Franchise 2017: Roundtable

Franchise 2017: Roundtable

Who’s Who Legal brings together Brian Schnell at Faegre Baker Daniels, Jennifer Dolman at Osler Hoskin & Harcourt and Melissa Murray at Bird & Bird to discuss some of the most important issues facing franchise lawyers and their clients today, including recent political changes around the world, the internationalisation of brands and the impact of new technologies on the practice area.

Roundtable Franchise

 

 

 

 

 

Have there been any significant developments in franchising law in your jurisdiction over the last 12 months?

Jennifer Dolman: There has been a lot of legislative and judicial activity in Canada impacting the franchising industry, including the following key examples.

The first is franchise legislation in British Columbia. On 1 February 2017, British Columbia’s Franchises Act (the BC Act) and Franchises Regulation came into force, making it the sixth province to enact franchise-specific legislation (along with Ontario, Alberta, New Brunswick, Prince Edward Island and Manitoba). Beginning on 1 February 2017, franchisors selling franchises in BC must deliver a compliant disclosure document to prospective franchisees at least 14 days before either the execution of a franchise agreement (or any agreement relating to the franchise agreement) or the payment of any consideration in relation to the franchise. Since the BC Act imposes retroactive application for certain claims, including for damage claims related to breaches of the duty of fair dealing and the right to associate, this means that, as of 1 February, franchisees (and franchisors) are able to make damage claims for breaches of the duty of good faith and fair dealing in the performance and enforcement of franchise agreements entered into prior to 1 February. 

The second development is Ontario’s Healthy Menu Choices Act, which came into force on 1 January 2017. Restaurant chains and other food service providers with 20 or more locations operating under the same (or substantially the same) name in Ontario are required to include caloric information regarding standard food and drink items on menus, menu boards and displays. The legislation has broad application, applying not only to quick-service restaurants, but also to convenience stores, grocery stores, movie theatres or other businesses that prepare meals for immediate consumption, either on the premises or elsewhere.

The third development is the Ontario Court of Appeal weighing in on franchise law issues. In Ontario, where most of Canada’s franchise case law has developed, the Ontario Court of Appeal, the highest court in the province, released two important decisions in 2017. On 8 June 2017, in Mendoza v Active Tire & Auto Inc, 2017 ONCA 471, the Court of Appeal confirmed that the test for rescission under section 6(2) of Ontario’s Arthur Wishart Act (Franchise Disclosure), 2000 (the Wishart Act), is whether the disclosure was “materially deficient”, and not whether the franchisee was sophisticated, or how a particular franchisee happened to act or react upon receipt of a disclosure document. The lower judge had erred in finding that in spite of the disclosure document’s material deficiencies, including a missing signature in the franchisor’s certificate, and stale-dated financials, the franchisee had been sufficiently informed because the principal was sophisticated and had professional advisers.

On 4 July 2017, the Court of Appeal released separate decisions on the appeals it heard in relation to Trillium Motor World Ltd v General Motors of Canada Limited (GMCL) and Cassels Brock & Blackwell LLP. The Court’s reasons in the appeal against GMCL at 2017 ONCA 545, are most pertinent to the franchise bar. The trial judge had dismissed all of the Wishart Act claims against GMCL (this was primarily a fair dealing case but the claims against GMCL also included a rescission claim and a claim for interference with the statutory right of association), and in any event, had found in the alternative that the form of release that each class member dealer had signed was valid and enforceable, despite the no waiver provision of the Wishart Act. The Court of Appeal agreed that the releases satisfied the “settlement exception” for franchisee releases, and because the release was a “threshold issue”, did not address the other franchise law issues. 

A third important franchise law appeal will be argued in early October, 2017. In Raibex Canada Ltd v ASWR Franchising Corp, 2016 ONSC 5575, the lower court had granted the franchisees a two-year rescission remedy primarily because the franchise disclosure document received from the franchisor did not contain a copy of the head lease (and associated cost information), despite the fact that no site had been selected, and therefore no head lease existed at the time of disclosure or when the franchise agreement was executed. This finding took much of the Canadian franchise bar by surprise because it is not uncommon in the Canadian franchise industry for site selection to take place after the execution of the franchise agreement. The lower court’s view, however, was that it is “premature” to deliver a franchise disclosure document until all material facts, including facts about the head lease, are known. 

