\"Canadian retailers going way of the dodo,\" declared The Globe and Mail recently after Future Shop Ltd., the Burnaby, B.C.-based electronics merchandiser, agreed to a friendly takeover by Best Buy Co., the giant U.S. consumer electronics chain, for Cdn$580 million. The acquisition closed in early November of last year.
If extinction is in the cards for Canadian retailers, any post-mortem must assign considerable responsibility to the extraordinary power of U.S. brands. As noted in an article in the September 8, 2001 issue of The Economist: “Brands have thus become stalking horses for international capitalism. Outside the United States, they are now symbols of America’s corporate power, since most of the world’s best-known brands are American.”
U.S. fast food brands such as McDonald’s and Wendy’s and big box operations like The Home Depot and Costco are now regular features on the Canadian commercial landscape, as are Starbucks, Payless, Talbots, Winners, Foot Locker and Bulk Barn. On the way to Canada are housewares chain Bed Bath & Beyond, and furnishings heavyweights Williams-Sonoma and Pottery Barn. Ivanhoe Cambridge’s shopping centre division has joined with The Mills Corporation, an American developer, to lure new U.S. retailers to their value-oriented shopping malls, beginning with a huge project just north of Toronto.
Wal-Mart Stores, Inc.—which already boasts a 40 per cent market share in Canada—has announced that it will open a further 15 new stores, bringing its Canadian operations to 194 stores. Sears, Roebuck Inc., controlled by Chicago-based Sears, Roebuck and Co., now owns Eatons, the department store chain that used to be the most enduring symbol of Canadian retailing. New York-based buyout specialists Kohlberg Kravis Roberts & Co. control Shoppers Drug Mart. The void left by the decimation of the Dylex apparel chain has been filled by American fashion giants such as American Eagle Outfitters, The Gap and The Gap’s discount brand, Old Navy.
From a Canadian perspective, a 1998 PricewaterhouseCoopers study noting that 80 of the world’s top 100 retailers have international operations is old news. Ken Jones, director of Ryerson University’s Centre for the Study of Commercial Activity, has estimated that among major chains in Canada, U.S. retailers account for 25 to 30 per cent of sales and occupy more than 60 million square feet of retail space.
Chain stores, defined by the Retail Council of Canada as organizations operating four or more retail outlets under the same legal ownership in the same industry, are a clear example of the power of U.S. brands, i.e., the phenomenal recent growth of Wal-Mart, Starbucks and The Gap. Generally, the market share of chains has risen steadily at the expense of department stores and independents. Chains now account for $75 billion of the $250 billion retail sales market that represents almost half of all Canadian consumer expenditures.
In terms of the Canadian market the U.S. retail invasion is not likely to end soon, fuelled as it is by the North American Free Trade Agreement, a very favourable U.S./Canadian dollar exchange rate, and the proximity of important U.S./Canadian urban centres. Indeed, for many U.S. retailers, key components of the Canadian market are more profitable than various U.S. markets. According to Murray Perelman, a partner with Toronto’s Goodman and Carr LLP and author of Establishing Business Operations in Canada, recent business models and case studies indicate that returns for American retailers in Toronto stores could be better than in U.S. secondary markets.
And what does this all mean for Canadian law firms? The answer is obvious. A major new market. Goodman and Carr leasing specialist Stephen Messinger, whose impressive client base includes Starbucks, predicts that “within five years 90 per cent of Canadian retailers will be owned directly or indirectly by U.S. retailers.” There is a significant “comfort factor” in U.S. brands. As Lawrence Weinberg, a franchise lawyer at Toronto-based Cassels Brock & Blackwell LLP, notes: “As people have more and more mobility, they want to see the brands they recognize from home wherever they go.” So pervasive is the power of American branding that a newspaper photograph flashed around the world of anti-American September 11 demonstrators in London, England showed one protester wearing a New York Yankees cap. The irony was obviously lost on the young man.
Legal work abounds in the American branding invasion. Most frequently, notes Perelman, whose U.S. clients include fashion retailer Talbots, the Morton’s chain of steakhouses and The Mills Corporation, the costs associated with operating in Canada require American retailers to open at least three or four stores to make their business model work. “In the last 10 years,” says Perelman’s partner Ariella Rohringer, also a leasing specialist, “my U.S. clientele has grown so steadily that my retail practice is now predominantly American.” And when Lawrence Weinberg looks for new clients, “I also very much look south, because there is a great wealth of business there that will eventually make its way to Canada.”
Whether U.S. retailers, such as Krispy Kreme and The Gap, enter the Canadian market by opening on a store-by-store basis using corporate or franchised locations, or whether they enter by acquiring an existing Canadian entity—Wendy’s purchase of Tim Hortons, Wal-Mart’s acquisition of the Canadian Woolco stores and the Future Shop/Best Buy deal—the legal work they generate runs the gamut, both transactional and ongoing. Small wonder that the competition for such clients is fierce.
However, it is not simply the financial power of the American brands that makes the U.S. such an attractive target for Canadian law firms. Being associated with a high-profile American enterprise has a cultural and media cachet that translates into powerful marketing potential for the law firms involved. This latter point is part of the reason why Peter Gilchrist, Rachel Ingram and Sheldon Burshtein, the team from Blake, Cassels & Graydon LLP’s Toronto office who, with the lawyers at Toronto-based Daoust Vukovich Baker-Sigal Banka LLP, are the joint winners of the recent beauty contest for the Krispy Kreme account, are so obviously delighted with their new client. “It is of tremendous benefit for Blakes to represent a brand that’s as well known as Krispy Kreme,” says Gilchrist. “If you’re name-dropping clients when you’re marketing, the air of glamour might just rub off.”
