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Appellate Litigation

In Ontario, franchise agreements are subject to the requirements of the Arthur Wishart Act (Franchise Disclosure), 2000 (the “Act”).  The Act imposes a “duty of fair dealing” on the parties to such an agreement and grants franchisees the right to form an organization of franchisees.  One of the most significant aspects of the Act is its requirement on franchisors to provide a “disclosure document” to prospective franchisees.  Section 5(4) of the Act sets out the required contents of that document, including that it contains “all material facts.”  The Act also grants franchisees the right to rescind a franchise agreement where the disclosure document is not provided within the stipulated time frames.

Dispute Involves Whether A Franchisor’s “Disclosure Document” Contained Sufficient Information Regarding A Head Lease And Development Costs

In Raibex Canada Ltd. v. ASWR Franchising Corp., the Court of Appeal considered whether a particular document provided by a franchisor was too inadequate to constitute a “disclosure document” for the Arthur Wishart Act (Franchise Disclosure), 2000 and, therefore, entitled the franchisee to rescind their franchise agreement.

The respondent, Raibex Canada Ltd., was a prospective franchisee of an AllStar Wings and Rings franchise in Mississauga.  The appellant, ASWR Franchising Corp., was the franchisor.  The parties signed a franchise agreement that did not identify a specific site for the franchise. Still, they stated instead that a suitable location “would be selected through the ‘reasonable best efforts’ of both parties.”  A franchise disclosure document was also provided to the prospective franchisee that included “an estimated range of costs for constructing an ASWR franchise from a shell” but no estimates for “converting a pre-existing restaurant to an ASWR outlet.”

After signing the franchise agreement, the parties found a “mutually acceptable” restaurant to lease and convert.  An affiliate of the franchisor signed the lease as the head tenant and subleased the property to the franchisee.  The head lease required a deposit of about $120,000.  The sublease contained a clause requiring the franchisee to comply with the terms of the head lease.  This included the deposit requirement, of which the franchisee’s director had been previously informed.

About one month before the franchise restaurant was constructed, the franchisee’s sole director and officer was advised that “development costs exceeded $1 million.”  This fell within the range of costs indicated in the disclosure document “for construction from a shell,” even though the franchise had been developed “through conversion.”  The franchisee then refused to take care of various construction invoices and pay the $120,000 deposit, instead serving the franchisor with a “notice of rescission” of the franchise agreement.  The franchisee commenced an action seeking, among other things, a declaration that “it had validly rescinded the franchise agreement” and a recovery of money, while the franchisor counterclaimed for damages.

One of the primary issues on appeal was whether the motion judge had erred in finding that the franchise agreement had been validly rescinded.  Among other things, the franchisee argued that the franchisor breached its obligations under section 5 of the Act, and such breaches were serious enough that section 6(2) of the Act applied.  

Franchise Disclosure Act Contains Two Different Time Frames For Rescinding A Franchise Contract

In reviewing the applicable legal principles, the Court of Appeal noted that the Arthur Wishart Act (Franchise Disclosure), 2000, sets out two different “limitation periods” for rescuing a franchise agreement (see also 4287975 Canada Inc. v. Imvescor Restaurants Inc.).  Section 6(1) of the Act permits a franchisee to rescind the agreement within 60 days of receiving the disclosure document if that document is not provided in accordance with the timeline set out in section 5 or does not otherwise meet the requirements of that section.  Section 6(2) of the Act provides that a franchisee may rescind the agreement within two years of entering into it if the franchisor never provides the disclosure document.  The latter provision was issued in Raibex.

Legal Principles Applicable to Consideration of Whether Rescission of a Franchise Agreement is Justified

In reviewing prior case law, the Court of Appeal noted the following general principles applicable to section 6(2) of the Arthur Wishart Act (Franchise Disclosure), 2000:

  • The failure of a disclosure document to fully comply with section 5 does not necessarily provide grounds for rescission under section 6(2) of the Act;
  • “Imperfect disclosure” to a franchisee is not necessarily the same as failing to provide a franchisee with a disclosure document;
  • If a disclosure document is sufficiently deficient, it can “effectively amount to a complete lack of disclosure” permitting rescission under section 6(2) of the Act; and
  • The question of whether deficiencies “are so serious as to amount to no disclosure” for the purpose of the Act “must be determined on the facts of each case.”

In determining whether or not deficiencies in a disclosure document are sufficient to justify rescission under section 6(2) of the Act, the Court of Appeal noted that the inquiry must focus on whether “the franchisee has been ‘effectively deprived … of the opportunity to make an informed [investment] decision’” (citing Caffe Demetre Franchising Cop. v. 2249027 Ontario Inc.).

In applying these principles to the case, the Court of Appeal noted that the motion judge had failed to refer to the terms of the parties’ franchise agreement.  It stated, “This inquiry requires, where appropriate, taking into account the terms of the parties’ franchise agreement.”

As noted above, the franchisee argued that the disclosure document needed to be revised as it did not disclose the head lease and properly outline the costs of converting the existing restaurant.  However, the Court of Appeal noted that the parties were aware that the location for the franchise had yet to be selected.  The franchise agreement had included a clause requiring the parties to make “reasonable best efforts “ to select a location, which meant the franchisee’s interests had to be considered by the franchisor in entering into a head lease.  Indeed, the franchisee had “urged” the franchisor to sign the head lease.  As such, the franchisor’s failure to disclose the head lease “had little impact on the franchisee’s ability to make an informed investment decision.”

For the costs of converting the existing restaurant, the Court of Appeal observed that the disclosure document had set out the cost estimates for construction “from a shell.”  According to the Court of Appeal, those estimates “nonetheless provided the franchisee with a useful reference point against which to measure the upper range of possible costs associated with a conversion.”

For these reasons, the Court concluded that, even if the “omissions” put forward by the franchisee were in breach of section 5 of the Act, they were not sufficient to constitute “no disclosure at all” justifying rescission under section 6(2) of the Act.

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