Statutory Damages in Franchise Disputes

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This article was originally published in The Lawyer’s Daily on January 20, 2020, under the same title.  The assistance of Anthony Pugh, Associate at Law Works PC, in writing this article is acknowledged with thanks.

Author: Ben Hanuka, Law Works

This article outlines statutory damages under provincial franchise legislation.  

Statutory damages provide for rescission reimbursement, damages caused by misrepresentation or failure to comply with disclosure obligations, damages for breach of the duty of fair dealing and damages for breach of the right to associate.  

Most damages are imposed on the franchisor or franchisor’s associate.  Some damages are extended to other parties involved in the sale of the franchise.  One head of damages is imposed on both sides to the franchise agreement (breach of the duty of fair dealing).  

Rescission Reimbursement

The main remedy for disclosure failure is reimbursement for rescission (or cancellation in Alberta), which is designed to undo the purchase of the franchise.  

Ontario and most other statutory regimes in Canada (British Columbia, Manitoba, New Brunswick and Prince Edward Island) have structured their rescission remedy to provide a full reimbursement of all money that a franchisee incurred in the setup and operation of the franchised business.  

This includes all moneys paid to the franchisor or a franchisor’s associate, and reimbursement from the franchisor or a franchisor’s associate for equipment, supplies and inventory that the franchisee purchased.  If the franchisee has suffered any losses on top of those amounts, he or she is also entitled to compensation for such additional losses.

In Alberta, the equivalent “cancellation” regime does not provide for such reimbursement, but only to compensation if the franchisee has suffered a net loss.  The franchisor is also not required to purchase inventory, supplies and equipment from the franchisee. Therefore, a franchisee in Alberta who earned a net profit from the operation of the business will have no claim for cancellation of a franchise purchase.  

Damages for Misrepresentation or Disclosure Failures

Another compensation remedy as a result of disclosure failure is damages caused by misrepresentations in the disclosure document or as a result of failure to provide proper disclosure.  

It applies to most provincial franchise statutes.  In Alberta, this damages remedy is limited to misrepresentation, i.e., it does not provide for damages as a result of failure to provide proper disclosure, unless it amounts to misrepresentation.  

This head of damages may be pursued together with the rescission reimbursement remedy – the two are not exclusive to one another. However, they cannot amount to double recovery of a franchisee’s losses.

There are important differences between the rescission reimbursement and the damages remedies.   

The latter requires proof of causation, i.e., losses suffered as a result of the misrepresentation or failure to comply with disclosure obligations.

On the other hand, the damages remedy may include past losses, future losses, or both (unlike a rescission remedy which seeks to bring the parties to the position they were in at the outset).

In addition, a section 7 claim provides additional parties against whom liability may be imposed. Unlike a rescission remedy, which is limited to a franchisor and franchisor’s associate, the damages remedy may be sought against other parties, such as a franchisor’s broker, franchisor’s agent (in Ontario), and every person who signed the disclosure document or statement of material change (in Alberta the range of parties is much more limited).  

It also provides defences to those on whom liability is imposed, although only in respect of the misrepresentation component (not with respect to a failure to comply with the disclosure obligations).

Interesting Reimbursement and Damages Issues

There are some interesting issues that have not yet been adjudicated.  Here are some examples.

Under the equipment, supplies and inventory buyback obligations in the rescission reimbursement mechanism, a franchisor is required to buy back equipment, supplies and inventory at the cost that the franchisee paid.  However, what happens if the franchisor does not do so after the franchisee delivers a notice of rescission (for example, if the franchisor chooses to contest the rescission)? Is the franchisee required to hold the equipment in storage until final resolution of the matter?  Should the franchisee mitigate its damages by selling the equipment, and then claim the difference from the franchisor as a loss?  

It also remains unclear if a franchisor is liable for amounts that a franchisee pays directly to an arm’s length third party, where those amounts were technically payable to the franchisor or a franchisor’s associate, and which the latter were then obligated to forward to the third party as the ultimate recipient of the funds.  

Damages for Bad Faith and Interference of the Right to Associate

Franchise legislation also gives a right of action for damages for breach of the obligation of good faith and fair dealings (except for Alberta which has no explicit damages provision for this duty, although the duty is contained in the statute).  This right of action cuts both ways since the underlying good faith obligation is mutual.

In addition, a franchisee has a right of action for damages for interfering with a franchisee’s statutory right to associate with other franchisees or to form or join an organization of franchisees.  

As a concluding note, statutory damages are in addition to any common law or equitable causes of action and damages that may be available to any of the parties.