Francisco Yao Mendoza v. Active Tire & Auto Centre Inc., 2017 ONCA 471

Court of Appeal for Ontario

Date: June 8, 2017

Docket: C62878

Judges: Feldman, Cronk and Miller JJ.A.

Between

Francisco Yao Mendoza and Francis Mendoza Inc. Plaintiffs (Appellants)

and

Active Tire & Auto Centre Inc. Defendant (Respondent)

Counsel

Ben V. Hanuka, for the appellants

Milton A. Davis and Ronald D. Davis, for the respondent

Heard: April 10, 2017

On appeal from: The judgment of Justice Grant R. Dow of the Superior Court of Justice, dated September 29, 2016.

Feldman J.A.:

Introduction

1The appellants purchased an Active Tire franchise from the respondent. After operating the franchise for about three months at a loss, the appellants sought to rescind the agreement under s. 6(2) of the Arthur Wishart Act (Franchise Disclosure), 2000, S.O. 2000, c. 3 (the "Act") on the basis that the disclosure that had been provided did not amount to the "disclosure document" required by the Act.

2The motion judge forgave the respondent's deficient disclosure, finding that the appellants received sufficient disclosure to make an informed decision to purchase the franchise and that the deficiencies were neither significant nor misleading.

3I would allow the appeal. The motion judge erred in his interpretation and application of the Act and Ontario Regulation 581/00 (the "Regulation"). The respondent's deficient disclosure could not constitute the disclosure document required by the detailed requirements of the Act and Regulation. The appellants were therefore entitled to rescind the agreement under s. 6(2) of the Act.

Facts

4The parties began negotiations for the appellants to purchase the respondent's Bridgeland Avenue franchise location in January 2015, culminating in the purchase on June 1, 2015. During the period principally from March to May 2015, the respondent provided the appellants with documents and information in relation to the purchase. The respondent assisted the appellants to retain an accounting firm that compiled what the motion judge described as a comprehensive three-year financial plan with positive projections on which the appellants relied in making the decision to purchase. The appellants also retained a financial and legal firm at the request of the bank from which they borrowed funds for the purchase and obtained a line of credit.

5The individual appellant was not an inexperienced purchaser. He had owned and operated a construction materials business in the Philippines before coming to Canada; he had obtained a Bachelor of Business Administration degree from the University of Toronto; and he had been employed with Canadian Tire as a project accountant.

6Once he took over the franchise in June, the individual appellant was not operating it successfully and was experiencing both physical and mental health problems over the following three months. He decided to rescind the agreement in August.

The Decision of the Motion Judge

7The appellants sought rescission under s. 6(2) of the Act which provides:

A franchisee may rescind the franchise agreement, without penalty or obligation, no later than two years after entering into the franchise agreement if the franchisor never provided the disclosure document.

8In his analysis, the motion judge referred to s. 5(4) of the Act, which prescribes the content of the disclosure document including all "material facts", which term is defined to include "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". He also quoted from para. 15 of this court's long-standing decision under the Act, 1490664 Ontario Ltd. v. Dig This Garden Retailers Ltd. (2005), 201 O.A.C. 95, at para. 15, where MacFarland J.A. stated:

It is perfectly clear from the language used in s. 5 of the Act that disclosure is to be made in one "disclosure document". All of the required and prescribed information is to be included in that one document and it is to be accurate, clear, and concise – and all delivered at one time.

9Before the motion judge, the appellants focused on five deficiencies in the disclosure document:

1. The fact that the disclosure certificate was signed by only one officer or director and not two, as required by s. 7(2)(c) of the Regulation;
2. The failure to provide audited financial statements as required by s. 5(4)(b) of the Act and s. 3(1) of the Regulation;
3. The failure to provide the disclosure document at one time as required by s. 5(3) of the Act;
4. The fact that the letter of credit actually provided did not conform with the disclosure document; and
5. Failure to disclose the required assumptions and information as part of the financial projections.

