Buying a Franchise in Canada. Tony Wilson

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СКАЧАТЬ rejects the franchisee? Can it still retain part of the deposit monies to compensate it for its administrative expenses? (See paragraph 5 of Sample 1.) This is something else you should consider.

      Note as well this franchisor is seeking to prevent the franchisee from competing with it if the franchise agreement is not entered (see clause in 2.[f.] in Sample 1). Restrictive covenants are interpreted very strictly by Canadian courts, which see them as restraints of trade and will not enforce them unless they are “reasonable” in the circumstances. Regardless whether the franchisor has breached Ontario law by having the franchisee enter into the deposit agreement prior to delivery of the disclosure document or waiting the requisite 14-day cooling off period, and regardless of the fact that this may breach Alberta law by requiring a deposit that is more than 20 percent of the franchisor’s initial franchise fee, as this covenant lacks a time period and geographic boundaries for its restriction (i.e., one mile for one year), it will in all likelihood be unenforceable by the franchisor.

      Note also in Sample 1 that the number of days don’t match, which is a good indication that other things will be wrong as well.

      3. Are The Initial Fee and Other Costs in US or Canadian Dollars?

      For US franchisors (who may not have converted their US agreement and marketing material to a Canadian format), initial fees and other costs set out in the franchisor’s US FDD or in US-based pro forma financial statements will be in US, not Canadian dollars, and will be based on the franchisor’s US experience, not a Canadian one. Needless to say, those costs will be different in the US and won’t factor in the GST, PST, HST, Canadian tax rates, lease costs, labour costs, or other differing costs.

      A pro forma financial statement is a projection of what the franchisor thinks or expects the location to reflect in the first year (or the time period in the projection). It is little more than a projection, and like the weather, can be quite accurate or highly inaccurate. Actual financials are more reliable as they reflect actual performance over a period of time, rather than estimating performance. Accordingly, buying an existing operation from a franchisee or an outlet run by the franchisor itself as a corporate location (with actual financials to read) has its benefits. Also, you should inquire how the franchisor calculated its pro forma statements, especially if it has no operating locations of its own.

      If the franchisor has simply extrapolated US assumptions regarding anticipated Canadian sales (and costs of sales), this may also be unrealistic in Canada. The franchisor’s numbers may simply reflect the US experience. Taking the US population and dividing it by ten to deal with a Canadian population that is one-tenth the size of its southern neighbour is not always an accurate way to measure anticipated performance in Canada. Canada is a country in which our disposable income is less, our labour costs are higher, and our taxes are more than what they would be in the US. As a nation, we don’t seem to shop or eat out as often as Americans do, so pro forma financial statements that assume that a sample group of 200,000 Canadians will shop and eat out as often as a sample of 200,000 Americans may well be flawed. Mind you, this doesn’t mean you have to treat financial or pro forma financial statements based solely on US performance as if they were claims for weapons of mass destruction, but you should treat them with a healthy degree of skepticism and an ever so small grain of salt. Your accountant may be able to assist you with this. So might other franchisees, particularly in Canada.

      4. Royalties

      Franchise agreements will almost always contain some form of royalty, which is a monetary amount payable to the franchisor by you every week or every month, depending on the agreement. The continuing royalty keeps the franchisor financially able to administer the franchise system. Franchisors need royalties as much as franchisees need profit from sales.

      Although one often sees royalty rates of between 5 and 8 percent in the restaurant industry, this may not be appropriate in other industries. It may be wise to make inquiries of franchisees within different franchise systems in the same industry if the royalty rate is considered too high in the circumstances. Often, start-up franchisors have no scientific method to their selection of the initial franchise fee and royalty amounts; they simply pick what they think the going rate is. If the “going rate” for that industry is less in other systems, perhaps this is worthy of discussion with the franchisor. Consulting a publication such as the current year’s edition of The Franchise Annual will give you an overview of what the going rates are in various business categories.

      Note that franchisors will often have a clause in the agreement that provides that under no circumstances will the franchisee “withhold any royalty or other payment due and owing to the franchisor.” It goes without saying then, that in the absence of special circumstances, failure to pay royalties is normally considered a material breach of the franchise agreement that could lead to the franchisee’s termination by the franchisor. (See Chapter 8 for more information about royalties.)

      5. Withholding Taxes on Royalties

      It is important that the US franchisor (or any other non-Canadian franchisor) understands that the Canadian franchisee has an obligation to deduct withholding taxes on the royalties and similar monies owed to the non-Canadian franchisor and remit them to Canada Revenue Agency (CRA). Withholding tax requirements are in place to make sure that the taxes are paid before the funds are paid to the non-Canadian franchisor. As a franchisee, you are required to withhold approximately 15 percent of the royalties or other payments to the franchisor and send them to the CRA.

      Should you, as the franchisee, have to pay more than the stipulated amount of royalties just because the franchisor did not contemplate that withholding taxes would have to be paid? After all, the non-Canadian franchisor could have created a Canadian subsidiary and effectively avoided this problem.

      The US-based franchisor will always take the position that you, the franchisee, are responsible for paying the withholding tax. The addition of this extra tax might not make the venture ecomonic for you. CRA will assess you, the franchisee, in the event the withholding tax is not paid. This is an important issue to address with all non-Canadian franchisors and should be resolved before you sign the agreement.

      6. Limited Liability Company

      Often, the franchisee will be a limited liability company, which is also called a corporation. A limited liability company is a distinct legal entity that exists at law separately from its shareholders, officers, and directors. This means that the shareholders, officers, and directors of a company are not personally responsible for the debts and obligations of their company unless they specifically agree to be responsible for such debts and obligations (e.g., by way of a personal covenant or personal guarantee).

      In very limited circumstances, certain statutes (particularly environmental and tax statutes) can impose personal liability on directors, shareholders, and officers of a company, making such persons liable for the company’s debts, although this “piercing of the corporate veil” is not common.

      The issue here is that you would probably prefer not to sell the house and liquidate the RRSPs if the venture fails. By incorporating a limited liability company and operating the franchised business through that company, personal liability for the company’s debts can be minimized, unless you agreed to assume those liabilities personally by way of a guarantee or personal covenant.

      There are also tax-planning reasons why a franchised business such as this one might be operated through a company (i.e., dividends are treated differently for tax purposes than employment income from wages, and there are potential tax planning strategies that are better suited to a corporate entity).

      Another reason why a company is often used as the franchisee СКАЧАТЬ