By Madison Black, Associate, Osler, Hoskin & Harcourt LLP

There has been much chatter in the franchise law community on the Ontario Superior Court’s findings in Premium Host Inc. v Paramount Franchise Group, 2023 ONSC 1507 (“Paramount”) since its release on March 3, 2023. Although currently under appeal by all parties, the Paramount decision discusses the application of several exemptions from the requirement for a franchisor to provide a disclosure document to a prospective franchisee, serves as a reminder of the importance of good record keeping, and affirms existing points of law articulated in other franchise law cases. This article will give a brief overview of the facts underlying the Paramount decision followed by a discussion of some of the key findings.

Overview of the Facts and Conclusions

It is worth noting that this dispute was described by the court to be “factually intensive”, so the applicability of the court’s findings to other cases is an open issue.  

At a high level (space does not permit an exhaustive review of the background), Paramount Franchise Group Inc. (the “Franchisor”) offers franchises for specialty quick service restaurants offering middle eastern cuisine. The Franchisor entered into franchise agreements with three related franchisees, Versatile Holdings Inc. (“Versatile”), Everest Group Inc. (“Everest”) and Premium Host Inc. (“Premium Host” and together with Versatile and Everest, the “Franchisees”). Versatile entered into two franchise agreements with the Franchisor. The first was a “generic” franchise agreement that did not specify any particular territory or location (which was to be identified by the franchisee after execution), and the second was a “customized” franchise agreement in which a location was identified at the time of execution. Everest entered into one franchise agreement with the Franchisor for a new franchise at a specified location, and Premium Host entered into a franchise agreement with the Franchisor for the resale of an existing location operated by a third party franchisee.

The Franchisees each sought to rescind their respective franchise agreements with the Franchisor  on the basis that the disclosure by the Franchisor was “fatally flawed”. The Franchisees relied on four “fatal flaws” that have been established in previous case law, where a “fatal flaw” is a deficiency so material that the entire disclosure document is void. The Franchisees claimed that the Franchisor: (1) failed to provide financial statements (the Franchisees alleged none of the disclosure documents they received contained the franchisor’s financial statements); (2) failed to disclose a headlease in any of the disclosure documents (the Franchisees alleged none of the disclosure documents contained the head lease for the various locations); (3) failed to include a signed and dated certificate by the Franchisor (the Franchisees alleged that none of the certificates were signed in any of the disclosure documents provided by the Franchisor); and (4) provided the disclosure in a piecemeal fashion (the Franchisees submitted they received a franchise disclosure document, but that not all the information required to be disclosed pursuant to Ontario’s  Arthur Wishart Act (Franchise Disclosure), 2000  (“AWA”) was contained within the four corners of that document, and instead information was disclosed via a mix of different hard copies and electronic copies of the disclosure document, separate copies of the head lease and relevant asset purchase agreements, and financial information contained in separate e-mails).

The Franchisor claimed it was exempt from the disclosure obligation in the AWA on account of the following three statutory exemptions: (1) a grant over $5 million dollars (section 5(7)(h) of the AWA); (2) the resale of an existing franchise (section 5(7)(a) of the AWA); and (3) a grant of an additional franchise to an existing franchisee (section 5(7)(c) of the AWA). The Franchisor also raised two additional defenses: (1) the two-year limitation period to rescind had expired for the Versatile franchise agreement; and (2) that the Franchisor had validly terminated the franchise agreement with Premium Host and therefore it could not be rescinded.

The court ultimately rejected the Franchisor’s defenses, found that none of the exemptions applied, and concluded that the Franchisor failed to disclose certain statutorily required information to Premium Host in one disclosure document at one time. This constituted a fatal flaw that was sufficiently material to conclude that the Franchisor failed to deliver to Premium Host a disclosure document as contemplated by the AWA, and Premium Host validly rescinded its franchise agreement . The court did not, however, come to the same conclusion in respect of the disclosure provided by the Franchisor to each of Versatile and Everest, and ultimately rejected their claims for rescission. Space does not permit detailing the rationale of the court’s findings on each point, though the decision is a worthwhile read for those who are interested.