Krispy Kreme Doughnut Corporation’s (KKDC) hot-from-the-oven product is produced on site in what Roly Morris, the Canadian who led the recent Starbucks expansion and now has the Krispy Kreme master franchise for Canada, calls “doughnut-making theatre.” The company, with 192 stores in 32 states and plans for 400 stores by 2006, has won a cult following in the U.S. Krispy Kreme’s shares have been recent darlings of the New York Stock Exchange, even during the current bear market. Sales have doubled since 1996 and jumped 40 per cent to $675 million in the fiscal year ended last January. In the first three months of fiscal 2002, net income approached $9 million, an increase of 88 per cent over the previous year. Second-quarter profit was up 65 per cent. The company’s success is based on word of mouth and media buzz so compelling that Krispy Kreme is the subject of repeated references on the popular ER television series.
Canada, with more doughnut shops per capita than any other country in the world, is a natural market for Krispy Kreme. This country has one doughnut shop for every 9,000 Canadians, compared to a U.S. ratio of one outlet for every 26,000 Americans. Of the 39 Krispy Kreme outlets slated for Canada, 32 will be in Ontario and Quebec and seven in B.C., with the first opening scheduled for early 2002 in Mississauga, Ontario. The store’s 100 employees, working around the clock, will produce thousands of doughnuts daily.
KremeKo Inc. is the Canadian operating company that has acquired the exclusive right to develop Krispy Kreme stores in Ontario, Quebec, New Brunswick, Nova Scotia, Prince Edward Island and Newfoundland pursuant to a development agreement with KKDC, which owns 34 per cent of the Canadian company. Private investors own the rest.
In terms of the legal work generated by Krispy Kreme’s entry into the Canadian market, no better summation could be made than that set out in the legal services proposal submitted by Blakes in the Krispy Kreme beauty parade:
According to the proposal prepared by Blakes, Krispy Kreme’s needs will engage lawyers with expertise in commercial and corporate law, acquisitions and securities, foreign investment issues, federal, provincial and local tax planning, commercial real estate leasing, intellectual property (including related litigation), international trade, customs and commodity tax matters, labour and employment law, competition law, advertising, marketing and consumer protection issues, immigration and general litigation.
The list of legal services is long, but not overstated. “We were looking for corporate counsel, general counsel and real estate counsel. We had in our mind those areas in which we would need legal help and the proposal from Blakes identified them all, not missing one,” KremeKo CEO Roly Morris says. “Gilchrist, Ingram and Burshtein clearly understood our needs and were prepared to address them in our conversations.”
Still, Morris makes a point of emphasizing that he and his team were impressed by each of the more than half-dozen top-tier firms they interviewed during the beauty parade. “It was certainly clear that Toronto has world-class law firms with extremely high-quality legal skill sets, and Krispy Kreme would have been well served by any one of them.” Yet, after three days of interviewing it was clear as to what the outcome of the beauty parade would be. According to Roly Morris: “It wasn’t even close as to whom we would choose.” Blakes would become the company’s corporate and general counsel, and Daoust Vukovich would look after the leasing portfolio. Just how and why these two firms won the prize is instructive for any law firm anxious for a stake in the lucrative U.S. retail invasion.
Branding is about image, consistency and cohesiveness, all bound together by that amorphous quality called teamwork. So it should be no surprise that prospective clients for whom branding is the essence of their market success seek lawyers who understand—perhaps intuitively—what makes a particular brand work. Lawyers must be part of the team.
“Blakes got it,” Morris explains. “Without having a business model in front of them, they understood that Krispy Kreme was a very special enterprise that didn’t just sell a product, but an experience, and they were genuinely excited about bringing this brand to Canada.” Whatever the merits of the legal services proposal prepared by Blakes, it could not have escaped the Krispy Kreme team that the firm had taken the trouble to emboss a colour representation of a Krispy Kreme outlet on the cover of its document. Importantly, the proposal was about Krispy Kreme, not about Blakes.
As Morris explains it, attending a Krispy Kreme store is a multi-sensory experience where patrons can view the entire production cycle. “Our customers can smell and hear the making of the doughnut, watch all those moving parts reminiscent of a Rube Goldberg invention, then buy and enjoy a unique, one-of-a-kind-tasting doughnut.”
According to Morris, a number of the firms competing against Blakes had “prepared more,” but in the end Gilchrist, Ingram and Burshtein were the people with whom he and his team wanted a relationship. “Relationships are very important when you’re talking branding,” Morris says. “It doesn’t mean that we have to be buddy buddy with our service providers, but they must be people who have a similar set of business and other values, with an overarching desire to be a part of the team.”
In this beauty contest then, the relationship that mattered went beyond personal considerations. Although it didn’t hurt that Gilchrist, Ingram and Burshtein were “fun, the kind of people with whom you want to burn the midnight oil,” Morris was equally emphatic that the decision to retain Blakes was made despite close, pre-existing business and personal relationships that he enjoyed with other law firms who were in the running.
“For Americans, a personal touch in business is very important from a humanistic, practical and marketing point of view,” says Stephen Messinger at Goodman and Carr. “It’s not a matter of being bosom buddies or friends. Americans want you to care about their business.” Significantly, Rachel Ingram, an M&A and corporate lawyer at Blakes, believes she was selected for the Krispy Kreme pitch team because of her client relations skills. “I’m good at listening to what clients have to say and at getting things done.”
Burshtein, whose practice focuses on the intellectual property (IP) aspects of commercial transactions, was a key member of the team. Branding and intellectual property protection go hand-in-hand,” says Gilchrist. “So expertise in IP is instrumental in getting you on the list of contenders in a beauty contest these days. It’s the specialty that gives you the chance to show the rest of your stuff.”
The firm’s experience with cross-border branding issues was also critical. Members of the firm, including Gilchrist and Burshtein, had been closely involved with other American retailers who have entered the Canadian market, such as Payless, Tower Records and The Home Depot. The firm’s client list also includes an impressive array of major Canadian retailers in various market sectors.
“Knowledge of cross-border branding issues was extremely important to us,” Morris says. “Because this was Krispy Kreme’s first foray outside the U.S., our lawyers had to understand what was involved in terms of the corporate structure, the tax implications and the different approach Canadians and Americans have to the various issues. And they had to understand these things in terms of the way we want to do business, which is all part of getting it.”
