Continuation of a Contract by Conduct

August 24, 2022

By Mark Mikulasik

Collecting royalty fees from franchisees is the life blood of a successful franchise operation.

THE ISSUE

What happens when a franchise agreement expires, but the parties continue to operate as if they still had an agreement?

THE CASE

That was the issue in Coffee Time Donuts Incorporated v. 2197938 Ontario Inc.

The facts are straightforward.

The parties entered into a franchise agreement on July 31, 2009. The agreement related to the numbered company operating its business as a “Coffee Time” store. The written agreement expired on July 31, 2014. However, the franchisee remained in operation pursuant to its terms: they continued to pay the royalties set out in the written agreement, to purchase products from exclusive suppliers under the agreement, and to operate under “Coffee Time” branding. The numbered company stopped paying royalties on February 16, 2016 but continued to use the “Coffee Time” branding and to purchase products from exclusive suppliers. The franchisor continued to send invoices for payment of royalties under the agreement and sent notices of default when the invoices were not paid.

The franchisor commenced an action for the unpaid royalties on the basis that the parties continued the agreement by their conduct after the expiration of the written agreement, seeking payment of $90,283.84 plus interest at rates under the agreement to January 25, 2021, the date the “Coffee Time” branding was removed from the store.

The numbered company argued that its use of the branding was “free” after the expiration of the written agreement, and that they only made royalty payments from July 31, 2014 to February 16, 2016 “out of courtesy”.

THE RESULT

Both the Superior Court and Court of Appeal agreed with the franchisor. The appeal court agreed with the motion judge’s finding that the franchisee’s position “flies in the face of commercial realities”.

Although “continuation by conduct” is not a well-know principle of law, the Court of Appeal reached back to a 1964 Supreme Court of Canada decision dealing with the creation of a contract (acceptance) by conduct – a slightly different fact situation, but similar enough to apply here.

However, because of the two-year limit to claim under the Limitations Act 2002, any invoices which had been unpaid more than two years when the claim was issued were out of time and could not be recovered.  The “discoverability” principle applied because the franchisor would be aware of the non-payment as soon as it occurred.

TAKEAWAYS

  • Conduct counts in commercial cases
  • A better drafted agreement would have included a provision setting out what would happen if the agreement expired and the parties continued to act as if it existed, similar to “overholding” clauses in leases
  • The franchisor ought to have been more diligent in pursuing its rights: there was no need to miss a time limit
  • This is another example of the practical approach taken by courts in Ontario to avoid “commercial absurdities”

WHAT WEILERS LAW MAY DO FOR YOU

Our commercial lawyers are experienced and skilled at drafting agreements to reflect your intentions and commercial realities.

Our litigation team is similarly skilled and experienced at dispute resolution, working closely with our commercial team to find a timely and cost-effective solution.

If you are involved in franchising, or any other complex commercial endeavour, please contact one of our commercial lawyers to discuss whether Weilers Law is the right firm for you.