Few rules in ‘Wild West’ industry

“I think legislation is overdue by a generation,” says lawyer Fred Catzman, who appeared before the Ontario committee in 1971…People who want to invest and operate in the franchise industry will likely have to wait a lot longer for legislation, even though the industry is experiencing difficulties today that are similar to those considered by an Ontario government committee in 1971.

The Toronto Star
May 4, 1993

Few rules in ‘Wild West’ industry
Only Alberta has laws protecting franchisees
Tony Van Alphen

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“We believe that the evils cry out for some control.”
- Ontario Legislature committee on the franchise industry, 1971

That was 22 years ago.

But people in Ontario and everywhere else in Canada except Alberta still don’t have any legislation to protect them from the pitfalls of the franchise industry.

It’s an industry which some describe as the Wild West of the business world.

People who want to invest and operate in the franchise industry will likely have to wait a lot longer for legislation, even though the industry is experiencing difficulties today that are similar to those considered by an Ontario government committee in 1971.

Aside from troubles at Pizza Pizza Ltd., where franchisees are seeking an accounting of millions of dollars in trust funds, the industry continues to be dogged by misleading offers, one-sided contracts and unscrupulous franchisors running roughshod over franchisees. And when it happens, there is the inevitable personal and financial grief.

Here are some local examples in recent years:

  • About 1,000 investors lost more than $2.8 million in Food Court International, which promised a smorgasbord on wheels for home service from outlets throughout Metro. It never delivered a meal and collapsed. One company executive is not in jail for an earlier franchise scam.
  • More than a dozen people watched about $1 million disappear in ill-fated Holey Donuts franchises. Some investors spent thousands of dollars and received nothing.
  • Scores of investors lost more than $850,000 in a company that sold franchise rights to sell “scratch and win” coupon books through stores in specific areas. But investors discovered the company had made no such arrangements with the stores.

“I think legislation is overdue by a generation,” says lawyer Fred Catzman, who appeared before the Ontario committee in 1971.

It’s an industry that has also become much bigger in the last two decades. Canadian franchising accounts for more than $17 billion in annual goods and services.

While franchisees clamor for protection, franchisors and other lawyers believe legislation will only help a small number of investors. They say the main problem is that some people don’t adequately check out a franchisor or ignore advice to reject certain terms of a franchise agreement.

The Canadian Franchise Association argues the industry can police itself. As evidence, it points to its recent attempts to mediate the dispute between one of its members, Pizza Pizza and angry franchisees.

Association president Richard Cunningham said his group wants to stop moves in Alberta to strengthen its legislation. It advocates self-regulation including industry arbitration that he says would negate the need for changes to Alberta’s law.

In Ontario, minister after minister in successive Ontario governments have revisited the issue since the committee of financial and consumer affairs issued a sweeping report in 1971. That report cited a desperate need for regulation to balance the interests of both franchisor and franchisee.

But the Conservatives and subsequent governments have not acted on the report. Ministers have admitted problems but never introduced legislation.

Marilyn Churley, the current consumer and commercial relations minister, said in an interview her ministry has looked at the issue again but the NDP government isn’t working on any legislation.

“At this point, we don’t think it’s an appropriate role for us to get involved in business to business transactions although there are mixed views. Our primary focus is consumer protection.”

Churley said the costs of administrating a program would outweigh the benefits of legislation. But her ministry will continue to monitor the industry and may consider legislation later, she noted.

Alberta remains the only province in Canada with franchise legislation after a private member’s bill in Manitoba died last year.

Alberta passed the legislation in 1971 requiring franchisors to give investors enough information to make an informed decision. If there is misrepresentation, the law allows the franchisee to get out of the agreement.

The Alberta Securities Commission also screens franchisors for business experience and financial strength. It checks the background of officers and directors. If they have criminal records that are business related, they have to admit it.

Jim Turner, head of the agency overseeing Alberta’s Franchises Act, said the potential always exists for abuse but he believes the law has helped franchisees significantly.

Turner said many investors give up jobs, mortgage their homes and depend on the franchise for their livelihood. They need protection, he said.

Alberta introduced major changes last year, which have not passed yet, to streamline disclosure requirements. It would also stop the government from refusing to let a new franchise go ahead on the grounds it’s unworkable.

The legislation would also require a franchisor to show just cause before refusing renewals and give franchisees the right to dispute arbitration.

The changes would increase maximum penalties to $150,000 and two years in prison for people who break the franchise law. The current fine is a maximum of $2,000 or up to one year in jail.

In response to a public outcry in the United States in the last decade, many states have disclosure laws regulating the sale of franchises and provisions governing the relationship between parties. The U.S. congress is also set to introduce legislation to increase franchisee’s rights.