Melissa Murray: The two main developments that impact franchising are Saudi Arabia’s draft franchise law, and the upcoming VAT, which is due to start on 1 January 2018 throughout the Gulf Co-Operation Council States of the United Arab Emirates, Oman, Bahrain, Kuwait, Qatar and Saudi Arabia. For the UAE, the implementing regulations, which will hopefully clarify how VAT may impact franchising is due to come out shortly. At this stage, however, it is expected that VAT will be due on royalties payable to franchisors. 

In early 2017, Saudi Arabia released a draft franchise law for public comment. Included in the draft were provisions relating to requirements for a disclosure document, registration requirements for the franchise documentation, mandatory registration of the relevant trademarks and mandatory Arabic versions of documentation to be prepared. At this stage, however, it is not known if this franchise law will progress any further. 

Brian Schnell: US franchise laws continue to be influenced by joint employment developments. We continue to see joint employer principles surface in federal and state courts, federal and state regulatory agencies and in the halls of Congress and state-houses across the country. On the legislative front, the franchise community has joined forces with many other business groups in a concerted effort to roll back these joint employer laws that unduly harm the franchise business model, especially when coupled with the myriad laws and regulations that impact franchised businesses generally.

In the courts, joint employment cases often focus on the vicarious liability principles of the nature, scope and type of franchisor controls. Franchisors rightly impose requirements and system standards to assure uniformity in the franchise system and protect their trademarks. The key is to understand the difference between mandating system standards (which are necessary and very appropriate) versus unnecessarily mandating the manner and means of meeting the standards. In many respects, system standards are about controls. To the uneducated, these controls may appear pervasive. But each control exercised by a legitimate franchisor serves a function other than controlling a franchisee’s day-to-day operations. Those distinctions should be articulated, understood and followed in order to navigate the joint employment minefields.

What are the biggest challenges facing franchisors in your jurisdiction? 

Brian Schnell: Change: consumers demand it. Rather than address change at the time of renewal, change now occurs on an ongoing basis. Whether it’s a retail brand competing against Amazon, a food service brand implementing online ordering or any other brand doing whatever is needed to respond to customer demands, those franchisors who effectively implement system change in this constantly changing environment will prevail.

In healthy and collaborative franchise systems, the franchisor and franchisees focus on customer-centric activities with the mutual objective of finding and keeping highly satisfied and loyal customers. Contrast that approach with systems where the franchisor and franchisees are at odds, constantly fighting over whether the franchisor has the right to force system changes and whether the franchisees must implement those changes. Regardless of specific franchise agreement provisions, highly successful franchisors include franchisees in conversations regarding system-wide decisions and value franchisee opinions, still reserving and exercising the right as the franchisor to make system-wide decisions. These franchisors explain their decisions without having to rely on a reason that includes some form of: “I can make this decision because I am the franchisor, and you must comply because you are the franchisee.” 

Recent political developments around the world have caused a great deal of uncertainty. How has this affected franchisor behaviour and the internationalisation of brands?

Jennifer Dolman: Canada is always directly affected by what is happening in the United States, its closest neighbour and most important trading partner. Ever since Trump became president, the uncertainty over the future of NAFTA has already had significant effect on the Canadian economy, of which franchising plays an important part. Although Trump is pro-business, he is keen about putting America first. 

Another important issue to mention is that of joint employment. There is a recent trend globally towards making franchisors joint employers with their franchisees on their franchisees’ employees. In the past 12 months, this issue has been a significant concern for the Canadian franchise industry because one of the initial recommendations of the Changing Workplaces Review, established by Ontario’s Ministry of Labour, was to amend existing employment legislation to deem franchisors to be joint employers. While the Changing Workplaces Review’s final report specifically rejected the adoption of a new joint employer status for franchisors, preferring instead to maintain the status quo of assessing the issue on a case-by-case basis under the existing legal framework, the report did recommend a process that could create a more direct route to unionisation and collective bargaining for employees of Ontario franchisees operating under the same brand. 

