When Ontario’s Business Law Agenda Stakeholder Panel, created to make the province a more competitive business jurisdiction, filed its report in July 2015, one of the 12 pieces of legislation targeted for a major revamp was the Arthur Wishart Act (AWA), which governs franchising law.
In terms of the sheer scope of the industry, that’s no surprise: Canada has the second-largest franchise industry in the world, behind the US. There are an estimated 1,300 franchise brands with more than 78,000 franchise units across the country employing more than one million Canadians representing upwards of 7 per cent of the working force. Franchising is particularly significant in Ontario, which boasts 56 per cent of the country’s franchise headquarters and 65 per cent of its outlets.
Some 20 per cent of Canadian consumer dollars for goods and services are spent at a franchise. Franchise brands are pervasive, found in a wide variety of industries including food, hotel, car rental, travel, real estate, pharmaceuticals, optical, education, day care and in-home care. The hospitality sector is the largest, comprising almost 40 per cent of franchised brand names. In recent years, home-based and mobile franchises have enjoyed the most growth. All the Canadian banks have established national franchise departments.
For all this activity, only six provinces have franchise legislation. Alberta was first in 1971 and enacted a major update in 1995. Six years later, Ontario borrowed heavily from Alberta in passing the AWA. Subsequently, Manitoba, New Brunswick and Prince Edward Island followed with legislation that was substantially similar to that in Ontario.
But the legislation hasn’t really evolved. Alberta’s law has not changed since the 1995 update and Ontario hasn’t revised the AWA – which doesn’t even allow for electronic delivery of disclosure documents – since its inception 15 years ago. Most of the provinces don’t have any statutory provisions to cover distant sales, such as those made online.
To be sure, BC’s new Franchises Act received Royal Assent late last year and the government is busily drafting regulations. At press time, it wasn’t clear when the Act would be proclaimed. “My best guess is that the legislation will be in force in the latter part of 2016,” says Blair Rebane of Borden Ladner Gervais LLP in Vancouver.
But even the British Columbia legislation is substantially similar to the outdated franchise laws in the other jurisidictions. For example, the provisions regarding two of the most significant elements of franchise legislation, namely the disclosure provisions and the duty of good faith and fair dealing, closely mirror their counterparts elsewhere in the country.
As it turns out, disclosure is the major bugbear. Ontario, for example, is one of the only jurisdictions in the world that has an open-ended and subjective standard of disclosure that includes “all other material facts.” To make matters worse, there’s no guidance in the legislation as to what “other material facts” should include, leaving room for considerable interpretation on key disclosure items.
To their credit, BC legislators followed Alberta’s lead by putting a “substantial compliance” provision in their law. It provides that minor defects not affecting a document’s substance will not give rise to rescission, the primary remedy for inadequate disclosure.
That is not to say that the British Columbia legislation won’t suffer from a fair dose of the interpretive uncertainty that plagues the rest of Canada.
“The BC government did not adopt recommendations made by the CFA [Canadian Franchise Association] and OBA [Ontario Bar Association] proposing to limit disclosure requirements to a finite list of ‘material facts’ or to further restrict the definition of a ‘franchise agreement’ to the agreement granting the franchise,” says Larry Weinberg of Cassels Brock & Blackwell LLP in Toronto. “As such, the same indefinite scope of what may need to be disclosed in any one case, present in the other provinces, will likely be a feature of British Columbia’s legislation.”
In fact, it is becoming increasingly challenging and costly for franchisors to comply with governing legislation in any province even with the advice of lawyers with expertise in franchising.
“The only way to determine what’s right and wrong regarding disclosure in Canada is to go to court,” Weinberg says. “Regrettably, the case law is showing us that it’s very easy for a franchisor to make mistakes pointed out in hindsight by a judge who has imposed a standard of perfection that’s just too high.”
This makes life disproportionately difficult for small and medium-sized franchisors seeking to expand their business.
“There’s a level of disconnect between the standards enunciated in the case law and people who want to start franchising, who are typically small-business types,” Weinberg says. “McDonald’s probably wouldn’t be where it is had today’s standards been in place when the company started up.”
