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CCCA_V6No1_Col-McCarthys-FIN_CCCA_V6No1_Col-McCarthys-V1.qxd 2/13/12 11:34 PM Page 58 Legal Update – McCarthy Tétrault LLP The importance of meticulous disclosure practices for franchisors. By Jane A. Langford and Adam Ship he franchise business model carries stiff disclosure statement and it is no defence for the the preparation and review of individualized Tregulatory costs in Canadian provinces franchisor to prove that the franchisee knew disclosure statements prior to delivery. with franchise disclosure statutes. Under fran- about the deficiency at the time the agreement It is important to strictly control all forms of chise legislation currently in force in Alberta, was signed. Nor is there any requirement to informational disclosure to prospective fran- Ontario, New Brunswick and P.E.I. (and soon establish a link between the deficient disclosure chisees. The courts in Ontario have taken a to be in force in Manitoba), franchisees are statement and the financial losses for which the very negative view to “piecemeal” disclosure, entitled to rescind their franchise agreements franchisee seeks compensation. affirming that franchisees have the right to dis- when their franchisor fails to comply with the By contrast, for immaterial deficiencies closure in a single document, at one time. statutory disclosure requirements. Case law in under the Act, such as late delivery of the dis- Supplementary information, even in verbal Ontario has established a regime of strict closure statement, the Court of Appeal has form, may well offend this right. liability for franchisors and this may well confirmed that the franchise must rescind If material information comes to light after influence the courts in the other provinces. within 60 days from the receipt of the disclo- a disclosure statement is delivered, a formal Counsel working inside franchisors have sure statement. (4287975 Canada Inc. v. Imvescor “franchise change statement” should be deliv- every incentive to develop meticulous disclo- Restaurants Inc., 2009 ONCA 308.) But the ered in compliance with the applicable Act. sure practices with built-in redundancies Act and the Regulation prescribe more than In terms of substantive conformity with given the extraordinary financial penalties 25 different subject areas in relation to which the content prescriptions in the applicable which accompany rescission. a franchisor must make disclosure, and the legislation, the safest process would, unfortu- Under Ontario’s Arthur Wishart Act Court of Appeal has suggested that any defi- nately, include duplication and redundancy. (Franchise Disclosure), the Ontario courts have ciency in respect of these areas will be con- Second and third level review of disclosure made clear that the consequence to a fran- strued as material. (6792341 Canada Inc. v. statements prior to delivery should be com- chisor, of making most kinds of errors or Dollar It Ltd 2009 ONCA 385.) mon practice. One level of review should omissions in a disclosure statement, will be to The Ontario courts have strongly suggest- mirror an “audit” of the first draft, even if this effectively indemnify the affected franchisee ed that a franchisee with a materially deficient means fully duplicating the initial work. In for all the costs and losses it has incurred until disclosure statement can effectively obtain a addition, all personnel who may potentially the second anniversary of the franchise. This two-year indemnity from the franchisor for have information relevant to the franchise effective indemnity flows from the obliga- any losses. In the face of poor financial per- system or the subject location should be tions on the franchisor under the rescission formance in a given market area, a franchisee tasked with reviewing the relevant portions clause to refund all monies paid by the fran- has great incentive to look carefully at the dis- of the statement for any errors or omissions. chisee, to purchase from the franchisee all its closure statement for any deficiency. Additional review processes should also be inventory, supplies and equipment, and to While the Ontario case law is specific to the considered, including, where appropriate, the compensate the franchisee for any financial Ontario Act, the Alberta Court of Appeal has involvement of external counsel. losses to date. taken a similar approach under the Alberta The potential financial consequences of In the two leading cases in Ontario, the Franchises Act. (Hi Hotel Limited Partnership v. even a trivial deficiency in a disclosure state- Court of Appeal has strongly suggested that Holiday Hospitality Franchising Inc. (2008), 296 ment justify meticulousness and redundancy. most forms of non-compliance with the dis- DLR (4th) 335 (Alta. C.A.)) A franchisee with a materially defective dis- closure provisions of the Act should be treated closure statement has little to fear from finan- by the courts as material, thereby entitling fran- Financial consequences cial imprudence in the first two years of its chisees to wait up to two years after signing the Given the strict nature of the liability and the business. franchise agreement before invoking the rescis- severe financial consequences under the rescis- Jane A. Langford is a partner in the Litigation sion remedy. (1490664 Ontario Ltd. v. Dig This sion remedy, there is sound business sense in Group and co-chair of the Consumer Products & Garden Retailers Ltd. (2005) 256 D.L.R. (4th) allocating substantial budgetary resources to Retail Group at McCarthy Tétrault LLP, jlang- 451 (C.A.) ; 6792341 Canada Inc. v. Dollar It Ltd both the establishment and ongoing imple- for@mccarthy.ca. Adam Ship is an associate in the 2009 ONCA 385.) There is no requirement mentation of meticulous disclosure practices. Litigation Group at McCarthy Tétrault LLP, for the franchisee to prove that it relied on the This should include layers of redundancy in aship@mccarthy.ca. 58 CCCA Canadian Corporate Counsel Association SPRING 2012