A recent class action supports the view that the duty to act in good faith and in accordance with reasonable commercial standards does not require franchisors to ensure franchisees earn a reasonable financial return. Franchisors that have a discretion to set commissions and royalties, or to otherwise materially affect franchisees’ financial returns, should nonethéless follow proper processes for exercising that discretion.

Mayotte v. Ontario concerned the Ontario government’s relationship with independent contractors operating ServiceOntario outlets, which provide licensing and vehicle registration services. Although the Ontario Arthur Wishart Act did not apply because of the involvement of the government, the relationship resembled a franchise relationship because the government exercised control over, among other things, training, location, signage and hours of operation. As well, the government fixed fees for services provided by the issuers, who were compensated by a “commission” set by the government. The core of the issuers’ claims was that the increases to the compensation model failed to keep pace with the issuers’ expenses or other proposed benchmarks for “commercial reasonableness.”

Justice Gans dismissed the issuers’ claims. Justice Gans rejected the issuers’ argument that a duty of commercial reasonableness and good faith obligated the government to ensure the issuers achieved a “reasonable” financial return, observing that “plaintiff’s counsel was unable to direct me to a case where the ‘reasonableness’ obligation was tethered to the outcome as opposed to process or performance.” Justice Gans went on to find that in any event there was nothing substantively unreasonable about the financial outcomes of the class members.

Justice Gans emphasized the importance of process in analyzing whether or not a duty of good faith and commercial reasonableness had been met, noting that “Ontario must be shown to have acted unreasonably or in bad faith when exercising its discretion in fixing the PIN compensation during the relevant period of time.” Justice Gans found that the government had exercised its discretion reasonably, primarily because it had periodically examined and increased compensation and made other commercial concessions that assisted the class members financially. Justice Gans also observed that the government had consulted with issuers and provided an explanation for declining to increase compensation – specifically, the government’s budget deficit.

The practical lesson of the Mayotte case for franchisors is that where the franchisor has a discretion to set commissions or royalties, taking some or all of the following steps may provide a defence to any claim that the franchisor’s exercise of that discretion has breached a duty of good faith and commercial reasonableness to franchisees:

  • periodically examine how the system’s financial model is affecting the financial performance of franchisees
  • consult with franchisees regarding the compensation model and its financial impact on franchisees
  • consider the financial interests of franchisees when setting compensation levels
  • identify the business rationale for preferring the franchisor’s financial interests to those of the franchisees when setting compensation levels