Focusing on what should and shouldn’t be disclosed and when it should be disclosed, then, continues to be a pervasive topic of debate among stakeholders, franchise lawyers and the courts. Debate regarding the duty of good faith and fair dealing isn’t far behind. The upshot is that franchisors and their lawyers can’t rely on standard approaches when interpreting commercial contracts.
“You always have to take the equities into consideration in a different way than you would if you were dealing with parties of equal bargaining strength,” says Michael Melvin, who practises in the Fredericton office of McInnes Cooper. “It becomes a key piece of what you’re doing.”
The uncertainty also creates undue costs for individual franchisees and constitutes a significant entry barrier for foreign companies looking to enter the retail marketplace in Canada.
So dire is the uncertainty that in conjunction with business considerations discussed later in this article, it is prompting questions about the continued viability of the franchise model in general. “There are discussions about whether the franchise model is still worth pursuing because of the increasing burden of regulation and the growing complexity of disclosure,” says Jennifer Dolman of Osler, Hoskin & Harcourt LLP in Toronto. “There’s a lot of rethinking going on.”
Not unexpectedly, then, Ontario’s Stakeholder Panel recommended that revisions to the Arthur Wishart Act be focused on creating more disclosure certainty for users, “taking account of legislative and case law developments in Canada, the United States, and elsewhere, and identifying opportunities for harmonization with the other provinces.”
In an interview with Canadian Lawyer, Kenneth Fredeen, Deloitte (Canada)’s General Counsel and a member of the Stakeholder Panel, emphasized that creating certainty for franchisors and franchisees was an “imperative” given that they were operating “in a world where increasingly that’s how business is done.”
To its credit, the Ontario government did follow up on the Stakeholder Panel’s report. In early March, it set up a new Business Law Advisory Council with a mandate to advance the Panel’s recommendations. Peter Viitre of Sotos LLP in Toronto is a member of the panel. Still, just what kind of priority the AWA will get in the massive task involving the overhaul of many statutes remains to be seen.
Meanwhile, the lingering uncertainties have engendered considerable high-profile litigation.
The key decisions, mostly in Ontario and Québec, featured the likes of GM, Pet Valu and Dunkin’ Donuts. But, arguably, what the collective impact of the complex, sometimes difficult to comprehend jurisprudence did most was to highlight the need for legislative change.
The Québec Court of Appeal, for example, found Dunkin’ Donuts liable to the tune of about $11 million for breaching its duty of good faith towards a group of 21 franchisees. The court ruled that the franchisor had failed to protect and enhance its brand in the face of a competitive onslaught from Tim Hortons that saw Dunkin’ Donuts’ market share reduced from 12.5 per cent in 1995 to 4.6 per cent in 2003.
“We’re all waiting to see if Dunkin’ Donuts will impose significant obligations on franchisors to keep up with developments in the business world,” says Joëlle Boisvert, who practises in the Montréal office of Gowling WLG.
But the “wait” period could be somewhat lacking in focus. “The Court of Appeal was not clear on what ‘enhancement’ meant, so franchisors are still calling me all the time about that,” says Stéphane Teasdale of Dentons Canada LLP in Montréal. “The truth is that I’m up to my fifth binder of cases on franchise issues generally and new issues are still arising.”
As well, because Québec has no franchise legislation, controversy still rages about whether and how Dunkin’ Donuts affects the duties of franchisors in those provinces that do have franchise laws.
“Some commentators have argued [that the Supreme Court of Canada’s decision in] Bhasin, [which for the first time held that a duty of good faith existed with respect to all contractual dealings], combined with Dunkin’ Donuts, increases the duties of franchisors across Canada,” says Dolman. “But Dunkin’ Donuts is based on concepts contained in the Civil Code of Québec that are not mirrored in the law of other Canadian provinces, and in any event, the decision is not binding on courts outside of Québec.”
