Got Damages? A Review of the Alberta Court of Appeal’s Clarification on Net Loss Damages Related to the Termination of a Franchise Agreement

  • March 23, 2021
  • Peter Snell, Gowling WLG, and Pam Vermeersch, Gowling WLG

Background

In 1777453 Alberta Ltd. v. Got Mold Disaster Recovery Services Inc.[1] (“Got Mold”), a claim was brought by 1777453 Alberta Ltd. (the “Franchisee”) for damages against Got Mold Disaster Recovery Services Inc. (the “Franchisor”) in relation to the cancellation of a franchise agreement (the “Agreement”) made between the two parties. Under the Alberta Franchises Act,[2] (the “Franchises Act”), if a franchisor fails to give its franchisee a franchise disclosure document in a timely manner, the franchisee may cancel the franchise agreement and claim any net losses it incurred in acquiring, setting up and operating the franchise business.

In Got Mold, the Franchisor failed to give proper disclosure in a timely matter, triggering the net loss damages provision of the Franchises Act. The Franchisee had continued to operate its business after cancellation of the Agreement, and the key issue was whether the calculation of net losses should deduct future profits earned by the Franchisee using the assets of the business, which is no longer part of the franchise, after cancellation of the Agreement.

Decision of the Chambers Judge

Prior to the hearing of the summary judgement application, the Franchisor conceded its liability for any net losses the Franchisee incurred, but disputed that any net losses were in fact incurred. The issue of damages was ordered to be tried by way of a special chambers hearing. At the hearing, the chambers judge held that in calculating the net loss incurred in acquiring, setting up and operating the franchise business, a franchisee may, in certain circumstances, be required to account for profits made after the rescission of a franchise agreement. As a consequence, the inclusion by the chambers judge of profits made after the rescission of the Agreement resulted in the Franchisee being awarded no damages. Further, the chambers judge dismissed the Franchisee’s action in its entirety, which also included a claim for misrepresentation and breaches of the franchise agreement, and awarded double costs on the basis that the Franchisor beat their formal settlement offer.

Decision of the Alberta Court of Appeal

The Court of Appeal considered five grounds of appeal: the dismissal of the action; the interpretation of “net losses” and level of scrutiny applied; the reliance on the Franchisor’s expert as to the calculation of damages; the factual basis of events occurring after the termination of the Agreement; and the award of double costs.

The first issue addressed was the dismissal of the action. The Court ruled that the parties appeared in special chambers to assess certain damages under the Franchises Act, however, there were other matters in the Franchisee’s pleadings that remained unaddressed at the end of the special chambers. Therefore, the chambers judge was not in a position to exercise their discretion and dismiss the action. 

The second issue addressed was the scope of the net-loss incurred by the Franchisee and the scrutiny applied to determine the validity of those losses. The relevant section of the Franchises Act is section 14(2), which states:

“The franchisor or its associate, as the case may be, must, within 30 days after receiving a notice of cancellation under section 13, compensate the franchisee for any net losses that the franchisee has incurred in acquiring, setting up and operating the franchised business”.

The Court ruled that the chambers judge’s interpretation of s.14(2) as requiring profits received by the franchisee following cancellation of the franchise agreement to be deducted from the net losses the franchisee incurred while the franchise agreement was in force goes beyond what was contemplated by the wording of s.14(2). The Court stated that the section confines net losses to those costs incurred in acquiring, setting up and operating the franchised business, and which also requires those net losses to be paid within 30 days of the cancellation of the franchise agreement. Further, the Court noted that the section is designed to return the Franchisee to the position they were in prior to entering the franchise agreement. Therefore, "net losses" are to be calculated as the difference between the revenue generated by the franchisee during the currency of the franchise agreement and the expenses incurred to acquire, set up and operate the franchised business during that same period of time. In terms of the scrutiny applied to the determination of net losses, the Court stated that the approach should be flexible, but in all cases the franchisee must present some evidence to corroborate and quantify the amounts it claims.

The third issue addressed was whether the chambers judge erred by relying on the Franchisor's expert, who the Franchisee claimed, based his expert opinion on hearsay evidence, incorrect data, and unproven assumptions. The Franchisor’s expert based their findings on what was reasonable in the circumstances and not purely based on the financial statements alone. On the standard of review of palpable and overriding error, the Court found no such error occurred, and did not overturn the chamber judge’s ruling with respect to the expert evidence.

The fourth issue was whether there was an incorrect conclusion of fact concerning events that took place after the Agreement was cancelled. The court found this determination inconsequential given the conclusion that a net losses calculation should not include future profits, revenues or expenses beyond those which the Franchisee incurred in acquiring, setting up and operating the franchise business.

The fifth and final issue was whether double costs should be granted. The Court ruled that because the case was not properly dismissed, double costs were not yet available.

Key Takeaways

In Got Mold, the Alberta Court of Appeal clarified that section s.14(2) of the Franchises Act means that net losses are to be calculated as the difference between the revenue generated by the franchisee during the currency of the franchise agreement and the expenses incurred to acquire, set up and operate the franchised business during that same period of time. The Court specifically noted that the calculation of net losses may include expenses incurred before the actual formation of the franchise agreement, or revenues received after the cancellation of the franchise agreement. However, these revenues and expenses would not include profits realized following the cancellation of the franchise agreement. Further, the Court noted that, while a franchisee’s claim for net losses may be subject to an assessment for reasonableness, when reviewing expenses the Court should keep in mind that an inexperienced, new franchisee may incur costs which, in hindsight, might appear to be less than prudent.

 

[1] RSA 2000, c F-23.


[2] 2021 ABCA 9.

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