How Ontario’s Franchise Legislation May Stop Secured Parties From Enforcing Collateral Security

Article Content

Author: Evan Ivkovic, Student-at-Law, Law Works P.C.
Editorial Committee: Law Works P.C.
Editor: Ben Hanuka

The Ontario Superior Court of Justice’s decision in 2112412 Ontario Inc. v 2165235 Ontario Inc. 2012 OJ NO 4060 [ONSC] has not attracted much commentary from the legal community. Still, the case reveals the potential for Ontario’s franchise legislation, the Arthur Wishart Act (“AWA”), to prevent creditors and assignees of debt to obtain a defaulting franchisee’s collateral. More generally, the case may speak to how Ontario courts settle inconsistencies between the AWA and other commercial legislation.

2112412 Ontario Inc. (“211”) entered into franchise agreements with 2165235 Ontario Inc. (“216”) and another numbered Ontario company (“213”). To finance its franchise operations, 211 took out a Small Business Loan with CIBC. 211 eventually defaulted on its loan with CIBC, which included a related security agreement requiring 211 to put up all its personal property as collateral, including chooses in action (i.e., the right to sue). After defaulting, 211 sought to rescind its agreements with 216 and 213 under s. 6(2) of the AWA and claim damages under s. 6(6) of the AWA.  But, Samson, the assignee of 211’s indebtedness, intervened in 211’s proceedings against 216 and 213, challenging 211’s standing.

The core issue was the resolution of two countervailing claims: Samson’s argument that the Personal Property Security Act (“PPSA”) gave it 211’s collateral, free of any right or interest of 211 and the argument that s. 11 of the AWA was drafted to shield franchisees from commercial contracts that try to take away their rights under the AWA.

Justice Spence ruled that s. 11 of the AWA does not allow franchisors to force franchisees to give up their rights under the AWA. The upshot for 211 was that it could continue its litigation against 216 and 213, despite divesting its personal property, including its right to sue, as collateral in satisfaction of its debt.

Spence J chose not to deal with whether rescission could apply to agreements that had been previously terminated (211’s agreements with 216 and 213 were terminated in 2010 and 2011, respectively). Instead, Spence J focused the bulk of his ruling on interpreting s. 11 of the AWA in the context of the PPSA.

Resolving the Tension between the Personal Property Security Act and the Arthur Wishart Act

Spence J prefaced his judgment by remarking on two difficulties with analyzing the application of s. 11 of the AWA to 211’s security agreement with CIBC. He thought that the AWA, as ‘consumer protection’ legislation, should be interpreted broadly and harmoniously with the PPSA, yet also noted that case law was not helpful in supporting this position nor did it provide specific guidance on how to apply the principle. Still, Justice Spence cited two earlier Ontario decisions to establish the idea that a “broader interpretation of s. 11 deserves due consideration.”

Spence J invoked the principles of breadth and harmony of interpretation when he asserted that the word “release” in s. 11 of the AWA should mean that 211 could not assign away its rights under the AWA. An assignment is a “release” because the franchisee is letting go of its access to the legal remedies provided by the AWA. The word “release” in s. 11 of the AWA is not about whether franchisors are released from their obligations but whether franchisees have waived their rights. Thus, Spence J dismissed Samson’s motion on the basis that 211 has standing, at least with respect to its statutory rights under the AWA.

Creditors and Assignees of Debt, Beware

Going forward, the reasoning behind the case tells us how Ontario courts may address apparent conflicts between the AWA and legislation related to secured transactions and insolvency. Franchisees typically pursue remedies of rescission and damages after failing as businesses, thus going forward it would not be unusual for similar litigation to crop up. Creditors of franchisees and assignees of a franchisee’s indebtedness should beware, as they may be surprised by an unexpected qualification to their property rights as secured parties.

For more information about Law Works’ expertise and how we may be able to help you, please contact Ben Hanuka at https://www.lawworks.ca/book-a-consultation or by phone at (855) 978-5293.

***