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Franchise Law e-COMMUNIQUÉ - April 2019

Published: 04/04/2019

By Kate Byers, Carly Cohen, Danielle DiPardo, Stefanie Holland, Christopher Horkins, Noah Leszcz, Eric Mayzel, Alexandra Murphy, Colin Pendrith, Frank Robinson, Derek Ronde, Geoffrey B. Shaw, Sam Sokoloff, Stéphane Teasdale, Larry M. Weinberg

In This Issue

  1. Raising a Red Flag – Competition Laws Being Used to Attach Non-Solicitation Clauses in US Franchise Agreements
  2. A Boost of Guidance from the Alberta Court of Appeal Regarding Relief From Forfeiture
  3. Supreme Court of British Columbia Grants Injunction to Preserve Contractual Rights
  4. Ontario Court Confirms Low Threshold for Setting Aside Default Judgment
  5. Clarity for Crabby Joe’s?: The Supreme Court of Canada Denies Leave to Appeal in Franchise Dispute
  6. What We’re Up To – Spring 2019

Raising a Red Flag – Competition Laws Being Used to Attach Non-Solicitation Clauses in US Franchise Agreements

By Larry M. Weinberg, Chris Hersh

Is it Time for You to Consider Revising your Canadian Franchise Agreement to Remove the Risk?

For many years, standard franchise agreements in Canada and the United States have included provisions that prohibit a franchisee from hiring away the employees of the franchisor or employees of another franchisee of the franchisor. In Canada, these have historically been referred to as non-solicitation clauses, while in the US they are often called no-poaching clauses. The rationale behind these clauses seems straightforward enough, namely that the franchisor or a franchisee of the system should not absorb the cost of training good employees only to have those employees lured away by other franchisees of the same brand. So prohibiting the solicitation or luring away of employees by other franchisees was meant to keep the peace within the system. A typical non-solicitation clause in a Canadian franchise agreement may look like this:

The Franchisee shall not, directly or indirectly, without the prior written consent of the Franchisor, hire, solicit, interfere with or entice away, from the Franchisor, or any other franchisee of the Franchisor, any employee of the Franchisor or any employee of another franchisee of the Franchisor.

While these provisions have been in standard franchise agreements for many years, they have recently come under scrutiny in the US, resulting in various large franchisors being sued by a number of US State governments under the theory that these no poaching provisions are anti-competitive as they stand in the way of  employees seeking a better paying job with another business (i.e., another franchisee of the same brand) because those other franchisees are not permitted to hire them. This effectively depresses wages amongst some of the already lowest wage earners in the US, namely employees of franchised fast food restaurants.

The reality is that while no-poach provisions were in many, if not most, franchise agreements, they were rarely used or enforced. So instead of fighting the legal issue, many of the big name US-based brands who have been sued by US State governments have settled these actions by undertaking not to enforce the no-poach clauses against franchisees that have them in their franchise agreements, and to undertake to remove them from future franchise agreements. (Some insight into the situation in the US, can be found here.)

We have been following these developments, because while the legal issue has not yet been litigated in Canada there is every reason to believe that these same non-solicitation clauses may be similarly attacked under Canadian competition laws.

Under the criminal conspiracy provisions of the Canadian Competition Act (the Act), it is a criminal offence for competitors (and potential competitors) to enter into agreements to fix prices, allocate markets or restrict the supply of a product. The term “product” is defined quite broadly and includes services of any type. While there have been no enforcement actions taken under the criminal provisions of the Act in the context of non-solicitation, no-poach or wage-fixing agreements, the language of these provisions is potentially broad enough to apply to these types of agreements. In addition to significant criminal sanctions (significant fines and possible imprisonment), a violation of the criminal provisions of the Act also exposes companies to the risk of civil damages claims, which are often brought by way of class actions.

Even if the criminal provisions of the Act do not apply, the Canadian Competition Bureau (the Bureau) could challenge non-solicitation, no-poach or wage-fixing agreements under the non-criminal provisions of the Act that prohibit anticompetitive agreements between competitors. Although violations of these provisions do not result in criminal sanctions, they can result in significant negative consequences including prohibition orders, legal costs, reputational harm, among others.