10The motion judge accepted that the disclosure document was deficient, particularly because it only contained one signature and because of the insufficient and non-compliant financial disclosure. Relying on statements from two decisions of this court, 6792341 Canada Inc. v. Dollar It Ltd., 2009 ONCA 385, 95 O.R. (3d) 291, and 2240802 Ontario Inc. v. Springdale Pizza Depot Ltd., 2015 ONCA 236, 331 O.A.C. 282, and a decision of the Superior Court, 2337310 Ontario Inc. v. 2264145 Ontario Inc., 2014 ONSC 4370, the motion judge held as a matter of law that: "an analysis of the nature and extent of the deficiencies is required as part of reaching a conclusion as to whether the 'disclosure document' exists."

11Based on that test, the motion judge concluded that although the respondent franchisor had not complied with the requirements of the Act and Regulation, the documents it did provide were sufficient for the appellants to make an informed decision about whether or not to enter into the franchise agreement, and that the deficiencies were neither significant nor misleading.

Issue

12Did the motion judge err in law in his interpretation and application of the Arthur Wishart Act and Regulation?

Analysis

13Since its enactment in 2000 the courts of this province have reiterated that the Arthur Wishart Act is intended to be protective legislation for franchisees: 405341 Ontario Ltd. v. Midas Canada Inc., 2010 ONCA 478, 264 O.A.C. 111, at para. 30; Personal Service Coffee Corp. v. Beer (c.o.b. Elite Coffee Newcastle) (2005), 200 O.A.C. 282 (C.A.), at para. 28; Salah v. Timothy's Coffees of the World Inc., 2010 ONCA 673, 268 O.A.C. 279, at para. 26; MDG Kingston Inc. v. MDG Computers Canada Inc., 2008 ONCA 656, 92 O.R. (3d) 4, at para. 1, leave to appeal refused, [2010] S.C.C.A. No. 94; 6792341 Canada Inc. v. Dollar It Ltd., 2009 ONCA 385, 95 O.R. (3d) 291, at para. 72; 1159607 Ontario Inc. v. Country Style Food Services Inc., 2012 ONSC 881, 2 B.L.R. (5th) 315, at para. 71, aff'd 2013 ONCA 589; 779975 Ontario Ltd. v. Mmmuffins Canada Corp. (2009), 62 B.L.R. (4th) 137 (Ont. S.C.), at para. 10.

14The scheme of the Act is to impose a number of requirements on franchisors to fully disclose the type of financial and other information a prospective franchisee would normally need in order to decide whether to become a franchisee. It then provides remedies to the franchisee where the franchisor does not meet the statutory obligations, including certain rights of rescission in s. 6 and damages in s. 7.

15Section 6 states:

6(1) A franchisee may rescind the franchise agreement, without penalty or obligation, no later than 60 days after receiving the disclosure document, if the franchisor failed to provide the disclosure document or a statement of material change within the time required by section 5 or if the contents of the disclosure document did not meet the requirements of section 5.

(2) A franchisee may rescind the franchise agreement, without penalty or obligation, no later than two years after entering into the franchise agreement if the franchisor never provided the disclosure document.

(3) Notice of rescission shall be in writing and shall be delivered to the franchisor, personally, by registered mail, by fax or by any other prescribed method, at the franchisor's address for service or to any other person designated for that purpose in the franchise agreement.

16Section 6(1) provides for rescission in two circumstances: first where the disclosure document is not delivered within the time prescribed by s. 5, and second, where the contents of the disclosure document do not meet the requirements of s. 5.

17The respondent states that the appellants' complaint falls under the second branch of s. 6(1) and as the appellants served the rescission notice more than 60 days after receiving the disclosure document, they are out of time. But more importantly, the respondent submits that the appellants' remedy is only under s. 6(1) and not s. 6(2).

