As we discussed in a recent article, franchisees sometimes have access to powerful potential remedies against franchisor corporations in cases of franchise disclosure issues.
The purpose of this article is to explain that individual directors and officers of franchisor corporations can be held personally liable to franchisees in at least two different scenarios.
As background, personal liability means that a person acting as a director or officer of a franchisor corporation can be found personally responsible – in the director or officer's individual capacity – for the amount awarded to the franchisee by a Court. This is separate and apart from the liability of the corporation as a legal entity.
In the personal liability scenarios outlined below, the franchisee could ultimately take steps to enforce the Court's order against assets of either the franchisor or assets of an individual director or officer.
Accordingly, there are legal risks to directors and officers who operate within the franchisor businesses, particularly in the following two scenarios.
Scenario one: Where a director or officer is a franchisor's associate
First, the rescission remedy requires a franchisor to compensate a former franchisee for various losses in cases where the franchisor provided flawed disclosure to the franchisee. The rescission remedy may be available in cases where the franchisor provided late disclosure or failed to disclose proper financial statements, all material facts or other information required by law.
Franchise law mandates that a franchisor and any franchisor's associates are jointly liable to pay compensation to the franchisee in cases of flawed disclosure. Under franchise law, the definition of "franchisor's associate" captures – among other parties – a person who directly or indirectly controls the franchisor and is directly involved in the grant of the franchise. An individual becomes directly involved in the grant of the franchise when they are involved in reviewing or approving the grant and/or by making representations to the prospective franchisee for the purpose of granting the franchise and/or by marketing or otherwise offering to grant the franchise.
In many cases, individual directors and officers meet the definition of "franchisor's associate." Therefore, they are held jointly liable to pay compensation to the franchisee.
For example, the Ontario Court of Appeal ruled that two officers and directors of the Dig This Garden business directly controlled the franchisor business and were directly involved in the grant because they made statements to the franchisees on the franchisor's behalf to encourage the franchisee to invest. They were held jointly liable along with the franchisor for damages of almost $300,000.
Scenario two: Where a director or officer signs a disclosure certificate or statement of material change
Additionally, a director or officer who signs a certificate in a franchise disclosure document, or a statement of material change, that contains a misrepresentation may be held liable for that misrepresentation solely because they signed that document – even if that director or officer is not a franchisor's associate.
For context, a disclosure certificate confirming that the franchisor has made proper disclosure must be included within any franchise disclosure document. By signing the certificate, the person(s) signing the certificate confirm that the disclosure document does not contain any untrue information, representations or statements, whether of a material fact or otherwise. In addition, every material fact, document and other information required under franchise legislation and regulations is included in the disclosure document.
The certificate must be signed:
- If franchisor is not a corporation, by the franchisor;
- If the franchisor is a corporation and has only one director or officer, by that individual; and
- If the franchisor is a corporation and has more than one officer or director, by at least two of those officers or directors.
Where a disclosure document contains a misrepresentation (as defined below), franchise legislation allows the franchisee to bring a claim for damages against the franchisor and certain related persons.
In most provinces, the term "related persons" is defined broadly. It includes the franchisor, the franchisor's associates, the franchisor's agent (in Ontario only), the franchisor's broker and every person who signed the disclosure document or statement of material change. In Alberta, a claim for damages for misrepresentation can only be brought against the franchisor and any person who signed the disclosure document.
In British Columbia, Manitoba and Ontario, if a director or officer signs a disclosure certificate or statement of material change and there is a misrepresentation in the document signed by that director officer, then the director or officer may be held personally liable for misrepresentation. Alberta's legislation only refers to misrepresentation that is contained in the disclosure document and not in a statement of material change. Arguably, a franchisor could still be held liable if there is a misrepresentation in a statement of material change.
As a result of this potential personal liability for misrepresentations, it is quite important for franchisors, directors and officers to understand their disclosure obligations and to ensure that there are no misrepresentations in the disclosure document.
The term "misrepresentation" is defined in franchise legislation as including an untrue statement of a material fact or an failure to state a material fact that is either required to be stated or is necessary to make in order to not mislead the franchisee in light of the circumstances in which it was made.
Outside of the franchise law context, "reliance" is often a requirement of a claim for misrepresentation. In other words, a party typically must prove that it relied upon the opposing party's misrepresentation when it made its decision to invest before it can claim damages as a result of that misrepresentation. This is not the case in franchise law. Franchise law eliminates the need to prove reliance, by stating that a franchisee who acquires a franchise where the disclosure document or statement of material change contains a misrepresentation "shall be deemed to have relied on the misrepresentation."
Potential defences
There are several potential defences that could be available to directors or officers who face a claim for misrepresentation. This includes that the franchisee knew that the statement containing the misrepresentation was inaccurate, or if the misrepresentation was withdrawn after it was given to the franchisee. Directors or officers of a franchisor corporation might also wish to explore insurance opportunities to guard against personal liability risk for franchise disclosure issues.
Overall, the best course of action for franchisors, directors and officers is to ensure that the disclosure provided to prospective franchisees meets all legislative requirements and is free from misrepresentations. This way there is no need to consider whether these defences to personal liability apply.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
