Canadian franchise legislation: finding the balance.

[ILLUSTRATION OMITTED]

It may surprise some to learn that Canada has had franchise legislation since the early 1970s. That is when the province of Alberta chose to introduce franchise legislation of the type then favored in the United States: disclosure with registration. This was an anomalous legislative development, as the volume of franchise activity in those days was miniscule by today's standards. It was not until almost three decades later that another province, Ontario, concluded that the franchise marketplace had grown to the point that it needed some regulation and passed its own franchise statute, the Arthur Wishart Act. Recently, the tiny province of Prince Edward Island and the province of New Brunswick have followed suit and all indications are that other provinces will not be too far behind.

The Alberta legislation of the 1970s required the preparation of a prospectus-like document, which then needed to be reviewed and approved by a government bureaucracy. The process was slow and expensive and Alberta paid a price when franchisors routinely put that province further down on their list of provinces in which to expand. A Laurentian University (Ontario) study questioned the value of that disclosure process for franchisees. The cost-effectiveness of this regulatory regime went unchallenged until the 1990s, when the Alberta government wisely chose to take a hard look at all aspects of the law, with the benefit of solid and diverse input from all of the franchise stakeholders in the province.

In 1995, the new Alberta Franchises Act was passed. This statute requires pre-sale disclosure, a smattering of relationship provisions, such as the right of franchisees to associate and the implication of fair dealing in all franchise agreements, and has no government oversight. While there were critics on both sides of the debate who either felt the statute still went too far or that it did not go far enough, the new statute was widely hailed as a sensible balance between the needs of prospective franchisees and franchisors. More importantly, this approach taken in Alberta had a resounding influence on the legislative process on Ontario when it passed its very similar legislation five years later. Fast-forward another five years and the province of Prince Edward Island follows essentially the same legislative approach with its Franchises Act. The province of New Brunswick was not far behind when it passed a similar statute two years later (although the regulations have not been drafted at the date of writing this article).

Aside from some rumors about franchise legislation in the province of British Columbia and a discussion paper circulated by the government of the province of Manitoba, there is no specific franchise legislative initiative in the rest of Canada. Constitutionally, the federal government does not have jurisdiction to legislate franchising for the country as a whole, so it is fortunate that four of the 10 provinces have chosen similar paths in their franchise statutes.

The Disclosure Document

There are minor differences among the four franchise statutes in Canada, but the statutes are similar enough to make the creation of one franchise disclosure document for use in all of the provinces, for now, an attainable objective. The advisability of using U.S. disclosure documents is more debatable. All but the Ontario statute specifically permit the use of foreign franchise disclosure documents, provided that there is an addendum which adds any information required under the relevant provincial statute that is missing. Ontario, a very important franchise market, does not have such a provision in its statute, but does not prohibit the use of such "wrap-around" disclosure. However, the Ontario statute requires the disclosure document to be clear and concise, which many believe would render the use of most U.S. disclosure documents, even with a provincial addendum, dangerous. The Prince Edward Island statute, on this issue, is somewhat schizophrenic, as it specifically allows for the use of foreign disclosure documents, but also has the clear and concise requirement. With these issues in mind and the cost of conforming a U.S. disclosure document approaching the cost of creating a proper disclosure document for Canada from scratch, the prevailing practice is to not use U.S. disclosure documents in Canada.

When to Disclose

Where some of the U.S. state franchise statutes require disclosure before the first face-to-face meeting, the provincial statutes are uniform on the triggering events for disclosure; the payment of any money or the signing of any agreement relating to the franchise. They are also uniform on the time frame for disclosure; 14 days before the triggering event.

It is very common for U.S. franchisors to grant the whole of Canada to a single master franchisee. Do any of the four provincial statutes take jurisdiction in such circumstances, thus requiring disclosure? All of these statutes apply if the franchise, in this case the master franchise, is to be operated partly or wholly in the particular province. Only Alberta adds the requirement that the franchisee must also reside in Alberta (or, if a corporation, have a permanent establishment in that province). The belief in legal circles, untested in court, is that a master franchisee for Canada could successfully argue that disclosure is required under the various provincial statutes, except possibly Alberta. To be safe, U.S. franchisors should comply with the relevant provincial statutes even when the master franchise grant is for the country of Canada.