18This submission cannot succeed. The same argument was made and rejected by this court in the Dollar It case. At paras. 74-76, MacFarland J.A. held that where there are a number of material deficiencies, the purported disclosure document is not a disclosure document within the meaning of the Act, and rescission under s. 6(2) is available.

19The respondent also relies on 4287975 Canada Inc. v. Imvescor Restaurants Inc., 2009 ONCA 308, 98 O.R. (3d) 187, leave to appeal refused, [2009] S.C.C.A. No. 244. However, the facts in that case are not comparable to this one. There, a complete disclosure document was delivered but it was delivered late. On those facts, s. 6(1) and not s. 6(2) was applicable. However, the court made it clear, at para. 43, that where a disclosure document is materially deficient, then no disclosure will be found to have been made.

20In this case, the motion judge acknowledged in particular, two of the deficiencies that the appellants complained about: the absence of signatures of two directors or officers on the disclosure certificate and the failure to provide financial statements in compliance with the Act and Regulation, but found that those deficiencies were insignificant and not misleading.

21While I agree with the motion judge that these two deficiencies are the principal ones, I do not agree that they were insignificant and not misleading. In my view, they represent material deficiencies and are fatal to the ability of the purported disclosure document to be a disclosure document within the meaning of the Act.

The Requirement for Two Signatures

22Dealing first with the requirement for two directors' or officers' signatures, s. 7 of the Regulation requires that the disclosure document contain a certificate that certifies the truth of the disclosed information and that the disclosure certificate is complete and in compliance with the requirements of the Act and the Regulation. Section 7(2) deals with the requirements for signing and dating the certificate, and clause (c) provides that where the franchisor is incorporated and has more than one director or officer, the certificate shall be signed by at least two persons who are officers or directors.

23This provision in the Regulation links up with s. 7 of the Act, which provides the damages remedy for any misrepresentation in the disclosure statement that causes the franchisee a loss. Under s. 7(1)(e) of the Act, those who sign the disclosure document are liable in damages to the franchisee for any such misrepresentation.

24In addressing this issue, the motion judge discounted the failure to provide two signatures because the individual appellant had met most of the directors and had information about their backgrounds in Part II of the disclosure document. However, this misses the point of s. 7(1)(e) of the Act, which is to give the franchisee substantive rights in damages against the directors and officers who sign the document, and by so doing, to impress upon those who sign the importance of ensuring that the document is complete and accurate.

25The motion judge also accepted the argument by the respondent that because the individual appellant acknowledged that he had not personally read the entire disclosure document (175 pages), he could not take the position that its contents were of importance to him. With respect, this constituted an error.

26The Act imposes significant disclosure obligations on franchisors for the benefit of franchisees. It does not make the rescission remedy conditional on the approach taken by a particular franchisee to the disclosed material. This is consonant with the intent of the Act, which is to ensure that franchisors who wish to enter into franchise agreements with franchisees must consistently provide the required documentation to every proposed franchisee. Their obligations do not change depending on the actions or reactions of a particular franchisee. Nor are those obligations diminished when a franchisee does not study the contents of the disclosure document. Franchisees are entitled to rely on its contents and the ability to later verify what they believed and understood when they decided to proceed with the franchise.

27To conclude on the first deficiency, the Act and Regulation require the franchisor to certify the disclosure document with at least two signatures from directors or officers where the franchisor corporation has two or more directors or officers. This is not a meaningless requirement. Those who sign are personally responsible for the accuracy and sufficiency of the contents of the disclosure document, and that responsibility is backed up by personal liability to the franchisee. This is an important right for franchisees which the motion judge failed to consider. It is clearly material to any franchise agreement.

The Financial Statements Requirement

28The second deficiency that was recognized but discounted by the motion judge was the respondent's failure to provide the most recent financial information of the franchisor in the form and within the time prescribed by the Act and the Regulation.

