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But, that Franchisee was Profitable!

In a relatively recent decision involving Springdale Pizza Depot Ltd., the Ontario Superior Court of Justice clarified that a franchisee that validly rescinds a franchise agreement is entitled to compensation for all losses incurred in acquiring, setting up and operating the franchise, regardless of whether the franchisee earned a profit prior to exercising the statutory right of rescission. The decision arose on a motion brought by the defendant franchisor to oppose confirmation of the Report on Reference issued approximately seven months earlier, in which Master Muir refused to deduct from his calculation of damages under the Arthur Wishart Act, 2000 (the “Act”) net profits which the franchisee earned while operating the franchised business.

A franchisee’s entitlement to monetary compensation upon valid rescission of a franchise agreement derives from s. 6(6) of the Act, which states:

The franchisor, or franchisor’s associate, as the case may be, shall, within 60 days of the effective date of rescission,

(a) refund to the franchisee any money received from or on behalf of the franchisee, other than money for inventory, supplies or equipment;

(b) purchase from the franchisee any inventory that the franchisee had purchased pursuant to the franchise agreement and remaining at the effective date of rescission, at a price equal to the purchase price paid by the franchisee;

(c) purchase from the franchisee any supplies and equipment that the franchisee had purchased pursuant to the franchise agreement, at a price equal to the purchase price paid by the franchisee; and

(d) compensate the franchisee for any losses that the franchisee incurred in acquiring, setting up and operating the franchise, less the amounts set out in clauses (a) to (c).

In this particular decision, the franchisor challenged the Master’s calculation of damages under s. 6(6)(b), (c) and (d) of the Act. With respect to subsection (d), the franchisor argued that the Master erred by failing to find that the franchisor was entitled to set off profits earned by the franchisee against amounts required to be paid by the franchisor pursuant to subsections (a), (b) and (c). In support of this argument, the franchisor emphasized the restitutionary nature of the statutory remedy of rescission, the purpose of which is to place a rescinding franchisee in the position it would have been in had the parties never entered into the franchise agreement. 

Justice Lederman, the presiding judge, rejected the franchisor’s argument. Relying on an earlier decision of the same court, Payne Environmental v. Lord and Partners Ltd. [2006] O.J. 273 (SCJ), he affirmed that net profits will not affect a franchisee’s entitlement to compensation under s. 6(6)(a) – (c):

Section 6(6) of the Act outlines four (4) independent categories of payments that are payable by the franchisor to a rescinding franchisee. Subsections (a) – (c) set out specific refund and purchase obligations on the franchisor in the event of rescission… The amounts under s. 6(6)(a) – (c) are payable to the rescinding franchisee regardless of revenue earned and they are specifically exempted from s. 6(6)(d) to prevent double counting.

Regarding the interplay between the various categories of compensation, Justice Lederman noted:

[A] rescinding franchisee is entitled to recover all amounts under ss. (a) – (c) even if it suffers no loss under ss. (d) and even if it has otherwise made a profit during the period of operation. Section 6(6)(d) is clear. It does not say that a franchisor is allowed to offset any revenue or gain under subsection (d) from amounts awarded under ss. (a) – (c). There is to be no discount or offset from a refund under (a), or a purchase of inventory under (b), or a purchase of supplies and equipment under (c). If it were otherwise, subsections (a) – (c) of the Act would not be necessary. A single section providing compensation for losses would suffice if the intention of the Act was simply to put the franchisee back to its former position.

In light of this decision and until such time as a court revisits the interpretation and application of s. 6(6) of the Act, franchisors that fail to comply with their statutory disclosure obligations may be required to compensate a franchisee, in full, for all amounts paid by the franchisee to acquire, set up and operate the franchised business, notwithstanding that such franchisee might have profited from the franchisor’s system throughout the pre-rescission period.