Litigation Involving a Franchisor is Not, by Definition, a Material Fact

Under the Arthur Wishart Act (Franchise Disclosure), 2000[1] (the “AWA”), a franchisor must provide a prospective franchisee with a disclosure document containing, among other items, all material facts, including material facts as prescribed.[2]

A “material fact”, according to s. 1(1) of the AWA, includes:

Any information about the business, operations, capital or control of the franchisor or franchisor’s associate, or about the franchise system, that would reasonably be expected to have a significant effect on the value or price of the franchise to be granted or the decision to acquire the franchise.

In Caffé Demetre Franchising Corp. v. 2249027 Ontario Inc.,[3] the Ontario Court of Appeal upheld a lower court decision dismissing a franchisee’s claim for rescission pursuant to s. 6(2) of the AWA, which claim was founded on an alleged failure to disclose a material fact.

On the hearing of the motion for partial summary judgment in respect of the franchisee’s rescission claim, the Ontario Superior Court of Justice held that the franchisor’s failure to disclose litigation against a former franchisee of the system constituted a material fact, but that the deficiency “fail[ed] to come anywhere close to the type of deficient disclosure that amounts, in law, to no disclosure at all”.[4]  For an overview of the original decision, please click here.

In a unanimous ruling, the Ontario Court of Appeal dismissed the franchisee’s appeal, finding that the undisclosed litigation did not entitle the franchisee to the remedy of rescission and, in any event, did not constitute a “material fact” for purposes of the AWA.  In arriving at this conclusion, the court referred to s. 2(5) of the AWA Regulations[5] (the “Regulations”), which requires that every disclosure document include:

A statement, including a description of details, indicating whether the franchisor, the franchisor’s associate or a director, general partner or officer of the franchisor has been found liable in a civil action of misrepresentation, unfair or deceptive business practices or violating a law that regulates franchises or businesses, including a failure to provide proper disclosure to a franchisee, or if a civil action involving such allegations is pending against the person.

While the court avoided any suggestion that the only type of litigation requiring disclosure is that falling squarely within s. 2(5) of the Regulations, the court affirmed that s. 2(5) informs the fact-specific analysis of whether litigation involving a franchisor is material.  In the words of the court:

Ongoing or prospective litigation involving the franchisor is not, by definition, a material fact.  Of course, the litigation must be disclosed if it falls within the description contained in s. 2(5) of the regulations.  But if the litigation in issue does not fall within that description, then whether it is a material fact, as contemplated by the Act, will be a question of fact determined on a case-by-case basis.  Because the analysis is highly fact-specific, no bright-line rule can be articulated.[6]

The court also emphasized that the litigation at issue was commenced by the franchisor at the request, and for the benefit, of its franchisees, that the litigation did not present a potential liability attaching to the system, and that the litigation did not have a financial impact on the franchisee’s operations.  For these reasons, the Court of Appeal concluded that the litigation did not constitute a “material fact” and that its omission from the franchisor’s disclosure document did not render the disclosure deficient.

Franchisors are encouraged to consult with a franchise lawyer to determine whether ongoing or prospective litigation ought to be disclosed pursuant to s. 2(5) of the Regulations or s. 5(4)(a) of the AWA, or whether such litigation may be safely disregarded for disclosure purposes.