29Section 3(1)(a) and (b) and (2) of the Regulation provide:

3. (1) Every disclosure document shall include,

(a) an audited financial statement for the most recently completed fiscal year of the franchisor's operations, prepared in accordance with generally accepted auditing standards that are at least equivalent to those set out in the Canadian Institute of Chartered Accountants Handbook;

(b) a financial statement for the most recently completed fiscal year of the franchisor's operations, prepared in accordance with generally accepted accounting principles that are at least equivalent to the review and reporting standards applicable to review engagements set out in the Canadian Institute of Chartered Accountants Handbook; or

(2) Despite subsection (1), if 180 days have not yet passed since the end of the most recently completed fiscal year and a financial statement has not been prepared and reported for that year, the disclosure document shall include a financial statement for the previous fiscal year that is prepared in accordance with the requirements in clause (1)(a) or (b).

30The respondent's financial year-end is in August. When the parties were negotiating in early 2015, the respondent had not completed its 2014 financial statement. It therefore could not comply with the requirements of s. 3(1). The respondent then delivered its previous year's statement from August, 2013 on March 17, 2015, i.e. over two weeks beyond the 180 day grace period allowed by s. 3(2).

31As a result, the appellants had to make the decision whether to buy the franchise based on financial statements of the franchisor for the year ending August, 2013, a period over 18 months earlier. The respondent never produced its financial statements for its 2014 year.

32I cannot agree with the motion judge that this non-compliance with the Act and Regulation was insignificant. To the contrary, the Regulation requires that a franchisor provide the prospective franchisee with audited financial statements from its most recently completed fiscal year, or if there are no audited statements for that period, then statements that are equivalent to the standard of a review engagement as described in the CICA Handbook. It then allows a 180 day grace period for franchisors who do not yet have the financial statement for their most recent fiscal year prepared. During that period, they may produce the financial statement for the previous year.

33In this case, the respondent did not produce its 2014 financial statement as required. It only produced its 2013 statement, beyond the 180 day grace period. Financial statements are clearly an extremely significant component of the information a prospective franchisee requires in order to assess the viability of the franchisor's franchise operations and the safety and security of becoming a franchisee in that franchisor's system.

34The Act and Regulation prescribe what financial statements must be produced and a time parameter for doing so. The effect of these requirements is that anyone who wants to be a franchisor must be in a position to provide the required information to prospective franchisees within the prescribed time. If a franchisor cannot do that, that is, it cannot comply with the Act because it does not have current financial statements, then it cannot proceed to engage with prospective franchisees or operate a franchise system as defined in the Act.

35To accept the position of the respondent, that the deficiency was not material because the former year's financial statements were only delivered two weeks after the statutory grace period, would mean that franchisors would be free to ignore the statutory requirements regarding the obligation to produce current financial statements, and franchisees would be unable to rely on the protections contained in the Act.

Other Deficiencies

36The respondent also failed to comply with other provisions of the Act and Regulation in connection with the disclosure document, including providing information piecemeal over a period of months instead of in one document at one time as required by s. 5(3) of the Act.

37In my view, the motion judge erred in finding that the appellants received a disclosure document within the meaning of the Act. The respondent's serious non-compliance with its statutory obligations resulted in no disclosure document being delivered.

Timing and Motive

38The respondent submits that the appellants should not be entitled to a remedy under the Act, because they initially did not seek rescission based on deficiencies in the disclosure document, but rather, because the franchise did not do well and the individual appellant regretted his decision. There are two responses to this submission. First, one cannot know whether the failure of the franchise location to thrive financially was connected to deficiencies in the disclosure. In any event, the remedy in s. 6(2) turns only on the failure of the franchisor to deliver a disclosure document. It is not dependent on later conduct of the franchisee.

Conclusion

39I would allow the appeal, set aside the judgment, and grant summary judgment to the appellants rescinding the franchise agreement, with costs of the appeal fixed at $7,500 plus HST.