Because the relevant provisions of the Act focus on agreements between competitors, there may be an argument that, in particular, where the franchisor does not operate corporate stores, it is not a “competitor” – in which case these provisions may not apply to no poach provisions in the franchise agreement. However, even if the no-poach clause may not be subject to attack under these provisions of the Act, the enforcement by the franchisor of no-poach provisions, if not handled with care, may be viewed as facilitating an unlawful agreement between competing franchisees or raise possible “hub-and-spoke” conspiracy issues.

While the Bureau does not have a formal position regarding how the Act may apply to non-solicitation, no-poach and wage-fixing agreements, it is clear that the Act includes both criminal and non-criminal provisions that could apply to no-poach provisions in franchise agreements. Given the close relationship between the Bureau and US antitrust enforcement agencies, it may only be a matter of time before the Bureau steps up its enforcement activities in this area as well.

The instances of these clauses being used in Canada appear to be rare. So, to avoid similar compliance issues or claims being raised, we similarly recommend they be removed from franchise agreements, before the problem makes its way to Canada. Please speak to a member of our Franchise Law Group about assisting you on this issue.
 

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A Boost of Guidance from the Alberta Court of Appeal Regarding Relief From Forfeiture

By Alexandra Murphy

The recent decision in Booster Juice Inc. v. West Edmonton Mall Property Inc., 2019 ABCA 58, has provided further guidance on the factors that courts may consider when granting relief from forfeiture.

The respondent, Booster Juice Inc., negotiates Booster Juice retail locations for its franchisees in Alberta. For over a decade, the appellant franchisee ran a successful Booster Juice location in the West Edmonton Mall. The dispute between the parties arose over a proposed second Booster Juice location in the mall. The parties entered into a lease agreement for the second location. However, the West Edmonton Mall subsequently and unilaterally changed the location and orientation of the second location, and invoked a cross-default clause contained in the second lease agreement.

At the trial level, the judge found that the unilateral changes to the location and orientation of the proposed second Booster Juice constituted a repudiatory breach, since it deprived Booster Juice of substantially the whole benefit of the second lease agreement. Following that determination, the trial judge granted relief from forfeiture, and noted the following factors in the record supporting the equitable and discretionary relief, including:

  1. The history of successful operations at the first Booster Juice location indicated little likelihood of default on the lease;
  2. There was no evidence of issues with financial stability at the first location;
  3. The profitability of the first location, including the likelihood that any subsequent tenant would bring in a lower rental income for the West Edmonton Mall; and
  4. The fact that Booster Juice was unlikely to “disappear into the night leaving the landlord to suffer a significant loss.”

At the appeal, the Court of Appeal of Alberta considered whether the landlord was entitled to apply a cross-default clause in the lease for the second location in order to terminate Booster Juice’s lease at the first location. The Appellate Court found that the trial judge made no reviewable error in finding that Booster Juice accepted the landlord’s repudiation of the second lease agreement. It further concluded that the enforceability of the cross-default clause was a moot point since the lease agreement was terminated before the landlord sought to rely on the cross-default clause. The Court of Appeal agreed with the trial judge’s decision that even if the cross-default clause was enforceable, relief from forfeiture was still appropriate, and reiterated the factors the trial judge considered in granting the equitable relief.

Key Takeaway Principle

Due to the discretionary nature of relief from forfeiture, a trial judge’s decision is insulated from appellate review unless the trial judge’s decision is unreasonable or based on an error in principle or in law. Franchisors and franchisees ought to be mindful that courts will consider the full factual matrix, including evidence of the parties’ conduct, history, and profitability, when granting equitable remedies, including relief from forfeiture.

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Supreme Court of British Columbia Grants Injunction to Preserve Contractual Rights

By Danielle DiPardo

A recent case out of the Supreme Court of British Columbia demonstrates the significance of preserving a franchisor’s contractual rights under a franchise agreement. On December 21, 2018, in New Beginnings Early Learning (White Rock) Ltd. v. CEFA Systems Inc, 2018 BCSC 2417, the Supreme Court of British Columbia granted an injunction brought on behalf of the franchisor defendant enjoining the franchisee corporate plaintiffs from disposing of or encumbering any assets or shares pending a final disposition of the within Action.

