Landlords upset over Country Style actions

Closing franchise outlets can be an expensive and difficult proposition, but keeping them open can also be financially onerous. Country Style had 10- to 15-year contracts with more than 100 landlords who had invested $300,000 to $500,000 in a store. Country Style was obliged to pay them rent of $4,000 to $8,000 a month…

The Globe and Mail
February 26, 2002

Landlords upset over Country Style actions
Threatening to take doughnut shop to court after filed for protection, Oliver Bertin finds
Oliver Bertin

CountryStyleEmptyStore.jpg

Dozens of disenfranchised landlords are threatening to take Country Style Food Services Inc. To court after the company filed for bankruptcy protection as part of a restructuring into a leaner, more viable operation.

Those landlords signed 10- to 15-year leases. But they say they were left with no more than one month’s rent and 12 cents on the dollar after the company filed for protection under the Companies’ Creditors Arrangement Act.

And that, experts said, illustrates a serious flaw in Canada’s huge franchise industry. The franchisor holds all the cards, they said, leaving landlords and franchisees virtually powerless.

“I spent $500,000 to build a store to Country Style’s specifications,” said Stanton Wright, a Toronto investor who owns a now-derelict outlet in Kitchener, Ont. “It’s highly unlikely I’ll find another user. I’ll probably have to demolish it.”

Another landlord, Guy Beaulieu, is so angry that he is meeting with seven other landlords in the Sudbury area of Northern Ontario who are considering taking Country Style to court.

“We’re taking a pill like every other landlord,” he said, adding he has been left with debts of $250,000 on a useless, empty building that is costing him $1,000 a month in taxes and utilities.

“Country Style came in and took all the kitchen equipment,” he added. “They left a hell of a mess.”

Patrick Gibbons, president of Country Style, doesn’t dispute the charges.

“I can only apologize for the errors of the past,” he said in a telephone interview from head office in Richmond Hill, Ont., adding that “I’ve got 102 angry landlords on my hands.”

Mr. Gibbons said the doughnut chain suffered from out-dated outlets and poor locations in a highly competitive environment. Many of the outlets did not even have drive-through windows, a necessity in the fast-food business.

“The company was insolvent,” he said, adding that he went the CCAA route to save the company. “The CCAA [process] is not pretty. The majority of people will benefit, but there is some pain. Some landlords can only lose.”

The story started 38 years ago when the Country Style chain of doughnut shops was founded. It grew to about 300 outlets and 60 Buns Master bakery franchises by the late 1990s, with another 100 outlets in Malta, Guatemala and Brazil.

But the competition became increasingly fierce and Country Style sold out in 1999 to a New York investment firm, CAI Capital Partners and Company II LP, for $45-million.

By then, Country Style was competing with more than 2,000 Tim Hortons outlets and hundreds of specialty shops, which serve coffee under the Second Cup, Timothy’s, Starbucks and Coffee Time banners.

Last November, Country Style hired Mr. Gibbons, a former head of marketing at Burger King, and gave him the job of putting the company back on its feet.

One of the first things he did was prune the company down to 175 of the best Country Style outlets and 175 gas station kiosks, and close the rest of the doughnut shops.

A total of about 150 outlets were shuttered. Mr. Gibbons said he shut 45 underperforming outlets and 102 landlords “repudiated leases.”

Closing franchise outlets can be an expensive and difficult proposition, but keeping them open can also be financially onerous. Country Style had 10- to 15-year contracts with more than 100 landlords who had invested $300,000 to $500,000 in a store. Country Style was obliged to pay them rent of $4,000 to $8,000 a month, said Les Stewart of the Canadian Alliance of Franchise Operators.

The franchisees present an equally onerous problem, Mr. Stewart said. Many invest their life savings in stores and work 16-hour days to make a living.

“You can’t terminate the lease because they’ll fight back,” he said.

Experts said franchisors typically have two ways to shed an underperforming store. Head office can find a way to declare the franchisees in default under their contracts or it can file for bankruptcy protection, invalidate all its contracts and shed its debt.

Many franchisors simply find an excuse to terminate the contract, Mr. Stewart said, speaking of the industry in general. “The franchise agreements are drafted by head office, and they are loaded in favour of the franchisor. They can be 70 pages long, and include 1,000 ways to break the agreement if they want to.”

Country Style, however, chose the CCAA route. Mr. Gibbons held a meeting on Feb. 18 and won the approval of 93 per cent of the company’s creditors, paying 12 cents on the dollar. He expects the restructuring to be ratified on March 7.

“We now have a cleaned-up business,” Mr. Gibbons said. “The majority of people will benefit, but a few will lose.”

He said he tried to soften the blow to the landlords [should read “franchisees”] by ignoring the non-competition clause in their agreements. That would allow them to continue in business with a new, independent name.

“They may not be viable as a Country Style, but they may be viable as an independent,” he said, adding that 17 of the 102 disenfranchised landlords have taken this route.

But Mr. Wright and Mr. Beaulieu scoffed at this idea.

“That’s better than no rent, but you’d take a hell of a hit,” Mr. Beaulieu said. “Us landlords would take a hit of 30 to 50 per cent on the rent” without the Country Style brand name.

Both landlords said it would be very difficult to find another operator because their communities are already overbuilt with fast-food franchises. Mr. Wright’s store is next to a Tim Hortons’ outlet and it would cost a considerable sum to convert to a pizza or hamburger operation.

Mr. Stewart said there’s little the franchisees and landlords can do about it. “Landlords have no rights whatsoever,” he said.

Mr. Beaulieu and his group have asked Ontario Premier Mike Harris to step in and help.

Mr. Beaulieu is also considering a group action with other landlords. One possibility is to appeal through the bankruptcy courts. The landlords could also claim a contravention of Ontario’s Arthur Wishart Act, which is designed to protect franchisees.

But Mr. Beaulieu admits the odds are stacked against the landlords.

A court case could take three years and $150,000 – more than the landlords can afford to pay, Mr. Stewart said.

A class action is difficult for legal reasons and a group action is hard to organize.

“I lobbied seven landlords in Northern Ontario,” Mr. Beaulieu said. “Everybody is in, but nobody wants to pay.”

If they go to court, there is no guarantee they will win. And even if they do win, Mr. Stewart said, it may not do them any good. They “may find themselves three years hence with a 100-per cent legal victory against a bankrupt entity.”


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