The complaints from Canadian franchisees are similar to those in the United States. They include:

  • Franchisor rights to terminate an agreement unilaterally or when a franchisee can’t meet unrealistic sales targets.
  • Forcing franchisees to buy ingredients, supplies and services from specific companies when goods of comparable quality can be bought more cheaply elsewhere.
  • Crowding an area with stores that can infringe on an existing franchisee. Some franchisees call it “cannibalization.”
  • Inflated profit projections in initial franchise offers and poor disclosure of a franchisor’s history, financial health and expenses.
  • Marketing support that franchisees never see despite continuing royalty payments, increasing charges to franchisees without justification.

In Ontario, the government’s 1971 report contained many of the same provisions in the Alberta law and proposed changes including an appeals tribunal and detailed financial filings.

The report also pushed for standard franchise contracts. At that time, it called many contracts “masterpieces of deceptive wording and artful omission.”

In 1977, consumer Minister Larry Grossman proposed fair-practices legislation or the industry but the effort fizzled after Frank Drew replaced him.

Bill Wrye, who was minister in the late 1980s, looked at the industry but said his ministry had other consumer priorities. “That’s not to say it wasn’t important,” he said.

Greg Sorbara, who replaced Wrye in the last year of the Liberal government, said he considered the issue but had not found a solution before his party lost the 1990 election.

Sorbara, still an MPP, said he had concerns that legislation would be providing protection for the franchisees which other small businesses don’t have. Questions also arose on whether legislation would deter “sharp” operators and add an unnecessary administrative burden to honest franchisors, he said.

“There were clearly abuses with less-established franchisors and vulnerable franchisees who could often mortgage their unborn children to finance a franchise purchase. But we felt there was not hard enough evidence to bring in legislation.”

Sorbara, a lawyer who has represented both sided in disputes, admits he finds most franchise deals leave the franchisors with all the power.

“Many franchisees are like indentured servants, who have to do everything at the whim of the master. In most cases, it is a situation where the franchisor can dictate even the most minute details of a franchisee’s like under a contract including how he combs his hair.”

The franchise association concedes some unethical franchisors have set up shop, leading to “serious casualties.” Because of that, the 170-member associations says it has taken a stronger watchdog role and started a mediation service. The association has also started a public relations campaign to potential franchisees with the slogan “before you invest, investigate.”

But Cunningham acknowledged a franchisor has the upper hand in a dispute because restrictive provisions of a contract are usually enforceable. His group also can’t do anything about franchisors who aren’t members, he said.

Toronto lawyer Sheldon Burshtein, who practices franchise law, said he also doesn’t think legislation would have much impact.

“The people who do their homework are not the ones with problems,” he said. “I would say 95 per cent of franchisees are in trouble because of the economy in a particular industry or they did not do their homework and didn’t understand what they were getting into.

Calgary lawyer Jennifer Warren, who has practiced some franchise law in Alberta, said at the heart of the debate is a public policy issue about intrusion into commercial relationships.

“The legislation here was brought in to protect people because of disparities in bargaining power. The question is how far should that go.”

But lawyer Catzman said a pressing need exists for a law to protect franchisees because of the franchisor’s unequal bargaining power.

“Where you have an inequality of bargaining power, it’s a classic case of the need of government to intervene with protective legislation,” he said.

Ontario report required disclosure
If the Ontario government had implemented two clauses in particular from a 1971 committee report, it might have alerted prospective Pizza Pizza franchisees to a senior executive’s criminal record.

Among its list of sweeping recommendations to regulate the industry was a provision calling on franchisors to reveal the identity of any senior official with a criminal record.

The report also said the franchisor should name people affiliated with the company, including directors and officers, and their business experience and record.

Those provisions would have meant Pizza Pizza would have been forced to reveal the identity and convictions of Lorn Austin, the company’s executive vice-president who is at the center of a controversy involving franchisees.

Austin, 43, of Toronto joined Pizza Pizza in about 1990, months after finishing sentences in Canada and the U.S. for widespread criminal activity.

A U.S. court convicted him of fraud, racketeering, grand theft and possession of stolen property in connection with a $4 million gem scam in the mid-1980s. He was also convicted of credit card fraud and cheque kiting.

Austin served two years in a U.S. prison and was transferred to a Canadian jail in December, 1988, where he spent several more months.

Austin was also convicted of fraud in Canada in 1977. A court slapped him with a $1,000 fine and an order to make restitution of $14,500. T.V.A.


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Risks: Lorn Austin, Lorne Austin, Lawrence Austin, Grange Report, Fraud, Misrepresentations, Canadian Franchise Association, Ministry of Consumer and Commercial Relations, Bad faith and unfair dealings, Encroachment (too many outlets in area), Must buy only through franchisor (tied buying), Tied contracting, Ineffective marketing, False earnings claims, Happy serfs, Call for franchise law, Franchising practiced the same, worldwide, Racketeering Tobacco-industry-type defense, Fox to guard the henhouse (self-regulation), Wild West of the business world, Canada, 19930504 Few rules

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