Still, when it came to leasing and leasing negotiations, which loomed large in Krispy Kreme’s Canadian future, Morris and his team felt that a boutique that focused on commercial leasing would be more cost-effective and have better contacts with local developers than a large national firm. Eleven-lawyer Daoust Vukovich was tailor-made for the retainer. Founded in 1995 by Dennis Daoust and Natalie Vukovich, Daoust Vukovich is well-known within the retail industry as a top-notch boutique practice specializing in commercial leasing and property development. “People see us as an entity, like a brand, and they know what to expect from us,” says Daoust.
The firm’s unique professional mix combines the experience of former in-house counsel to major developers and landlords who have the skills of large law firm commercial leasing and property development partners. Daoust, for example, spent 10 years as in-house counsel with Cadillac Fairview, supervising the legal end of the property giant’s shopping centre operations. He also practised commercial real estate at Blakes for five years, served a stint as associate counsel to Trilea Centres Inc., which combined the Canadian shopping centre portfolio of Trizec Equities Ltd. and Bramalea Limited, and spent six years as a partner in Goodman and Carr’s strong leasing department in Toronto.
“We look to the high-end work,” Natalie Vukovich says, “and we combine our individual perspective as insiders with a law firm that’s integrated into the industry we serve.” Indeed, the firm’s Kenneth Beallor was formerly legal counsel, Ontario for The TDL Group Ltd., operator of Tim Hortons. As such, Beallor was responsible for all of TDL’s real estate leasing and acquisitions in Ontario, and since joining Daoust Vukovich in 1998, continues to represent TDL in real estate matters.
“As we checked the marketplace, met people and listened to their recommendations, Dennis Daoust and Natalie Vukovich and their firm came highly recommended from a number of sources,” Morris notes. While the law firm was initially concerned about conflicts arising from Beallor’s connection with Tim Hortons, it ultimately became clear that Krispy Kreme and Tim Hortons were targeting different market segments.
For Morris, Daoust Vukovich’s familiarity with the industry was “certainly an attraction.” That doesn’t surprise Fredric Carsley of Montreal’s Mendelsohn Rosentzveig Shacter, who represents a number of significant U.S. retailers in Canada. “American retailers and franchisors are interested in lawyers who have a depth of experience, not only in the sense that they’re business-oriented, but in the sense that they are knowledgeable about the industry and the business of the industry,” he observes. “They look to their lawyers to help them build the business and to establish the brand. When it comes to these things, American retailers don’t want to have to educate their lawyers.” The same point is made by Frank Zaid at Osler, Hoskin & Harcourt LLP in Toronto, who has represented more than 150 U.S. franchisors in the retail and service industries. “The lawyers who gain the confidence of Americans are not mere document reviewers. Rather, they bring to the forefront the business-related local issues with which Americans are unfamiliar.”
Knowing major industry players and their principals is an important attribute for lawyers offering services to American retail clients. This is particularly so when leasing is involved. “The retail leasing community here is much tighter than the one south of the border,” says Messinger. “A Canadian lawyer who can offer access to that community is well ahead of the game in terms of attracting business, because his clients know he will get them a respectful hearing in legal and business negotiations.” This became clear during Messinger’s recent dealings with an American retailer. “One of the things the client was most interested in were the names of the people to call at Olympia & York and Brookfield,” he recalls. “I could confidently give them those names and my own name as a contact and be assured that the big property developers would know the call from my client was a legitimate call.”
Daoust Vukovich did not have a history of representing American retailers, apart from the Zales jewelery chain that purchased Peoples Credit Jewellers. However, the firm did have an impressive track record of negotiating on behalf of developers and landlords opposite U.S. retailers, including Virgin Records, Winners, Best Buy, The Gap, Wal-Mart, Wendy’s, Foot Locker and Bulk Barn. Daoust and his colleagues knew the industry, the issues and the expectations that American-based retailers brought with them.
“Still, we were a little surprised when we got the work,” Daoust says. “In the end, I believe the firm’s personality won the day. Roly was looking for a law firm that displayed some down-to-earth human caring and a practical common-sense approach. Our attitude, which is very much influenced by our lawyers’ experience in-house, is one that moves a deal forward without grabbing control in areas you don’t need to control.”
This was certainly important to Morris. “We don’t want to negotiate in ways that Canadians might regard as onerous. At the same time, the way we do business must reflect the intent of the American corporation.” Frequently, the conundrum arises because U.S. in-house counsel focus on maintaining the integrity of their standard documents, which may contain provisions that are inappropriate in Canada. Edward (Ned) Levitt at Toronto-based Levitt, Beber, and general counsel to the Canadian Franchise Association, emphasizes that Canadian lawyers must understand that instructing American counsel “don’t want us to rewrite the document, just Canadianize it.”
It is an important point. Fredric Carsley’s experience negotiating with Winners demonstrates just how difficult it can be to convince large American retailers to depart from their standard forms. “The individual at Winners who developers deal with here in Canada is a really nice guy, but getting him to change his paper is murder,” Carsley says. “His attitude is ‘We have 2,000 stores where all these documents say the same thing, and we want to keep them the same.’”
Complicating the situation, Messinger observes, are American in-house counsel who are “fairly jealous of their position and want to make sure that they themselves aren’t the weak link, so they try to control the leasing process and the costs involved. In that context, it becomes important for Canadian lawyers to respect in-house counsel’s position in their organization and not try to take control when acting for them.”
That can be a difficult proposition for Canadian lawyers who aren’t accustomed to in-house counsel with so much power. “In-house counsel play a much bigger role for American retailers than for Canadians,” points out Robert E. (Bob) Macdonald, a commercial leasing partner at Blakes, whose practice includes a solid base of U.S. clients. South of the border, in-house counsel are frequently members of the management team and, in fact, are sometimes in the running as prospective CEOs of their company.
Canadian lawyers with cross-border experience also know that the “hot buttons” for U.S. retailers may differ from those of their Canadian counterparts. “Developers who want to attract Americans and avoid negotiating for years must learn to accommodate their views, and it is their lawyers’ business to educate them in those views,” Messinger says. “Lawyers representing American retailers must do the same for them regarding the Canadian perspective. More and more, when dealing with Americans, it is becoming important to make adjustments by way of creative compromise rather than simply saying ‘no’ in negotiations.”
