Ontario court awards rescission on resale but heavily reduces damages award

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By: Anthony Pugh, Law Works
Editor: Ben Hanuka, Law Works

In 1901709 Ontario Inc. et al. v. Dakin News Systems Inc., a November 10, 2022, decision of the Ontario Superior Court of Justice, the court ruled that the franchisor could not avail itself of a statutory resale exemption because of its involvement in the resale process.  As a result, the court granted rescission to the franchisees.

The court also held that the franchisor’s officer and director was personally liable for the rescission damages as a franchisor’s associate, even though he did not have any direct involvement in the resale.

The court dismissed the personal claim against the franchisor’s executive who managed real estate and acquisitions on the basis that he was an employee and, thus, not a franchisor’s associate.

Of equal importance, the court significantly cut down the amount of rescission damages that the franchisees claimed.  The court held that they failed to bring adequate evidence to prove their alleged losses.  In total, the court reduced the franchisees’ claim from several hundred thousand dollars to $85,000.

Key facts

The plaintiffs purchased the franchised convenience store that was in dispute from the previous franchisee on a resale.  The seller and purchasers agreed to the terms of the sale and then sought the consent of the franchisor for the transfer.

The franchisor required the parties to adhere to a six-step transfer procedure as part of its transfer approval process.  It did not provide a franchise disclosure document to the plaintiffs.

The plaintiffs ultimately signed a new franchise agreement and sublease with the franchisor and its affiliate.  These agreements largely had the same terms and conditions as the franchise agreements that were in place with the previous franchisee (the sellers), including the term, which was set to expire in slightly over a year.

After the plaintiffs learned that the franchisor was requiring them to renovate the store premises as a condition renewing the franchise term, they decided to seek a rescission of their purchase and brought this action against the franchisor and its affiliates.

The franchisees had a right to rescind the franchise agreement

The court held that the franchisor was involved in the resale because it required the franchisees to enter into a new franchise agreement.  The franchisees were also required to pay a new $20,000 inventory fee.  Since the seller had already paid a similar inventory fee, the court held that this was new consideration.  It also held that the franchisor guided the transfer process through its transfer procedure.  These were all factors that led to the court’s finding that the franchisor was involved in the resale process, and thus was not entitled to the statutory disclosure exemption in the Arthur Wishart Act (Franchise Disclosure), 2000.

The franchisor’s officer and director was a franchisor’s associate, but the executive employee was not

The court held that the franchisor’s sole officer and director was a franchisor’s associate within the meaning of the Act.  This is even though he was not directly involved in the resale.  Nevertheless, the court ruled that he was the source and directing mind of the resale process.

About the executive employee, who was the franchisor’s manager of real estate and acquisition, the court found that he was not controlled by the franchisor since he had no control over the approval process.  Rather, the franchisor required him to implement the franchisee approval process in the transaction, over which he himself had no control.

The franchisees only recovered a portion of their damages claim – they failed to prove their alleged losses

As purported evidence of their losses, the plaintiffs relied heavily on an unsubstantiated trial balance, which their main witness was unable to explain or to provide backup supporting evidence.  The plaintiffs also provided evidence from their forensic accountant, but his calculations and opinion were also largely based on the trial balance.

The court found that the trial balance was of limited use.  As a result, the court significantly discounted the plaintiffs’ damages claim.

As to other alleged losses:

• The court accepted the franchisor’s position on repayment for inventory, which reduced damages under this head by about $20,000.
• The court rejected the plaintiffs’ claim for repayment for a vehicle, since they had not produced any documentary evidence about that vehicle.
• The court discounted the plaintiffs’ most other expenses, other than rent and the purchase price, by a factor of 25%, and the costs of goods by a factor of 50%.

Ultimately, the Court only awarded about $85,000 of the plaintiffs’ damages claim.

* Anthony Pugh, associate at Law Works PC, acted as counsel for the franchisor in this case.