For many years, franchise agreements were prepared in a manner that gave franchisors almost unlimited authority over critical areas of operation. Franchisees had no ability to negotiate agreements or to resist or challenge decisions implemented by franchisors. Against this backdrop of power imbalance, the courts began to adopt the common law legal principle of fair dealing in contracts when considering franchise disputes. These principles became embedded in provincial franchise legislation. The tension created by extreme business authority on the one hand versus embedded legal rights on the other has resulted in a dramatic change in how franchise agreements are prepared today.
Statutory Duty of Fair Dealing
The duty of fair dealing in franchise law was first recognized in franchise legislation enacted in Alberta in 1995 and subsequently expanded in Ontario’s legislation in 2000. Recently, the provinces of Prince Edward Island and New Brunswick have extended the duty to the exercise of discretion by either party under a franchise agreement. The statutory duty of fair dealing requires both parties to act fairly, in good faith and in accordance with reasonable commercial standards in connection with the performance and enforcement of their rights and obligations under the franchise agreement. Accordingly, unduly excessive, and even oppressive, rights and obligations in a franchise agreement should be deleted.
Common Law Duty of Fair Dealing
In addition, since the courts have consistently stated that franchise agreements are contracts of adhesion because of the unequal bargaining power between parties, these agreements are being interpreted in favour of the franchisee where there is ambiguity or uncertainty, or when a franchisor has acted in an oppressive or discriminatory manner or without reasonably taking into account the results of its actions on franchisees.
Balanced Approach to Franchise Agreement
Whereas prior agreements gave franchisors discretion to act or make decisions about both routine and actual matters, current agreements reflect a more balanced practice. The inclusion of such terms as “sole,” “unilateral,” “unfettered” and “absolute” in defining discretionary rights contradicts the statutory and common law duty of fair dealing; such terms should be completely eliminated from franchise agreements.
Whereas these agreements often allowed franchisors to require admissions or acknowledgements from franchisees that were not only unnecessary but, sometimes, grossly unfair, current agreements should not contain these types of clauses. For example, asking a franchisee to admit, in advance, that a franchisor will be acting in accordance with reasonable and necessary business judgment in enforcing its rights under a franchise agreement is not only unfair, it is practically unenforceable as being in bad faith when a dispute arises.
Since the parties are required – at least in those jurisdictions which have statutory franchise legislation – to act in accordance with reasonable commercial standards, franchise agreements or actions taken under franchise agreements now reflect the fact that such actions will be judged by objective community standards and not what a franchisor considers to be reasonable or fair.
Fair Dealing v. Fair Agreement
Note that the duty of fair dealing is not to be confused with what is a fair agreement. The courts have clearly confirmed that franchise agreement provisions that are clear, unambiguous and certain in their application will be enforced as written. The courts will not attempt to rewrite the provisions to be more fair or balanced on the understanding that the agreement reflects the intention of the parties in entering into the agreement.
Review of Franchise Agreement
Given the likely introduction of franchise legislation in more provinces in the near future and the Canadian courts’ application of the duty of fair dealing in interpreting rights and obligations under agreements, franchisors should have their franchise agreements and ancillary documents reviewed regularly to accomplish the following purposes:
- eliminate rights or obligations that are not necessary or are outdated;
- insert current operational business practices that are not included;
- remove qualifications to the exercise of discretion; and
- consider areas where franchisee representation or input may be useful or desirable.
Successful franchisors, particularly in the current economic environment, are those who take leadership and embrace their franchisees. Such success involves recognition of the obligation to act fairly and to reflect that obligation in the most important of all documents – the franchise agreement.