And that’s not always easy says Michael Cogliano, vice-president, legal at Ivanhoe Cambridge, because American retailers are much more demanding than Canadian lessees. “The types of clauses American chains demand are a lot more onerous than what we’re used to seeing, particularly in terms of termination clauses and operating covenants.” The market reality is that brands like The Gap have become so prevalent in shoppers’ psyches that it is hard for a mall to do without them.
As Daoust sees it, that’s not necessarily a bad thing for developers. “Because the continuing viability of a shopping centre depends on constant reinvention and refreshing, the shopping centre industry, like the retail industry, desperately needs fresh ideas and concepts. Only a limited number of these ideas can emanate from Canada, and the Americans have added a great deal to the freshness and pizzazz that’s required.”
Still, Daoust notes, the bargaining situation demands finely honed negotiating skills from counsel. “You’re up against very formidable retailers in a situation where your client needs them or wants them. That makes it tough for the lessor’s lawyer because the last thing you want to be is the person who kills or sours or stalls the deal. You have to examine the positions you’re taking very carefully to ensure that you’re not creating issues that don’t have to be created. Of course you must protect your client and make sure there aren’t any surprises, but you have to be equally careful about projecting your own desire to win the point or your pet concerns into the market.”
Negotiating with powerful U.S. retailing brands is not always a pleasant experience. John Sotos of Sotos Associates, a well-known Toronto franchising boutique, laments the “emotionalism and argumentativeness” in the negotiating tactics of major U.S. chains. Even Dennis Daoust describes some of his experiences across the table from U.S. retailers as “mind-boggling.” The experience is generally the same across Canada. Wayne Whitlock at Bennett Jones LLP in Calgary, who represents several major Canadian developers, says dealing with the U.S. retail invasion has made his practice much more complex. “It’s a challenge and a half and we’re just getting into it. One thing I do know is that it’s not going to get any easier.”
However difficult it may be for lawyers negotiating on the other side of the table, acting for a U.S. retailer presents its own unique challenges. “There’s a big difference in the kinds of questions and broad spectrum of issues that come up when you’re acting for a large American retailer,” says Cory Sherman at Sherman & Associates, a Toronto property development and leasing boutique that has acted on behalf of U.S. retailers such as Best Buy and Restoration Hardware.
Americans have also redefined the standards for top-quality legal service. “The large U.S. chains are so used to things being dropped on them at the last minute and having so many balls in the air at the same time,” says Fredric Carsley in Montreal, “that they don’t think twice about putting their lawyers in the same position.”
On the other hand, Americans tend to involve their lawyers in negotiations—especially lease negotiations—at an earlier stage than Canadian retailers, who, according to Daoust, “like to keep lawyers out of the process for as long as possible.” Americans want lawyers on the case early because they almost invariably won’t start construction or take possession without fully executed leases in place. “They do not feel comfortable making investments in property based on an offer to lease, an agreement to lease, or a letter of intent,” Daoust notes.
Ariella Rohringer at Goodman and Carr prefers dealing with American clients. “They’re far more professional than the Canadians in my end of the business. Many of the Canadians seem to have drifted into retail, whereas the dollars are bigger in the U.S. and many Americans have targeted careers in the industry from the outset. Consequently, they’re very specialized and far more ruthless than Canadians. They go for the jugular in the sense that they know what they want and won’t settle for less. While many Canadian retailers see their leases as delivery mechanisms, American retailers see their leases as assets, and to protect these assets, they want sophisticated counsel.”
According to Rohringer, the U.S. retail influx has had a significant impact on the Canadian leasing market. “Canadian developers have had to be far less one-sided in their approach to bargaining. And the more attractive the brand, the more flexible they have had to be—a business reality that allows large American retailers to command more negotiated provisions in their leases than has historically been the case in Canada.”
As time goes on, however, Canadian retailers with clout have adapted by adjusting their expectations to mirror American demands. “You’re starting to see a convergence,” notes Cory Sherman, “something that was inevitable considering that U.S. and Canadian retailers are competing for the same space.”
Convergence also means, increasingly, that Canadian lawyers are being compared to their American counterparts. That doesn’t trouble Peter Gilchrist at all. “American clients are more demanding on service,” he notes. “But I wouldn’t say they’re more demanding on quality because, with the exception of the top U.S. firms, Canadian lawyers are as good as or better than American lawyers.”
Over time, U.S. clients have come to appreciate the high standards of leading Canadian law firms. “The Americans who come up here are prepared to spend if they believe they’re getting value and if they are satisfied with the level of service,” Gilchrist notes. “And that’s important, because even adjusting for the currency difference, we’re more expensive than any U.S. firms except the ones in New York and Chicago.”
And why not? After all, the power of U.S. brands does not change just because the brand crosses the border. So why should the legal fees paid to “brand name” Canadian law firms to establish the brand be any different in Canada than in the U.S.? As The Economist pointed out in its September 8, 2001 article on the power of brands, strong brands are a “guarantee of quality and consistency…[for which] consumers are prepared to pay a premium.”
Julius Melnitzer is a Toronto legal affairs writer.
If extinction is in the cards for Canadian retailers, any post-mortem must assign considerable responsibility to the extraordinary power of U.S. brands. As noted in an article in the September 8, 2001 issue of The Economist: “Brands have thus become stalking horses for international capitalism. Outside the United States, they are now symbols of America’s corporate power, since most of the world’s best-known brands are American.”
U.S. fast food brands such as McDonald’s and Wendy’s and big box operations like The Home Depot and Costco are now regular features on the Canadian commercial landscape, as are Starbucks, Payless, Talbots, Winners, Foot Locker and Bulk Barn. On the way to Canada are housewares chain Bed Bath & Beyond, and furnishings heavyweights Williams-Sonoma and Pottery Barn. Ivanhoe Cambridge’s shopping centre division has joined with The Mills Corporation, an American developer, to lure new U.S. retailers to their value-oriented shopping malls, beginning with a huge project just north of Toronto.