The mere reference to the concept of good faith in both Dunkin’ Donuts and Bhasin, Dolman maintains, is not sufficient to allow franchisees to argue that the Québec ruling can be applied elsewhere in Canada. “Dunkin’ Donuts is not even about a breach of the duty of fair dealing – it is a breach-of-contract case – one in which both express and implied obligations were breached,” she says.
Indeed, Nadia Effendi of Borden Ladner’s Toronto and Ottawa offices believes courts have been careful not to import Bhasin into franchise law. “What judges are saying is that the focus should be on the duties spelled out in the legislation,” Effendi says.
Less than three months later, the Ontario Superior Court of Justice deferred to GM’s business judgment in dismissing a class action brought by dealers after the company’s Canadian arm, in a reorganization aimed at avoiding a Companies’ Creditors Arrangement Act filing, refused to renew some 240 dealer agreements. Interestingly, the reasons for judgment made no reference to Dunkin’ Donuts.
At press time, the Dunkin’ Donuts case was the subject of a leave to appeal application to the SCC, while the GM case is on appeal to the Ontario Court of Appeal. All of which means that the status of even the clearer principles enunciated in these cases remains uncertain.
But no more uncertain than other important issues, especially those touching on the balance between franchisor control and franchisee rights. Towards the end of 2014, the Ontario Superior Court decided, in Pillar to Post, that a franchisor could enforce an arbitration clause precluding a franchisee from participating in a class action. By contrast, the Cora decision from the Ontario Court of Appeal, delivered just a few months after Pillar to Post, established that franchisors could not rely on contractual provisions requiring franchisees to release claims otherwise enforceable under Ontario law. Most recently, the issue arose in the GM case, where the Ontario Superior Court ruled that waiver by a franchisee of a right under the Wishart Act will generally be void and unenforceable unless the release is given by a franchisee with the advice of counsel in settlement of a dispute for existing and fully known breaches of the legislation.
“Generally speaking, the jurisprudence has created a moving target for franchisors,” says Helen Fotinos of McCarthy Tétrault LLP in Toronto.
In fact, it was only as recently as January – a decade and a half after the legislation was enacted – that the Ontario Court of Appeal, in a case involving Pet Valu, clarified that franchisors’ statutory duty of good faith and disclosure did not go beyond the performance and enhancement of the franchise agreement, and that the duty of disclosure and the duty of fair dealing are separate duties.
There are also no cases on the emerging issues arising from master franchise disputes, which tend to arise in the context of foreign franchisors. “I’m handling four of these disputes right now, and I couldn’t find a single cited case where the issue was discussed,” Dolman says.
All of which is not to say that there has been a total absence of progress on the certainty spectrum. “In a general sense, we are finally getting a significant body of case law that provides franchisors and franchisees with some guidance,” says Ned Levitt of Dickinson Wright LLP in Toronto.
Still, just in case the uncertainty arising from domestic legislation and case law isn’t enough of a headache for the franchise business, developments in the US have raised the spectre of a serious new blow to the industry.
In 2015, the National Labor Relations Board suggested in Browning-Ferris Industries of California that joint-employer status could arise when a party had the contractual right to control terms and conditions of employment. The previous test required the actual exercise of such control. Under the new test, franchisors could be liable as joint employers of their franchisees’ staff if the franchise agreement was drafted to include or imply control over employment, regardless of whether the franchisor in fact exercised such control. Franchisors found to be joint employers could be held responsible for each of their franchisees’ union obligations and hiring and firing relationships.
Considering it is not binding in Canada, Browning-Ferris has caused quite a stir in franchising circles here. “The idea behind franchising is to grow with partners who are independent contractors and invest their own capital,” Teasdale says. “Making the franchisor a joint employer annuls that concept because it means the franchisor becomes invested in the business of the individual franchisee.”
The prospect of joint employment in the industry is most acute in Ontario, where the government is considering changes to the Employment Standards Act and Labour Relations Act. “If joint employment arrives anywhere in this country, it will be a game-changer,” Shaw says.
