Canada: The Delimark Decision: When Does The Obligation To Disclose End?

Under the Arthur Wishart Act (Franchise Disclosure), 20001, a franchisor is required to provide a franchisee candidate with a disclosure document not less than 14 days before the earlier of,

(a) the signing by the prospective franchisee of the Franchise Agreement or any other agreement relating to the franchise; and

(b) the payment of any consideration by or on behalf of the prospective franchisee to the franchisor or franchisor's associate relating to the franchise.2 The obligation to disclose does not end with the delivery of a disclosure document.  Where there has been a material change after the delivery of a disclosure document and before the prospective franchisee signs the franchise agreement (or any other agreement relating to the franchise) or pays any consideration relating to the franchise, the franchisor must provide the prospective franchisee with a written statement of the material change as soon as practicable after the change has occurred and before the earlier of the signing of the franchise agreement (or any other agreement relating to the franchise) and the payment of any consideration relating to the franchise.3

A "material change" is defined as:

A change in the business, operations, capital or control of the franchisor or franchisor's associate, a change in the franchise system or a prescribed change, that would reasonably be expected to have a significant adverse effect on the value or price of the franchise to be granted or on the decision to acquire the franchise and includes a decision to implement such a change made by the board of directors of the franchisor or franchisor's associate or by senior management of the franchisor or franchisor's associate who believe that confirmation of the decision by the board of directors is probable.4

The Act distinguishes between a "material fact" and a "material change".  A disclosure document must include all material facts including those as prescribed,5 but where there has been a material (read significant adverse) change, such change must be disclosed to the prospective franchisee in a written statement of material change. 

The Act does not provide a particular form or format for a statement of material change and there is no express obligation under the Act to certify the statement of material change as is the case with a disclosure document.6

Though, technically speaking, material facts ought to be disclosed in a disclosure document and not in a statement of material change, a custom has developed amongst franchisors to disclose material facts that were either not included in the disclosure document because they did not exist or were not known at the time or that require update in either a fresh disclosure document or in a written statement of material change.

Some may argue that providing disclosure this way is contrary to the obligation to provide a disclosure document in one document delivered as one document at one time7 but this obligation was intended to prevent piecemeal disclosure and is not offended by the delivery of a subsequent fresh disclosure document or a statement of material change, as the case may be.

The important point for franchisors is to ensure that they have disclosed all "material facts" and any "material changes" to a franchisee candidate before the franchisee candidate enters into a franchise agreement or an agreement relating to the franchise agreement or pays any consideration for the franchise.  In other words, it should not matter what form the disclosure takes so long the information or document, as the case may be, is disclosed and is disclosed on a timely basis.

In 2337310 Ontario Inc. v. 2264145 Ontario Inc.8  ("DeliMark").  Mr. Justice Stinson ruled that the Act requires the franchisor to either provide fresh disclosure or a statement of material change to a franchisee candidate where:

(a) the disclosure document did not include a copy of the lease, because the lease did not exist on the date that the disclosure document was provided to the franchisee candidate; and

(b) the lease was entered into before the franchise agreement was signed.

In the DeliMark case, there was no lease in existence with respect to the contemplated premises at the time the disclosure document was provided to the franchisee candidate in January, 2012.  The lease was not signed until March 29, 2012.  A franchise agreement and sublease was signed between the franchisor and franchisee in September, 2012. 

Justice Stinson held that once the lease was signed and the sublease was put into final form, the franchisor had "the opportunity and obligation to disclose those documents and the information they contained, as part of a written statement of material change, but it failed to do so."9  The proposed sublease was, according to the court, "an agreement relating to the franchise to be signed by the prospective franchisee"  and as such it ought to have been included in the disclosure document pursuant to section 5(4)(c) of the Act.  In addition, the court held that the cost of the lease was something that had to be disclosed pursuant to section 6.1.ii of the disclosure regulation made under the Act10, which section requires the franchisor to list all of the franchisee costs associated with the establishment of the franchise including "an estimate of the costs...for leases...necessary to establish the franchise" as well as section 6.1.iii "any other costs associated with the establishment of the franchise not listed in subparagraph" 6.1.i or ii, including any payment to the franchisor, whether direct or indirect, required by the franchise agreement, the nature and the amount of the payment, and when the payment is due." 

It was not enough for the defendants to argue that they could not be expected to disclose something that did not yet exist.  Justice Stinson rejected this argument:

In my view, in the context of franchise disclosure requirements, it is no answer for franchisor to explain non-compliance on the basis that a document or information did not exist or was unavailable at the time the disclosure statement was prepared.  To accept that submission, would be to create a potentially large lacuna in a disclosure system: it would be easy for a franchisor to pare down its disclosure obligations on the basis that certain material or information was simply not available at the time the disclosure statement was prepared; this excuse could be used to respond to a broad range of complaints about non-disclosure.  I therefore reject this approach.11

Moreover, s. 5(5) of the [Act] requires the franchisor to provide the franchisee with a written statement of any material change as soon as practicable after the change has occurred.  Such written statement must be received before the signing of the franchise agreement and the payment of any consideration by the prospective franchisee.12

Justice Stinson went on to identify the correct approach which was to either provide an updated disclosure statement or, at the very least, a written statement of material change, when additional material information or documents become available or come into existence.13

Site-specification information including monthly lease obligations are an important financial commitment for a franchisee. The failure to include this information was, according to Justice Stinson, a "significant and material" omission.14

It is recommended that franchisors pay heed to this decision and provide franchisee candidates with either a fresh, updated disclosure document or a statement of material change before the execution of a franchise agreement or payment of consideration by the franchisee candidate, whenever new material facts come to light, documents, including lease documentation, become finalized, or material changes occur.

Footnotes

1 S.O. 2000, c.3.

2 Act, s. 5(1).

3 S. 5(5).

4 S. 1(1).

5 S. 5(4)(a).

6 O. Reg. 581/00, s. 7.

7 S. 5(3).

8 [2014] OJ No 3452 (SCJ)

9 Paragraph 40.

10 O.Reg 581/00

11 Paragraph 37.

12 Paragraph 38.

13 Paragraph 39.

14 Paragraph 47.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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