Wal-Mart Stores, Inc.—which already boasts a 40 per cent market share in Canada—has announced that it will open a further 15 new stores, bringing its Canadian operations to 194 stores. Sears, Roebuck Inc., controlled by Chicago-based Sears, Roebuck and Co., now owns Eatons, the department store chain that used to be the most enduring symbol of Canadian retailing. New York-based buyout specialists Kohlberg Kravis Roberts & Co. control Shoppers Drug Mart. The void left by the decimation of the Dylex apparel chain has been filled by American fashion giants such as American Eagle Outfitters, The Gap and The Gap’s discount brand, Old Navy.
From a Canadian perspective, a 1998 PricewaterhouseCoopers study noting that 80 of the world’s top 100 retailers have international operations is old news. Ken Jones, director of Ryerson University’s Centre for the Study of Commercial Activity, has estimated that among major chains in Canada, U.S. retailers account for 25 to 30 per cent of sales and occupy more than 60 million square feet of retail space.
Chain stores, defined by the Retail Council of Canada as organizations operating four or more retail outlets under the same legal ownership in the same industry, are a clear example of the power of U.S. brands, i.e., the phenomenal recent growth of Wal-Mart, Starbucks and The Gap. Generally, the market share of chains has risen steadily at the expense of department stores and independents. Chains now account for $75 billion of the $250 billion retail sales market that represents almost half of all Canadian consumer expenditures.
In terms of the Canadian market the U.S. retail invasion is not likely to end soon, fuelled as it is by the North American Free Trade Agreement, a very favourable U.S./Canadian dollar exchange rate, and the proximity of important U.S./Canadian urban centres. Indeed, for many U.S. retailers, key components of the Canadian market are more profitable than various U.S. markets. According to Murray Perelman, a partner with Toronto’s Goodman and Carr LLP and author of Establishing Business Operations in Canada, recent business models and case studies indicate that returns for American retailers in Toronto stores could be better than in U.S. secondary markets.
And what does this all mean for Canadian law firms? The answer is obvious. A major new market. Goodman and Carr leasing specialist Stephen Messinger, whose impressive client base includes Starbucks, predicts that “within five years 90 per cent of Canadian retailers will be owned directly or indirectly by U.S. retailers.” There is a significant “comfort factor” in U.S. brands. As Lawrence Weinberg, a franchise lawyer at Toronto-based Cassels Brock & Blackwell LLP, notes: “As people have more and more mobility, they want to see the brands they recognize from home wherever they go.” So pervasive is the power of American branding that a newspaper photograph flashed around the world of anti-American September 11 demonstrators in London, England showed one protester wearing a New York Yankees cap. The irony was obviously lost on the young man.
Legal work abounds in the American branding invasion. Most frequently, notes Perelman, whose U.S. clients include fashion retailer Talbots, the Morton’s chain of steakhouses and The Mills Corporation, the costs associated with operating in Canada require American retailers to open at least three or four stores to make their business model work. “In the last 10 years,” says Perelman’s partner Ariella Rohringer, also a leasing specialist, “my U.S. clientele has grown so steadily that my retail practice is now predominantly American.” And when Lawrence Weinberg looks for new clients, “I also very much look south, because there is a great wealth of business there that will eventually make its way to Canada.”
Whether U.S. retailers, such as Krispy Kreme and The Gap, enter the Canadian market by opening on a store-by-store basis using corporate or franchised locations, or whether they enter by acquiring an existing Canadian entity—Wendy’s purchase of Tim Hortons, Wal-Mart’s acquisition of the Canadian Woolco stores and the Future Shop/Best Buy deal—the legal work they generate runs the gamut, both transactional and ongoing. Small wonder that the competition for such clients is fierce.
However, it is not simply the financial power of the American brands that makes the U.S. such an attractive target for Canadian law firms. Being associated with a high-profile American enterprise has a cultural and media cachet that translates into powerful marketing potential for the law firms involved. This latter point is part of the reason why Peter Gilchrist, Rachel Ingram and Sheldon Burshtein, the team from Blake, Cassels & Graydon LLP’s Toronto office who, with the lawyers at Toronto-based Daoust Vukovich Baker-Sigal Banka LLP, are the joint winners of the recent beauty contest for the Krispy Kreme account, are so obviously delighted with their new client. “It is of tremendous benefit for Blakes to represent a brand that’s as well known as Krispy Kreme,” says Gilchrist. “If you’re name-dropping clients when you’re marketing, the air of glamour might just rub off.”
Krispy Kreme Doughnut Corporation’s (KKDC) hot-from-the-oven product is produced on site in what Roly Morris, the Canadian who led the recent Starbucks expansion and now has the Krispy Kreme master franchise for Canada, calls “doughnut-making theatre.” The company, with 192 stores in 32 states and plans for 400 stores by 2006, has won a cult following in the U.S. Krispy Kreme’s shares have been recent darlings of the New York Stock Exchange, even during the current bear market. Sales have doubled since 1996 and jumped 40 per cent to $675 million in the fiscal year ended last January. In the first three months of fiscal 2002, net income approached $9 million, an increase of 88 per cent over the previous year. Second-quarter profit was up 65 per cent. The company’s success is based on word of mouth and media buzz so compelling that Krispy Kreme is the subject of repeated references on the popular ER television series.
Canada, with more doughnut shops per capita than any other country in the world, is a natural market for Krispy Kreme. This country has one doughnut shop for every 9,000 Canadians, compared to a U.S. ratio of one outlet for every 26,000 Americans. Of the 39 Krispy Kreme outlets slated for Canada, 32 will be in Ontario and Quebec and seven in B.C., with the first opening scheduled for early 2002 in Mississauga, Ontario. The store’s 100 employees, working around the clock, will produce thousands of doughnuts daily.
KremeKo Inc. is the Canadian operating company that has acquired the exclusive right to develop Krispy Kreme stores in Ontario, Quebec, New Brunswick, Nova Scotia, Prince Edward Island and Newfoundland pursuant to a development agreement with KKDC, which owns 34 per cent of the Canadian company. Private investors own the rest.
