Franchise E-Review: September 2012 - Best Practices: The Case For Mediation of Franchise Disputes

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[author: Frank Zaid]

Commensurate with the growth of franchising in the Canadian marketplace, franchise legislation is now in force in five of the ten provinces in Canada.  In recent years a considerable number of franchise disputes have been heard by the courts, usually on an individual franchisee/franchisor basis. Some disputes involve issues common to virtually all of the franchisees within a system, both past and present, and actions may be commenced on a group or multi-plaintiff basis or pursuant to class action legislation.  Given this activity, an increasing number of franchise disputes are being submitted to mediation in an attempt to arrive at a resolution at any early stage.  There are a number of reasons why mediation is recommended.

All Canadian franchise legislation is founded on two major principles. The first is that a franchisor must provide a prospective franchisee with a disclosure document which outlines in considerable detail the franchise being offered, unless an exemption is available. If a disclosure document is not provided, or a disclosure document is provided but contains deficiencies, the franchisee has a statutory right to rescind the agreement within two years in the case of no disclosure, or 60 days in the case of deficient disclosure, after the date the franchisee entered into the franchise agreement. The statutory right of rescission creates a highly punitive and costly remedy in favour of the franchisee and may potentially bankrupt a franchisor when a group or class of franchisees is involved.

The second principle is that franchise legislation imposes on each party to a franchise agreement a statutory duty of fair dealing in the performance and enforcement of the agreement, a duty that includes the obligation to act in good faith and in accordance with reasonable commercial standards. Breach of the duty of fair dealing, when coupled with an alleged breach of an obligation or the assertion of a right under the franchise agreement, can expose a franchisor to a significant damages claim for breach of contract with the potential to cause substantial harm to the reputation of the franchisor.

In 2005, the Uniform Law Commission of Canada (ULCC) adopted a model Uniform Franchises Act, a model Disclosure Regulation, and a model Mediation Regulation. The model Mediation Regulation included detailed provisions allowing either party to a franchise to require the dispute to be submitted to mediation. Of the three provinces which have adopted franchise legislation since release of the ULCC Report (Prince Edward Island, New Brunswick and Manitoba), New Brunswick has substantially adopted the mediation process included in the ULCC model legislation.

While Ontario franchise legislation does not include a mediation process, the Ontario Rules of Civil Procedure now include a program of mandatory mediation in case-managed cases in various areas of Ontario, including Ottawa-Carleton, the City of Toronto and the County of Essex. Certain actions are exempted from this procedure, including actions placed on the Commercial List in the Toronto region, and actions certified as class proceedings under the Class Proceedings Act, 2002. For all other actions in Ontario, the Rules of Procedure stipulate that a mediation session shall take place within 180 days after the first defence has been filed unless the court orders otherwise.

Matters which may be listed on the Commercial List include applications, motions and actions which in essence involve, among other matters, “suitable complex cases under the Arthur Wishart Act (Franchise Disclosure), 2000”. While mandatory mediation does not apply to cases on the Commercial List, the Practice Direction establishing the Commercial List states that “resort to the techniques of alternative dispute resolution (ADR), where appropriate, is recognized and encouraged as an effective aid in the disposition of issues and matters on the Commercial List.” Further, “it is the duty of the case management judge and the obligation of counsel to explore methods to resolve the contested issues between the parties, including the resort to ADR, at the case conferences and on whatever other occasions it may be fitting to do so”. In addition, “at any time, particularly on consent of the parties, the case management judge may refer any issue for ADR, as appears appropriate.” Once a matter, or any issue with the matter, has been referred to ADR, counsel are required to “report to the case management judge at regular intervals as to the progress of the ADR proceedings. The timing of such report shall be agreed upon by counsel and the case management judge.” As a result of the Commercial List rules, and the recognition that complex cases under the Arthur Wishart Act (the Act) are appropriate subject matter for Commercial List applications, motions and actions, there is a recognized and growing initiative to attempt to resolve such disputes through mediation (or arbitration) prior to court proceedings.