The defendant, CEFA, is the developer and franchisor of a distinctive format of early child learning and junior kindergarten schools, including curriculum. CEFA claims that it lawfully terminated the franchise agreements that were in place with the corporate plaintiff in the face of unauthorized de-branding of their schools. The plaintiffs, on the other hand, assert they elected to rescind the franchise agreements and respective guarantees since they were induced to enter them as a result of intentionally false and misleading representations.

On the application for an injunction, CEFA was not seeking to enjoin the plaintiffs from continuing to operate their de-branded schools and from using or disposing of revenues. Rather, CEFA was seeking to prevent the plaintiffs from disposing of or encumbering the assets of the schools, which it claims to be entitled to purchase at fair market value pursuant to the franchise agreements. This would effectively prevent a change of control of the plaintiffs.

In applying the well-established injunction test, the Court concluded that CEFA demonstrated serious issues of contractual interpretation to be tried, specifically whether it’s right to prevent a change in control of the plaintiffs survives termination of the franchise agreements. In considering the balance of convenience prong of the injunction test, the Court ruled in favour of CEFA because it had made it clear that it intends to purchase the assets of the plaintiffs and the franchised business, and there was a risk that there would be no assets remaining if the injunction was not granted. Finally, the Court emphasized that CEFA’s loss of its contractual rights may also impact its reputational interests supporting CEFA’s claim to irreparable harm.

Key Takeaway Principle

Courts will consider whether injunctive relief is necessary so as not to deprive a party of contractual rights This is especially the case where a franchisor demonstrates a clear intention to exercise and implement such rights. The consideration of whether injunctive relief is appropriate will also be incited by the need to ensure key subject matters of litigation are preserved, including the impact to a franchisor’s reputation and goodwill.

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Ontario Court Confirms Low Threshold for Setting Aside Default Judgment

By Kate Byers

In 2355305 Ontario Inc. v. Savannah Wells Holdings Inc., 2019 ONSC 1220, the Ontario Superior Court of Justice recently confirmed the relatively low threshold for the granting of a motion to set aside the noting in default of a defendant, and the cost consequences that can accrue to a defendant that waits to bring such a motion.

Procedural History

In September 2015, the plaintiffs commenced a claim against a franchisor and other parties relating to the purchase of an existing franchise and asserted remedial claims under the Arthur Wishart Act (Franchise Disclosure), 2000. Such claims included declarations affecting the personal liability of the officer and director of the franchisor corporation and a related corporation, and damages in excess of $600,000. The claim followed discussions of the dispute held amongst the parties’ lawyers.

Despite these discussions, the plaintiffs’ counsel served the claim on the franchisor defendants personally, but not on their lawyers. After the franchisor defendants did not defend the action, the plaintiffs noted them in default approximately one month later.

The franchisor defendants’ lawyer learned of the claim in the spring of 2016 and served a Notice of Intend to Defend. The following month, the plaintiffs’ lawyer advised that the franchisor defendants had already been noted in default and that their clients would not consent to setting aside the noting in default. No further steps were taken with respect to the noting of default by either set of parties until the fall of 2018, when the plaintiffs served their default judgment motion materials and the franchisor defendants brought this motion to set aside the noting in default.

Ontario Superior Court of Justice’s Decision

The Court applied the test for the setting aside of a noting in default. In doing so, he considered the following:

  • there had been some intention to defend the action;
  • the plaintiffs had failed to notify the lawyer for the defendants of the claim as well as of the noting in default;
  • the defendants had no explanation for their lengthy delay after learning of the claim;
  • the case appeared relatively complex and was high in value;
  • the defendants had shown an arguable defence on the merits; and
  • the plaintiffs would not suffer any prejudice that would not be compensable in costs as a result of the setting aside.

While the Court determined that overall, the factors favoured the setting aside of the default judgment, he ordered $12,000 in costs payable by the franchisor defendants to the plaintiffs.

Key Takeaway Principle

This is a cautionary tale regarding a procedural challenge that can occur as a result of litigation between a franchisor and franchisee. While it may be tempting for a defendant to employ a “wait-and-see” approach to litigation, the more prudent course of action for defendants who are noted in default is to immediately move to set it aside, rather than waiting and incurring associated costs consequences associated with costs thrown away.