In terms of the legal work generated by Krispy Kreme’s entry into the Canadian market, no better summation could be made than that set out in the legal services proposal submitted by Blakes in the Krispy Kreme beauty parade:
“First, there are your own needs as a start-up business in Canada with diverse shareholdings in Krispy Kreme Canada. Second, there are the needs of Krispy Kreme Canada as a franchisee of Krispy Kreme U.S. Third, there are the needs of Krispy Kreme Canada as a franchisor in Eastern Canada. Fourth, there are the needs of Krispy Kreme Canada as the owner and operator of Krispy Kreme outlets. Fifth, there are the needs arising from the fact that the arrangement, although through Krispy Kreme Canada, will also constitute the entry of Krispy Kreme U.S. into the Canadian market.”
According to the proposal prepared by Blakes, Krispy Kreme’s needs will engage lawyers with expertise in commercial and corporate law, acquisitions and securities, foreign investment issues, federal, provincial and local tax planning, commercial real estate leasing, intellectual property (including related litigation), international trade, customs and commodity tax matters, labour and employment law, competition law, advertising, marketing and consumer protection issues, immigration and general litigation.
The list of legal services is long, but not overstated. “We were looking for corporate counsel, general counsel and real estate counsel. We had in our mind those areas in which we would need legal help and the proposal from Blakes identified them all, not missing one,” KremeKo CEO Roly Morris says. “Gilchrist, Ingram and Burshtein clearly understood our needs and were prepared to address them in our conversations.”
Still, Morris makes a point of emphasizing that he and his team were impressed by each of the more than half-dozen top-tier firms they interviewed during the beauty parade. “It was certainly clear that Toronto has world-class law firms with extremely high-quality legal skill sets, and Krispy Kreme would have been well served by any one of them.” Yet, after three days of interviewing it was clear as to what the outcome of the beauty parade would be. According to Roly Morris: “It wasn’t even close as to whom we would choose.” Blakes would become the company’s corporate and general counsel, and Daoust Vukovich would look after the leasing portfolio. Just how and why these two firms won the prize is instructive for any law firm anxious for a stake in the lucrative U.S. retail invasion.
Branding is about image, consistency and cohesiveness, all bound together by that amorphous quality called teamwork. So it should be no surprise that prospective clients for whom branding is the essence of their market success seek lawyers who understand—perhaps intuitively—what makes a particular brand work. Lawyers must be part of the team.
“Blakes got it,” Morris explains. “Without having a business model in front of them, they understood that Krispy Kreme was a very special enterprise that didn’t just sell a product, but an experience, and they were genuinely excited about bringing this brand to Canada.” Whatever the merits of the legal services proposal prepared by Blakes, it could not have escaped the Krispy Kreme team that the firm had taken the trouble to emboss a colour representation of a Krispy Kreme outlet on the cover of its document. Importantly, the proposal was about Krispy Kreme, not about Blakes.
As Morris explains it, attending a Krispy Kreme store is a multi-sensory experience where patrons can view the entire production cycle. “Our customers can smell and hear the making of the doughnut, watch all those moving parts reminiscent of a Rube Goldberg invention, then buy and enjoy a unique, one-of-a-kind-tasting doughnut.”
According to Morris, a number of the firms competing against Blakes had “prepared more,” but in the end Gilchrist, Ingram and Burshtein were the people with whom he and his team wanted a relationship. “Relationships are very important when you’re talking branding,” Morris says. “It doesn’t mean that we have to be buddy buddy with our service providers, but they must be people who have a similar set of business and other values, with an overarching desire to be a part of the team.”
In this beauty contest then, the relationship that mattered went beyond personal considerations. Although it didn’t hurt that Gilchrist, Ingram and Burshtein were “fun, the kind of people with whom you want to burn the midnight oil,” Morris was equally emphatic that the decision to retain Blakes was made despite close, pre-existing business and personal relationships that he enjoyed with other law firms who were in the running.
“For Americans, a personal touch in business is very important from a humanistic, practical and marketing point of view,” says Stephen Messinger at Goodman and Carr. “It’s not a matter of being bosom buddies or friends. Americans want you to care about their business.” Significantly, Rachel Ingram, an M&A and corporate lawyer at Blakes, believes she was selected for the Krispy Kreme pitch team because of her client relations skills. “I’m good at listening to what clients have to say and at getting things done.”
Burshtein, whose practice focuses on the intellectual property (IP) aspects of commercial transactions, was a key member of the team. Branding and intellectual property protection go hand-in-hand,” says Gilchrist. “So expertise in IP is instrumental in getting you on the list of contenders in a beauty contest these days. It’s the specialty that gives you the chance to show the rest of your stuff.”
The firm’s experience with cross-border branding issues was also critical. Members of the firm, including Gilchrist and Burshtein, had been closely involved with other American retailers who have entered the Canadian market, such as Payless, Tower Records and The Home Depot. The firm’s client list also includes an impressive array of major Canadian retailers in various market sectors.
“Knowledge of cross-border branding issues was extremely important to us,” Morris says. “Because this was Krispy Kreme’s first foray outside the U.S., our lawyers had to understand what was involved in terms of the corporate structure, the tax implications and the different approach Canadians and Americans have to the various issues. And they had to understand these things in terms of the way we want to do business, which is all part of getting it.”
Still, when it came to leasing and leasing negotiations, which loomed large in Krispy Kreme’s Canadian future, Morris and his team felt that a boutique that focused on commercial leasing would be more cost-effective and have better contacts with local developers than a large national firm. Eleven-lawyer Daoust Vukovich was tailor-made for the retainer. Founded in 1995 by Dennis Daoust and Natalie Vukovich, Daoust Vukovich is well-known within the retail industry as a top-notch boutique practice specializing in commercial leasing and property development. “People see us as an entity, like a brand, and they know what to expect from us,” says Daoust.