Weinberg goes so far as to call the threat an “existential” one. “The unions are pushing very hard to say franchisors should be joint employers, on the theory that franchising itself is some kind of sham created just to defeat unionization,” he says. “But it’s not and if these changes come, people aren’t going to be franchising anymore.”
At its core, the conundrum arises from the fact that the heart and soul of franchising success is brand consistency and uniformity of customer experience. “Because franchisors are allowing franchisees to share their marks and their brands, they are also sharing their reputation, and therefore they need to make sure they have certain controls in their agreements,” Dolman says.
But decisions on whether a joint employment relationship exists have historically turned on the control issue as well. “If franchisors start exercising too much control over the nitty-gritty of employment practices, particularly hiring and firing, they could be creating a risk that they’ll be characterized as joint employers,” Dolman says.
What’s problematic is that there’s no bright line in the law as to the degree of control required to invoke a finding of joint employment. “Franchisors have to be careful not to cross over the line, but the line is not definable,” says Susan Friedman of DLA Piper (Canada) LLP in Toronto.
So while there have yet been no legislative or jurisprudential developments on this front in Canada, some franchise lawyers are taking a cautious, preventative approach. “We’ve been advising some of our clients to scale back on some of the areas in their operations manuals and practices that touch on employment issues,” Fotinos says.
Control is also at the core of concerns regarding the impact on franchisors of Ontario’s Healthy Menu Choices Act, which comes into force on January 1, 2017. The new legislation requires regulated food-service premises with 20 or more locations in Ontario that sell prepared, ready-to-eat food to post itemized caloric and other nutritional content on menus.
Although the CFA successfully advocated for lawmakers to change the application of the Act so that franchisors won’t, as originally contemplated, be liable for breaches of the law by their franchisees, franchisors will still have to be careful that they do not fit within the category of someone “who has responsibility for and control over the activities.” The Act is specific in providing that such a person “may” in fact include a franchisor.
Quite apart from these discrete issues, the franchise industry is absorbed in many of the challenges confronting other sectors of the economy. “Franchising is just a method of distribution, so franchisors and franchisees have to deal with the issues facing other businesses,” Levitt says.
So the franchise industry, like the rest of the business community, has to deal with the rapidity of change. Franchisors, however, face unique challenges in adapting to change.
“Franchisors are not dealing with employees, they’re dealing with independent businesses,” Levitt says. “You can’t just order them to change, and if franchisors want change, they have to want it for everyone, including the franchisees, because otherwise the competition will chew them up.”
But, for example, advances in technology aimed at enhancing business opportunities and productivity can be problematic for a franchise system. “Certainly in the case of less sophisticated franchisors who are looking to expand, issues such as knowing how to use technology to enhance business, the financial impact of investing in technology, and related issues, such as cybersecurity, privacy and social media, can present a problem,” Teasdale says.
Even sophisticated franchisors, however, see social media as a challenge, partly because there has been a demographic shift to younger franchisees in an era where entrepreneurship has assumed a certain cachet.
“Managing social media is a big issue for franchisors because you’re getting a lot of franchisees who tweet, blog and Facebook,” Friedman says. “There’s no question that franchisors want to market to young people but they also want brand uniformity and marketing consistency, which raises control issues as well.”
Then there’s the influence of e-commerce and omni-channel distribution networks. “These are the types of things that have radically altered the traditional franchise model, forcing everyone in the system to reconsider things like territorial exclusivity, profit sharing and marketing,” Fotinos says.
Change aside, however, franchising remains a business model that has proven to be quite stable. Fotinos, a former general counsel at Kia Canada Inc. and St. Louis Bar & Grill, believes that the continuing inflow of American franchise systems will fuel the Canadian market. Friedman maintains that franchises will continue to be attractive propositions for an aging population not quite ready for retirement but with retirement packages in hand.
However that may be, it will be a host of business considerations that will determine the future of franchising. But as history has shown, what the legislators and the judges do could have a profound impact on the balance between franchisors and franchisees that is so critical to the future of the sector. That’s where lawyers with the proper expertise come in.
“It’s no place for amateurs,” says Levitt.