On the flip side, plaintiffs who have noted a defendant in default should be aware that there is a low threshold associated with setting a noting in default aside, and that the aggressive approach may not always be the reasonable or beneficial one.

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Clarity for Crabby Joe’s?: The Supreme Court of Canada Denies Leave to Appeal in Franchise Dispute

By Stefanie Holland, Alexandra Murphy

In our previous newsletters, we reported on the case of 2212886 Ontario v. Obsidian Group, which arose out of a motion for partial summary judgment concerning a franchise dispute. By way of brief summary, at the Superior Court of Justice level, there were two principal issues respecting liability. The first was whether the disclosure document provided by the franchisor was so materially deficient as to constitute no disclosure at all, giving rise to a right to rescission within two years of the execution of the franchise agreement pursuant to the Arthur Wishart Act (Franchise Disclosure), 2000, S.O. 2000, c. 3. The second liability issue was whether the two year period ran from the date the parties first executed the franchise agreement, in which case the claim would be out of time, or from the date the parties executed a replacement agreement, in which case the claim was timely. The motion judge granted the franchisee and its principals rescission of the franchise agreement and damages against the franchisor and its director. (A copy of our discussion on the Superior Court of Justice decision can be found here.)

On appeal, the Appellate Court allowed the appeal in part, setting aside all but the motion judge’s determination of the limitation period issue. This decision was made on the basis that there was an insufficient record upon which to make crucial findings of fact and that oral evidence was necessary to address issues of credibility.(A copy of our discussion on the Court of Appeal decision can be found here.)

On March 7, 2019, the Supreme Court of Canada released its judgment dismissing the franchisee’s application for leave to appeal with costs. Following the failed appeal, the matter will be sent back to the Ontario Superior Court of Justice for trial. (A copy of the Supreme Court of Canada’s decision refusing leave to appeal can be found here.)

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What We’re Up To – Spring 2019

Recent

Larry Weinberg, Geoff Shaw, Derek Ronde and Frank Robinson attended the 2019 IFA Convention in Las Vegas, NV.

Frank Robinson moderated a round table discussion at the February 2019 IFA Convention in Las Vegas, NV regarding Creative Solutions for Negotiating Franchise Agreements.

Larry Weinberg moderated a round table discussion at the February 2019 IFA Convention in Las Vegas, NV regarding Franchise Expansion to Canada.

Noah Leszcz spoke at the Franchise Canada Show in Toronto about The Legal Aspects of Buying a Franchise on February 24, 2019.

Chris Horkins spoke at the Ontario Bar Association’s young lawyers program, providing tips and insight on Strategies for Trial Preparation on March 1, 2019,

Upcoming

Frank Robinson is scheduled to speak at the April 2019 CFA National Convention in Niagara Falls, ON on a panel discussing Why Won’t My Franchisees Just Follow the System? Creating Franchisee Buy-In and Trust.

Larry Weinberg is scheduled to moderate the Annual Legal Update at the April 2019 CFA National Convention in Niagara Falls, ON.

Noah Leszcz is scheduled to moderate a panel at the O’Cannabiz Conference & Expo on Retail & Franchise on April 25, 2019.

Frank Robinson is scheduled to speak at the May 2019 IFA Legal Symposium in Washington, DC on a panel discussing Franchising in the Cannabis Industry in both the US and Canada.

Larry Weinberg is scheduled to speak at the May 2019 IFA Legal Symposium in Washington, DC on a panel discussing The Basics of International Franchising.

Larry Weinberg is scheduled to moderate a panel at the May 2019 IBA/IFA Joint Conference on International Franchising in Washington, DC titled Choosing and Working with Local Counsel.

Derek Ronde is scheduled to speak at the morning OBA Franchise Section session on Best Practices in Prosecuting and Defending Rescission Claims on June 13, 2019.

Larry Weinberg is scheduled to speak at the International Distribution Institute annual conference in Lake Como, Italy, taking place on June 14-15, 2019, on Other Typical Essentials Legal Terms in Distribution Agreements.

Colin Pendrith is scheduled to speak at the Canadian Public Relations Society National Conference in Edmonton, AB on Brand Protection - Where Law Meets Public Relations on June 17, 2019.

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