Finding #1: The importance of good record keeping cannot be overstated

There were multiple instances in Paramount where the parties each claimed certain documents were provided to the other, but could not provide evidence corroborating such claims. There were credibility and reliability issues raised on both sides of the dispute, largely due to unreliable memories of the witnesses and incomplete recordkeeping. Neither the Franchisor’s nor the Franchisees’ versions of the disclosure document were accepted by the court as having been the ones actually delivered, such that the court was never able to conclude what disclosure document was actually provided to Franchisees and when such documents were provided. If there was clear evidence about what was provided to whom and when, the court may have come to materially different conclusions. Accordingly, Paramount serves as a good reminder for franchisors and franchisees to maintain good record-keeping practices when it comes to issuing and receiving disclosure documents to ensure there is no question as to what was delivered to whom and when, in case a dispute later arises.

Finding #2: A generic franchise agreement where no specific territory or location is set out may not be considered a grant of a franchise

The Franchisor argued that Versatile’s franchise agreement had been entered into more than two years prior to the rescission claim and therefore Versatile was statute-barred from claiming rescission under the AWA. The court made a novel finding that that the “generic” franchise agreement, which did not specify a territory or location for the franchise, did not amount to a “franchise agreement” within the meaning of the AWA, because the failure to identify a territory made the grant incomplete and ineffective as it did not allow Versatile to engage in any business. Given the complex and unique factual matrix in this case – including some evidence that the Franchisor’s representative’s viewed this generic franchise agreement to be a “placeholder” agreement and advised Versatile that the generic franchise agreement would be “null and void” when a subsequent franchise agreement specifying a territory was entered into – it is not clear what, if any, traction this statement from the court may have going forward.

Finding #3: Historical financial information of a vendor franchisee in the franchisor’s possession may be a material fact that must be disclosed in the disclosure document.

The Franchisor provided financial information about the resale location to Premium Host in e-mails, not in the disclosure document itself. While addressing the plaintiff’s claim of piecemeal disclosure, the court confirmed that the financial information about the vendor franchisee that was  in a franchisor’s possession was a material fact and that such information ought to have been included within the disclosure document. It is not clear whether the mere fact that the Franchisor viewed the historical financial information to be of sufficient importance to provide to Premium Host contributed to the court’s finding that the historical information constituted a material fact. Nevertheless, in the context of a resale, it is prudent for franchisors to ensure any historical financial information in its possession that is being provided to a franchisee is included in the disclosure document.

Finding #4 – A “mere” employee of a franchisor may be considered a franchisor’s associate.

In Paramount, a non-executive employee with the title of “Manager of Franchising” was found to be a “franchisor’s associate” under the AWA on the basis that she was (1) controlled by the Franchisor, and (2) involved in reviewing or approving the grant of the franchise (thereby meeting definition of “franchisor’s associate” in the AWA). The court found she was involved in reviewing or approving the grant based on the following activities: (a) vetting new franchisees for the initial phase of the recruitment process; (b) reviewing and evaluating franchise applications, including by identifying prospective franchisees’ relevant experience in the food services industry and any red flags in their application; (c) advising her superiors about the results of this review, such as whether a prospective franchisee had outstanding debts; (d) initially meeting with prospective franchisees; and (e) advising her superiors about these meetings.  

It is very important to note that the Franchisor conceded that it “controlled” the individual, so this element of the definition was not considered by the court. It is also worth noting that in the recent decision 1901709 Ontario Inc. et al. v. Dakin News Systems Inc., 2022 ONSC 6008 (“Dakin”), the court held that “mere” employees, who were not officers, directors or shareholders, were not “controlled” by the franchisor in the sense intended by the legislation and did not meet the definition of a franchisor’s associate in the AWA. Accordingly, Paramount may have limited precedential value in future cases where control is not conceded by the defendant franchisor, particularly in light of Dakin. Hopefully this, and other issues, will be clarified on the appeal.

The Paramount decision touches on several important topics and practices with respect to disclosure. While this trial court decision may ultimately have limited precedential value given the pending appeals, it nevertheless provides some interesting findings and serves as a helpful reminder of the importance of good record keeping.