On 1 June 2017, the Ontario government introduced Bill 148, the Fair Workplaces and Better Workplaces Act 2017. In a positive development for franchisors and franchisees, Bill 148 does not include measures to adopt the more drastic recommendations in the Final Report that were specifically directed at franchise systems. However, franchisors and franchisees should be aware that among the proposed changes to the Labour Relations Act in Bill 148 are measures that may increase the number of union drives and successful applications for certification. Furthermore, proposed changes to the Employment Standards Act, including staged increases to the minimum wage (with the minimum wage increasing to $15 per hour by 1 January 2019) will, if implemented – according to an independent economic impact analysis conducted by the Canadian Centre for Economic Analysis, and released in August 2017 by the Keep Ontario Working Coalition – put 185,000 Ontario jobs at risk in two years, and increase the cost of consumer goods and services by $1,300 per household starting in 2018.

Melissa Murray: Despite the uncertainty, we have seen an increase in local brands looking to franchising in order to expand across the region, with a plan to go international within five to 10 years. In terms of inbound international franchises, the uncertainty does not appear to have slowed the rates of deals being made. With the lower oil price, we have seen an increase in royalty “holidays” and restructured commercial terms to relieve some pressure off franchisees who may have cash flow difficulties. We have also noticed international franchisors monitoring franchisee payments in a stricter manner so as to address issues earlier than they may have in the past.

Brian Schnell: The global uncertainty and turmoil has not necessarily caused franchisors to pull back on their international franchise expansion, but it has created opportunities to strengthen existing international relationships and focus more efficiently on key markets rather than a wider shotgun approach of trying to expand by chasing any candidate who expresses interest. What worked before will not necessarily work in this current environment. 

Whenever possible, franchisors are dedicating more resources to supporting international operations and at the same time encouraging local adaptations to local culture and traditions. The successful franchisors are finding ways to communicate more efficiently and effectively with the right international franchisees who will bring the passion, experiences, resources and reputation to building the franchise brand in the local market. Proactive web-based technology can influence and enhance that type of effective collaboration.

Are there any particular markets clients are keen to target for expansion? 

Jennifer Dolman: Franchisors are always looking for new markets in which to expand. In 2015, Cuba was described as the “new frontier”. Given the Trump administration’s new restrictions on doing business with Cuba, however, and the country’s lack of suitable infrastructure, Cuba is no longer an attractive market for franchise expansion. Popular markets include Australia, China, Indonesia and South Africa. As for Canadian franchisors, only a small number have expanded internationally. Last year, Tim Hortons focused on the UK and the Philippines; this year the company is looking to Mexico and Spain. Freshii, a franchisor of healthy food eateries, has restaurants in Austria, Ireland, Sweden and the Netherlands and is currently growing in the UK. Property Guys, Canada’s largest private sale franchise network, has recently announced an expansion into Australia. 

Melissa Murray: Saudi Arabia is currently a popular market for expansion. We have seen a large range of deals, from one or two outlets through to the 20-plus area development deals in a variety of sectors such as healthcare, fitness businesses, cleaning companies, and the usual apparel and restaurant deals. The high percentage of the population under 25, estimated at around 50 per cent, is making the market attractive for international businesses. The United Arab Emirates is always a popular choice for initial expansion into the Middle East, given the ease of doing business, high tourist numbers and English being widely spoken. 

Brian Schnell: While the following factors have always been important, today more than ever before, we see clients focusing on markets with: a track record of franchising success, opportunities to fully understand the competition and compete effectively with those competitors, friendly to new concepts, large potential market with a pro-business economy with high consumer confidence and little economic upheaval or unrest, and a stable political and economic environment and established legal system. Chile, Vietnam, New Zealand, Australia (although recent joint employer developments in Australia could impact future expansion), Belgium, Taiwan and the UK fit at least most of the characteristics.