The firm’s unique professional mix combines the experience of former in-house counsel to major developers and landlords who have the skills of large law firm commercial leasing and property development partners. Daoust, for example, spent 10 years as in-house counsel with Cadillac Fairview, supervising the legal end of the property giant’s shopping centre operations. He also practised commercial real estate at Blakes for five years, served a stint as associate counsel to Trilea Centres Inc., which combined the Canadian shopping centre portfolio of Trizec Equities Ltd. and Bramalea Limited, and spent six years as a partner in Goodman and Carr’s strong leasing department in Toronto.
“We look to the high-end work,” Natalie Vukovich says, “and we combine our individual perspective as insiders with a law firm that’s integrated into the industry we serve.” Indeed, the firm’s Kenneth Beallor was formerly legal counsel, Ontario for The TDL Group Ltd., operator of Tim Hortons. As such, Beallor was responsible for all of TDL’s real estate leasing and acquisitions in Ontario, and since joining Daoust Vukovich in 1998, continues to represent TDL in real estate matters.
“As we checked the marketplace, met people and listened to their recommendations, Dennis Daoust and Natalie Vukovich and their firm came highly recommended from a number of sources,” Morris notes. While the law firm was initially concerned about conflicts arising from Beallor’s connection with Tim Hortons, it ultimately became clear that Krispy Kreme and Tim Hortons were targeting different market segments.
For Morris, Daoust Vukovich’s familiarity with the industry was “certainly an attraction.” That doesn’t surprise Fredric Carsley of Montreal’s Mendelsohn Rosentzveig Shacter, who represents a number of significant U.S. retailers in Canada. “American retailers and franchisors are interested in lawyers who have a depth of experience, not only in the sense that they’re business-oriented, but in the sense that they are knowledgeable about the industry and the business of the industry,” he observes. “They look to their lawyers to help them build the business and to establish the brand. When it comes to these things, American retailers don’t want to have to educate their lawyers.” The same point is made by Frank Zaid at Osler, Hoskin & Harcourt LLP in Toronto, who has represented more than 150 U.S. franchisors in the retail and service industries. “The lawyers who gain the confidence of Americans are not mere document reviewers. Rather, they bring to the forefront the business-related local issues with which Americans are unfamiliar.”
Knowing major industry players and their principals is an important attribute for lawyers offering services to American retail clients. This is particularly so when leasing is involved. “The retail leasing community here is much tighter than the one south of the border,” says Messinger. “A Canadian lawyer who can offer access to that community is well ahead of the game in terms of attracting business, because his clients know he will get them a respectful hearing in legal and business negotiations.” This became clear during Messinger’s recent dealings with an American retailer. “One of the things the client was most interested in were the names of the people to call at Olympia & York and Brookfield,” he recalls. “I could confidently give them those names and my own name as a contact and be assured that the big property developers would know the call from my client was a legitimate call.”
Daoust Vukovich did not have a history of representing American retailers, apart from the Zales jewelery chain that purchased Peoples Credit Jewellers. However, the firm did have an impressive track record of negotiating on behalf of developers and landlords opposite U.S. retailers, including Virgin Records, Winners, Best Buy, The Gap, Wal-Mart, Wendy’s, Foot Locker and Bulk Barn. Daoust and his colleagues knew the industry, the issues and the expectations that American-based retailers brought with them.
“Still, we were a little surprised when we got the work,” Daoust says. “In the end, I believe the firm’s personality won the day. Roly was looking for a law firm that displayed some down-to-earth human caring and a practical common-sense approach. Our attitude, which is very much influenced by our lawyers’ experience in-house, is one that moves a deal forward without grabbing control in areas you don’t need to control.”
This was certainly important to Morris. “We don’t want to negotiate in ways that Canadians might regard as onerous. At the same time, the way we do business must reflect the intent of the American corporation.” Frequently, the conundrum arises because U.S. in-house counsel focus on maintaining the integrity of their standard documents, which may contain provisions that are inappropriate in Canada. Edward (Ned) Levitt at Toronto-based Levitt, Beber, and general counsel to the Canadian Franchise Association, emphasizes that Canadian lawyers must understand that instructing American counsel “don’t want us to rewrite the document, just Canadianize it.”
It is an important point. Fredric Carsley’s experience negotiating with Winners demonstrates just how difficult it can be to convince large American retailers to depart from their standard forms. “The individual at Winners who developers deal with here in Canada is a really nice guy, but getting him to change his paper is murder,” Carsley says. “His attitude is ‘We have 2,000 stores where all these documents say the same thing, and we want to keep them the same.’”
Complicating the situation, Messinger observes, are American in-house counsel who are “fairly jealous of their position and want to make sure that they themselves aren’t the weak link, so they try to control the leasing process and the costs involved. In that context, it becomes important for Canadian lawyers to respect in-house counsel’s position in their organization and not try to take control when acting for them.”
That can be a difficult proposition for Canadian lawyers who aren’t accustomed to in-house counsel with so much power. “In-house counsel play a much bigger role for American retailers than for Canadians,” points out Robert E. (Bob) Macdonald, a commercial leasing partner at Blakes, whose practice includes a solid base of U.S. clients. South of the border, in-house counsel are frequently members of the management team and, in fact, are sometimes in the running as prospective CEOs of their company.
Canadian lawyers with cross-border experience also know that the “hot buttons” for U.S. retailers may differ from those of their Canadian counterparts. “Developers who want to attract Americans and avoid negotiating for years must learn to accommodate their views, and it is their lawyers’ business to educate them in those views,” Messinger says. “Lawyers representing American retailers must do the same for them regarding the Canadian perspective. More and more, when dealing with Americans, it is becoming important to make adjustments by way of creative compromise rather than simply saying ‘no’ in negotiations.”
And that’s not always easy says Michael Cogliano, vice-president, legal at Ivanhoe Cambridge, because American retailers are much more demanding than Canadian lessees. “The types of clauses American chains demand are a lot more onerous than what we’re used to seeing, particularly in terms of termination clauses and operating covenants.” The market reality is that brands like The Gap have become so prevalent in shoppers’ psyches that it is hard for a mall to do without them.
As Daoust sees it, that’s not necessarily a bad thing for developers. “Because the continuing viability of a shopping centre depends on constant reinvention and refreshing, the shopping centre industry, like the retail industry, desperately needs fresh ideas and concepts. Only a limited number of these ideas can emanate from Canada, and the Americans have added a great deal to the freshness and pizzazz that’s required.”