Financial Statements

The disclosure of financial information about the franchisor is a universal requirement in franchise statutes. However, the nature and type of financial disclosure often differs from country to country. It has caught many a U.S. franchisor by surprise that they cannot simply use their existing U.S. financial statements, audited or not, in their Canadian franchise disclosure documents. Such financial statements do comply, however, if they are prepared in accordance with standards that are at least equivalent to Canadian standards. The practice has arisen to have the U.S. financial statements reviewed by a Canadian chartered accountant, who then prepares notes to the U.S. financial statements, which will allow the financial statements then to meet the Canadian standards.

Other Content

Much of the remaining content of a Canadian franchise disclosure document will come as no surprise to U.S. franchisors. However, some danger exists with costs and revenue projections. While Canadian provinces or territories are very similar in so many ways, the costs of establishing and operating many businesses are different. Revenues from Canadian businesses often do not follow the U.S. experience. So it is very important for U.S. franchisors to get a handle on the Canadian reality surrounding these important financial matters for the disclosure document to stand up under scrutiny.

[ILLUSTRATION OMITTED]

Judicial Attitudes

For years, there were few decided cases involving the Alberta Franchise Act. There are more now, but nothing compared to the volume of cases that have quickly evolved in Ontario since the passage of the Arthur Wishart Act. Perhaps this is a commentary on the nature of the lawyers in Ontario or simply a consequence of the greater volume of franchise businesses in Ontario. Whatever the cause, Canadian lawyers and jurists are moving toward a greater understanding about how Canadian courts will apply and interpret these statutes in franchise disputes.

The truth is that the evolution of Canadian franchise jurisprudence is still in its infancy. Some tough and therefore more instructive decisions are still ahead. One of the critical issues relates to the question, when is a collection of information a "disclosure document" under the various statues? This question may sound a little silly, until one realizes that the significant remedy of rescission is available for two years if no disclosure document has been delivered and only 60 days if a defective disclosure document is delivered. So far, the decided cases on this issue of time limits for rescission have had facts that lead easily to the conclusion that the information provided did not amount to a disclosure document under the particular statute. Some recent cases, however, with more challenging facts, may be pointing toward a stricter judicial interpretation of what constitutes a disclosure document, placing on franchisors a heavier burden to get it exactly right.

The Future

With four provinces invested in franchise regulation, the momentum is definitely in the direction of more franchise legislation in Canada. With the exception of the provinces of British Columbia and Quebec, the majority of the remaining provinces are more franchisee-oriented, as they tend to be importers of franchise systems, not incubators of franchise systems. Those provinces might now start to feel some political pressure to enact similar legislation to afford their citizens the protections available to residents of other provinces. Of these provinces, Manitoba might very well be next, as indicated by a discussion paper recently published, but these other provinces have smaller legislatures, which can act very quickly, if a legislative idea takes hold. The discussion paper can be found at the Univ. of Manitoba's Web site: www.umanitoba.ca.

With its robust franchise market and many home-grown franchise systems, British Columbia stands out by its apparent lack of interest in franchise legislation. Should that province one day choose to jump on the bandwagon, it will be interesting to see if it does so in step with the other provinces. There is a powerful argument for any new provincial entries to conform to the laws of the earlier provinces to maintain uniformity across the country. There is a further strong argument, even for the franchise-importing provinces, to not shoot themselves in their "collective foot" by erecting barriers to franchisors wishing to expand their economic opportunities to those provinces.

Finally, there is Quebec. This province is unique in Canada in so many ways, with its French culture and language leading the list. Adding franchise legislation to the challenges of franchisors entering that market would not be viewed by many as a smart business move. While some of its governing law, through its Civil Code and language laws, affects franchising, Quebec does not have franchise-specific regulation and most would presume it will never have it.

It is predicted that, with the ever-increasing volume of franchise activity in Canada, both homegrown and imported, most of the other provinces will enact franchise legislation. While there will be differences among the statutes enough to challenge the unwary, the franchise legislative landscape in Canada will be relatively uniform. The provincial courts tend to be more consistent one to the other than are the various state and federal courts in the United States. Canadian courts have also exhibited, on average, a balanced view toward franchisee and franchisor interests. So, it is anticipated that, over time, predictable and equitable franchise jurisprudence will evolve in Canada.

Edward (Ned) Levitt is a senior partner of Gowling Lafleur Henderson LLP. He can be reached as 416-862-3628 or [e-mail].