Another fact which highlights government initiatives to promote mediation of franchise disputes is present in all provincial franchise legislation. Taking Ontario’s legislation as an example, regulations under the Act dealing with the content of disclosure documents provide that “if an internal or external mediation or other alternative dispute resolution process is used by a franchisor in disputes with a franchisee, the disclosure document must include a description of the mediation or other alternative dispute resolution process, and the circumstances when the process may be invoked. In addition, every disclosure document is required to include the following statement: “Mediation is a voluntary process to resolve disputes with the assistance of an independent third party. Any party may propose mediation or other dispute resolution process in regard to a dispute under the franchise agreement, and the process may be used to resolve the dispute if agreed to by all parties.”

One of the required items of disclosure under all provincial franchise legislation is a statement, including a description of details, regarding whether the franchisor or a director, general partner or office of the franchisor has been convicted of fraud, unfair or deceptive business practices or a violation of a law that regulates franchises or business, or if there is a charge pending against the person involving such a matter. Further, a disclosure document must contain a statement, including a description of details, regarding whether the franchisor, the franchisor’s associate or a director, general partner or officer of the franchisor has been subject to an administrative order or penalty imposed under a law of any jurisdiction regulating franchises or business or if the person is the subject of any pending administration actions to be heard under such a law. Finally, a statement, including a description of details, indicating whether the franchisor or a director, general partner or officer of the franchisor has been found liable in a civil action of misrepresentation, unfair or deceptive business practices of violating a law that regulates franchises or businesses including a failure to provide proper disclosure to a franchisee or if a civil action involving such allegations is pending against the franchisee must be disclosed.

Franchisors would prefer not to have descriptions of these matters (especially civil suits), included in their franchise disclosure documents because of the negative effect on prospective franchisees and, in certain cases, because such actions may disentitle the franchisor from relying on an exemption from the requirement to disclose financial statements. If a franchise dispute is submitted to mediation and resolved without further court process, the resolution or decision will be confidential and private to the parties, and likely not subject to inclusion in a franchise disclosure document (unless considered to constitute a “material fact” as defined in the legislation).

Members of the Canadian Franchise Association (almost 500 franchise systems representing more than 40,000 business outlets across Canada) are required to abide by the CFA’s Code of Ethics. Among the ethical franchising practices adopted by the CFA is the requirement that “fairness should characterize all dealings between a franchisor and its franchisees,” and “both parties should make reasonable efforts to resolve complaints, grievances and disputes with each other through fair and reasonable direct communication, and where reasonably appropriate under the circumstances, mediation or other alternative dispute resolution mechanisms.” In furtherance of the requirement for the parties to resort to mediation or other alternative dispute resolution mechanisms, the CFA has established a franchise ombudsman program under which the services of a confidential and neutral third party ombudsman are provided to help resolve problems as early as possible “in an amicable and expeditious fashion.”  Of major importance to this program is that “where possible, the ombudsman will suggest and refer unresolved complaints and problems to alternative methods of dispute resolution.”

In addition to government and industry association initiatives, independent mediators and arbitrators and ADR organizations have recognized the utility and application of mediation as a means of resolving franchise disputes.  Some are recognizing franchising as a specialized area of mediation and arbitration.

Finally, there is the cost factor.  Franchise litigation can be protracted, and very costly and disruptive to both parties.  Results may take months in the case of interim orders, or years in the case of trials.  Costs can easily run into hundreds of thousands of dollars.  Disputes involving current franchisees can and most often will have a chilling effect on the ongoing franchise relationship. The resolution of a dispute at an early stage through mediation can save a substantial amount of time and money, and allow the parties to focus on their ongoing business needs rather than disputes.

In light of all of these factors, and with the continuing interest of the print and electronic media in reporting on franchise disputes, particularly those involving well known systems, more and more franchise disputes will and should utilize mediation in the future. Franchisors should consider including mediation provisions in their agreements, or establishing written mediation polices, in order to take advantage of this growing and very useful trend.

Any member of the Osler Franchise Team can assist you in considering how and when to utilize mediation in your franchise program.

 

Published In: General Business Updates, Franchise Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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