Still, Daoust notes, the bargaining situation demands finely honed negotiating skills from counsel. “You’re up against very formidable retailers in a situation where your client needs them or wants them. That makes it tough for the lessor’s lawyer because the last thing you want to be is the person who kills or sours or stalls the deal. You have to examine the positions you’re taking very carefully to ensure that you’re not creating issues that don’t have to be created. Of course you must protect your client and make sure there aren’t any surprises, but you have to be equally careful about projecting your own desire to win the point or your pet concerns into the market.”
Negotiating with powerful U.S. retailing brands is not always a pleasant experience. John Sotos of Sotos Associates, a well-known Toronto franchising boutique, laments the “emotionalism and argumentativeness” in the negotiating tactics of major U.S. chains. Even Dennis Daoust describes some of his experiences across the table from U.S. retailers as “mind-boggling.” The experience is generally the same across Canada. Wayne Whitlock at Bennett Jones LLP in Calgary, who represents several major Canadian developers, says dealing with the U.S. retail invasion has made his practice much more complex. “It’s a challenge and a half and we’re just getting into it. One thing I do know is that it’s not going to get any easier.”
However difficult it may be for lawyers negotiating on the other side of the table, acting for a U.S. retailer presents its own unique challenges. “There’s a big difference in the kinds of questions and broad spectrum of issues that come up when you’re acting for a large American retailer,” says Cory Sherman at Sherman & Associates, a Toronto property development and leasing boutique that has acted on behalf of U.S. retailers such as Best Buy and Restoration Hardware.
Americans have also redefined the standards for top-quality legal service. “The large U.S. chains are so used to things being dropped on them at the last minute and having so many balls in the air at the same time,” says Fredric Carsley in Montreal, “that they don’t think twice about putting their lawyers in the same position.”
On the other hand, Americans tend to involve their lawyers in negotiations—especially lease negotiations—at an earlier stage than Canadian retailers, who, according to Daoust, “like to keep lawyers out of the process for as long as possible.” Americans want lawyers on the case early because they almost invariably won’t start construction or take possession without fully executed leases in place. “They do not feel comfortable making investments in property based on an offer to lease, an agreement to lease, or a letter of intent,” Daoust notes.
Ariella Rohringer at Goodman and Carr prefers dealing with American clients. “They’re far more professional than the Canadians in my end of the business. Many of the Canadians seem to have drifted into retail, whereas the dollars are bigger in the U.S. and many Americans have targeted careers in the industry from the outset. Consequently, they’re very specialized and far more ruthless than Canadians. They go for the jugular in the sense that they know what they want and won’t settle for less. While many Canadian retailers see their leases as delivery mechanisms, American retailers see their leases as assets, and to protect these assets, they want sophisticated counsel.”
According to Rohringer, the U.S. retail influx has had a significant impact on the Canadian leasing market. “Canadian developers have had to be far less one-sided in their approach to bargaining. And the more attractive the brand, the more flexible they have had to be—a business reality that allows large American retailers to command more negotiated provisions in their leases than has historically been the case in Canada.”
As time goes on, however, Canadian retailers with clout have adapted by adjusting their expectations to mirror American demands. “You’re starting to see a convergence,” notes Cory Sherman, “something that was inevitable considering that U.S. and Canadian retailers are competing for the same space.”
Convergence also means, increasingly, that Canadian lawyers are being compared to their American counterparts. That doesn’t trouble Peter Gilchrist at all. “American clients are more demanding on service,” he notes. “But I wouldn’t say they’re more demanding on quality because, with the exception of the top U.S. firms, Canadian lawyers are as good as or better than American lawyers.”
Over time, U.S. clients have come to appreciate the high standards of leading Canadian law firms. “The Americans who come up here are prepared to spend if they believe they’re getting value and if they are satisfied with the level of service,” Gilchrist notes. “And that’s important, because even adjusting for the currency difference, we’re more expensive than any U.S. firms except the ones in New York and Chicago.”
And why not? After all, the power of U.S. brands does not change just because the brand crosses the border. So why should the legal fees paid to “brand name” Canadian law firms to establish the brand be any different in Canada than in the U.S.? As The Economist pointed out in its September 8, 2001 article on the power of brands, strong brands are a “guarantee of quality and consistency…[for which] consumers are prepared to pay a premium.”
Julius Melnitzer is a Toronto legal affairs writer.
Lawyer(s)
Ken Jones
Larry M. Weinberg
Peter W. Gilchrist
Rachel J. Ingram
Sheldon Burshtein
Roly Morris
Kenneth A. Beallor
Fredric L. Carsley
David L. Rosentzveig
Leo G. Boyle
Frank Zaid
Edward N. Levitt
Michael G. Cogliano
John Sotos
Cory G. Sherman
Firm(s)
Globe and Mail (The)
Best Buy Company, Incorporated
Economist (The) - Subscription Service
McDonald's Corporation
Wendy's International, Inc.
Home Depot
Costco Wholesale Corp.
Starbucks Coffee Company
Talbots
Foot Locker Inc.
Bulk Barn Foods Ltd.
Bed Bath & Beyond
The Mills Corporation
Wal-Mart Stores, Inc.
Sears, Roebuck and Co.
Kohlberg Kravis Roberts & Co.
Shoppers Drug Mart
American Eagle Outfitters Canada Inc.
Gap
Toronto Metropolitan University
Retail Council of Canada
Cassels Brock & Blackwell LLP
Talbots
Morton's Restaurant
Krispy Kreme Doughnut Corporation
Blake, Cassels & Graydon LLP
Daoust Vukovich LLP
KremeKo Inc.
Tower Records
Trilea Centres Inc.
BPO Properties Ltd.
Zales Jewlery
Virgin Records Ltd
Canadian Franchise Association
Ivanhoe Cambridge Inc.
Sotos LLP
Bennett Jones LLP
Brown Dryer Barristers & Solicitors
Best Buy Company, Incorporated