factors. These included the fact that none of the new franchises were in the franchisee’s exclusive territory, the franchisee did not complain about the action for nearly 7 years, the new system targeted a different business sector, and no evidence was presented to establish any lost income as a result of competition from the new franchise system. (Shelanu Inc. v. Print Three Franchising Corp., [2003] O.J. No. 1919 (Ont. C.A.))

Lessons for franchisors abound in this very important decision: the importance of reducing amendments to writing; the circumstances under which parallel competing systems may be established; the kind of conduct that will constitute a fundamental breach by the franchisor; and clarification of the franchisor’s obligations to adhere to a good faith duty toward its franchisees.

Franchisors, as well as a landlord, were also found to owe a duty of good faith to franchisees, despite there not being a fiduciary relationship between the parties, in a dispute between a franchisee and Country Style Food Services Inc. (“Country Style”). Country Style held a head lease and sublet the location to the franchisee for a term of ten years. A year after opening, the landlord constructed the shopping mall in a manner very different from that of the lease documents provided to the franchisee, which resulted in losses to the franchise. The franchisee responded by withholding payments owing to the franchisor, and was sued by Country Style. The Court allowed the franchisee’s counterclaim, which was the subject of the instant case, against both Country Style and the landlord. It was held that Country Style had a duty to act on the franchisee’s behalf in its dealing with the landlord, but also that the landlord ought to have foreseen that the franchisee would rely on the representations in the original site plan, and that it possessed special and unique knowledge and changed the plans for the shopping mall fully aware of the effect it could have on the franchisee’s business. Thus, as a result of the special relationship between the landlord and the franchisee, the landlord was found to owe a duty of good faith toward the franchisee. (Country Style Food Services Inc. v. 1304271 Ontario Ltd., [2003] O.J. No. 362 (S.C.J.))

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Re: Info for would be franchisers... - [quote="Sebastien":1d29sdv1]Like Franchise Times, Franchise Update is a very practical magazine. There is no blah blah, just straight facts that anyone in the franchise community can relate to. I just want to mention that all these magazines are NOT franchisee oriented. I mean these magazines are for franchise professionals. If you're looking to buy a franchise, you won't find much information in there. To answer your question, getting published in Franchise Times was fairly easy. I don't want to brag too much but I think I am known in the franchise industry. I was the marketing guy at Franchise.com for a few years before joining my new company, the World Franchising Network. So people know me and I have a very good relationship with Nancy Weingartner, the Managing Editor at Franchise Times. I was talking with her at the last Franchise Expo South in Miami and she mentioned she'd like me to be profiled. I was like "ok, sure!". I like this franchise executive profile thing in Franchise Times as it is rarely BS. People are usually really natural in there.[/quote:1d29sdv1] Thanks for the follow up Sebastien! And I can't say that I'm surprised that networking with the right people and managing your relationships with them properly are the keys to being published. I guess the old adage holds true of "it's not who you know, but who knows you" that's important.
canada resources - I used to have a connection to a franchise consultant in Canada at "Franchise Officer" in Toronto. I wish I could remember his name ( but I can check my files at the office tomorrow). Anyway, he had a lot of connections to banks in Canada. He may know of them and may be able to offer some feedback. If you are looking for a business loan, Canada has similar business loan programs to that of the USA's Small Business Administration (SBA). I think its SLBS in Cananda, and I probably have the list of it's lenders in my office also. Do you think either can be helpful? If so, I can get back to you with this information tomorrow. Let me know!
Re: Hello EvanCarmichaelers, and Thanks! - "Carmichaelers" ..nice.. Over at the Young Entrepreneurs I'm going to start calling my readers "DSilvelers" - I like the sound of that! Welcome on board theFranchiseMarket. Do you run a Franchise Business or are involved in Franchising in anyway?
Re: Info for would be franchisers... - [quote="theFranchiseMarket":3lb4fj39]We subscribe to Franchise Times as well . . . its really a pretty good read and the information seems fresh and direct, without hardly ever being forced, and the advertising unobtrusive in comparison to the content . . . something that is becoming harder to find these days in this industry . . .[/quote:3lb4fj39] Do you read Franchising World, the IFA publication? If so, what do you think of it?
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