The bottom line is there is no substitute for a franchisor doing its homework on the front end in fully understanding potential new markets from business, political and legal perspectives. Those factors, however, in no way reduce the importance of finding sophisticated international candidates in those markets with other established franchise brands or businesses. 

New technologies have significantly impacted consumer behaviour. In what ways do you see the field of franchising evolving to adapt to these changes?

Jennifer Dolman: We are now experiencing what has been coined a “gig” or on-demand economy. Consumers expect to order products and services from their mobile phones and have them delivered immediately. First it was a big deal to pay for a coffee at your local Starbucks, now consumers want their lattes waiting for them at the barista’s counter. As a result of the “I want it and I want it now” trend, franchisors have had to partner with food delivery services such as UberEats, Foodora and Doordash. This development means not only sharing revenue with a third party but accepting that a franchisor’s branded products will be carried alongside those of its competitors.

To keep up with consumer demands, franchisors have also had to launch sophisticated apps and keep them updated, offer self-service kiosk ordering, and provide sleek, smart menu boards.

Melissa Murray: In terms of franchisor’s support to franchisees, we are seeing more operations manuals being provided “online only”, with some franchisee support being provided through web chats/email rather than traditional “over the phone” support. Many restaurant and fast-casual brands are embracing in-store iPad ordering – and with delivery being a major component of all food businesses in the region, easy online ordering is a must. Some brands are launching with reduced front-of-house staff, in favour of the iPad ordering systems; others are specifically tailoring their systems to deal with third-party delivery outfits such as UberEats and Deliveroo. We have also seen international franchisors having access to local security cameras to “check in” on front-of-house staff and monitor how the store may be operating locally. In terms of apparel businesses, online ordering has meant a lot of time is spent in negotiations between franchisors and franchisees as to exclusivity issues and who may receive the benefit of such online orders that originate from the franchisee’s territory. 

Brian Schnell: New technologies and consumer behaviour focus primarily on data. For many franchisors, data is a key asset as valuable as any other component of the franchise brand. Maximising the value of customer data, and the insights that new data analytics techniques can bring, is a key priority for any successful franchisor and its franchise network. A franchisor’s failure to harness and effectively use the power of this data can be a significant competitive disadvantage, especially in today’s rapidly evolving digital economy.

Franchisors must understand, manage and protect data in a manner that complies with myriad domestic and international laws that are constantly evolving. For example, franchise systems operating both domestically and internationally have less than a year to comply with tough new global privacy standards – the EU General Data Protection Regulation (GDPR). Franchisors also must understand what every business needs to do to prepare for the next cyberattack, the roles and responsibilities of franchisors and franchisees in setting and maintaining security standards, and how to develop and maintain a culture of security.

How do you see the field developing in the future?

Jennifer Dolman: In Canada, A&W introduced a new franchise model in 2016 to recruit younger millennial franchisees who may not have all of the business background and capital that the company’s traditional franchisees might have. The new model allows millennials the opportunity to own a restaurant with an initial investment that is about half the cost of a traditional restaurant. According to the Canadian Franchise Association, the recognised authority on franchising in Canada, based on data collected from franchise searches on LookforaFranchise.ca and on-site surveys from the FranchiseCanada Show, 30 per cent of prospective franchisees in Canada are between the ages of 18 and 34, making millennials the second-largest age group looking for franchises in Canada.

Another development of note has to with the legalisation in Canada of cannabis. By July 2018, Canadians will be able to purchase cannabis without a medical prescription for recreational use. A regulated retail framework is currently in the works. This development has resulted in many companies and investors trying to get in on the act, and this includes franchise opportunities. 

Melissa Murray: We expect franchising to remain a popular method of expansion in the region. Technology advancements will obviously continue to change how systems are delivered, so we expect to see more negotiations and contractual clauses in “online” businesses, as opposed to those with physical locations. We wait to see if Saudi Arabia issues its franchise law; if it progresses, this could mean that the other Gulf Co-Operation Council States also look to implement some form of franchise laws. We are also seeing more sophisticated commercial arrangements with franchisors using a mix of joint venture, collaboration, licensing, franchising and sub-ordinated equity arrangements. We expect this trend to continue. 

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