The COVID-19 pandemic is affecting almost every business in one way or another. This is equally true for franchise systems and the franchised businesses in those systems.
A limited number of fortunate franchise systems and business are experiencing a positive impact, as the pandemic increases the demand for their goods and service. However, most systems and businesses are experiencing a negative impact as they cope with realities such as decreased revenue, mandatory or voluntary closures, and adapting to new ways of delivering their goods and services.
Whether the impact COVID-19 is having on a franchise system is positive or negative, there are likely disclosure implications for franchisors. For example, the impact of COVID-19 on a franchise system may have an effect on some of the prescribed disclosure items under franchise disclosure laws.[1] Additionally, the impact, and how the system is responding, may be a “material fact” under those franchise disclosure laws.
How COVID-19 may affect disclosure
Prescribed items
Franchisors need to consider whether any of the information under the prescribed disclosure items is affected by COVID-19. By way of example, franchisors may need to update the following items:
- Required investment to establish a franchise business
- Other fees (royalty fees, advertising contributions, technology fees etc.)
- Financing programs
- Sources of products, services and supplies
- Restrictions on what franchisees may sell
- Training
- Advertising fund
- Earnings claims and operating costs estimates
Whether the information under these or other prescribed items need updating in response to COVID-19 will vary from system to system. As soon as possible, franchisors should review their disclosure documents for necessary updates, and for statements that may be rendered misleading or inaccurate. They should continue to review and make necessary updates as the pandemic progresses, as they will likely need to make further updates.
Material facts
What could be more material than a global pandemic causing unprecedented levels of government-mandated closures and economic turmoil? With disruptions to almost every aspect of day-to-day life, every franchise system is likely affected in a way that rises to the level of “material fact” that should be reflected in the pre-sale disclosure to prospective or renewing franchisees.
Many material facts will fall under one of the prescribed items, such as those discussed above. But franchisors ought to consider whether any effects COVID-19 is having on the system, or any of the responses being adopted, rise to the level of material fact requiring disclosure.
Examples of material facts that might not fall under a prescribed item include:
- Modified methods for delivery of goods and services
- Temporary royalty reductions or waivers
- Other financial relief
- Increased health and safety policies and procedures
- Temporary modifications or waivers of certain provisions of the franchise agreement
Providing compliant disclosure during COVID-19
There is presently no additional relief for franchisors from the requirement to provide compliant disclosure, nor is there likely to be. Franchisors should be especially prudent with their disclosure practices during and following the COVID-19 pandemic. This should entail making more frequent updates to their franchise disclosure document, ensuring prospects are receiving the current disclosure document and using statements of material change where necessary and appropriate.
Franchise laws require that prospective franchisees receive the franchise disclosure document as one document at one time. If there are material changes to the information in the franchise disclosure document, then the franchisor can provide this information in a statement of material change without restarting the clock on the 14-day disclosure period.
During COVID-19, franchisors should be diligent in (1) ensuring that prospective/renewing franchisees are receiving an up-to-date, current and complete franchise disclosure document; and (2) reviewing and considering whether there have been any material changes before signing the franchise agreement or receiving any money.
Disclosure exemptions
While a limited number of exemptions from the requirement to provide franchise disclosure do exist, reliance on these exemptions is relatively rare. A franchisor that couldn’t rely on a disclosure exemption before the COVID-19 pandemic is unlikely to be able to rely on one now to sell or renew franchise on the same terms.
Franchisors may, however, be able to rely on a disclosure exemption to sell or renew franchises on modified terms. This could be useful if a franchisor cannot, for whatever reason, maintain a compliant disclosure document, or if renewing or prospective franchisees are hesitant to accept the system’s normal terms during this fluid and uncertain situation.
Given the risks associated with failing to provide disclosure, franchisors should only rely on a disclosure exemption after consulting with their lawyers and ensuring that they the exemption is available.
Have questions about how to continue making compliant disclosure during the pandemic?
Siskinds LLP has developed a comprehensive operational plan that aims to protect our employees, clients, colleagues and the greater community while continuing to deliver uninterrupted legal services. If you have questions or require assistance with franchise disclosure during and following the pandemic, please contact a member of our franchise law group, who will be happy to assist you while observing social distancing and other protective measures.
[1] Six Canadian provinces currently have franchise disclosure laws (Alberta, British Columbia, Manitoba, New Brunswick, Ontario, and Prince Edward Island).