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Franchisors: How to Avoid Losing Money!

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By Sofia Lozanova, Lawyer, MST Lawyers

In a decision handed down by the Supreme Court of Victoria in March 2017 (BB v Constantis”), Associate Justice Mukhtar made it clear that franchisors wishing to claim various fees and costs pursuant to a franchise agreement, must sufficiently outline those claims in their court documents as well as produce sufficient evidence to substantiate the underlying calculation of any invoices issued to a franchisee.

Below is a summary of the relevant parts of the case, along with pointers on specific cost clauses in franchise agreements.

Procedural History

This was a case on appeal from a decision of the Magistrates’ Court regarding the payment of certain fees due by an ex-franchisee.  The franchisor (”BB”) claimed outstanding fees of $66,064 plus all of its legal costs (known as “costs on an indemnity basis”). 

The Magistrate only allowed $47,831.19 as part of the claim and awarded costs on a lesser basis than the indemnity sought, despite BB being successful in its claim.

Facts of the Case

The respondents (”Constantis”) had been franchisees of a Blockbuster Video shop business for about 15 years.  Pursuant to the franchise agreement, they were required to pay licence fees and a marketing fund contribution.

In March 2015, the Constantis closed their video store despite the fact that the term of the franchise agreement did not expire until 1 September 2015.

Throughout the term of the franchise agreement, BB had mistakenly undercharged the Constantis for various fees and sought to recover the underpayments by issuing invoices for those underpayments.  BB also issued invoices for license and marketing fees due from January 2015 to March 2015 and sought a surrender fee which it says was for the loss it incurred due to the Constantis not trading for the remaining term.

Magistrates’ Court Claim

BB’s sought an order that the Constantis pay:

  • the sum of $22,797.47 for undercharged franchise fees for trading pre-July 2011;
  • the sum of $9,443.43 for undercharged franchise fees for trading between August 2011 and January 2015;
  • the sum of $3,814.80 for legal expenses incurred by BB to enforce the Franchise Agreement;
  • the sum of $16,168.82 for licence and marketing fees due from January 2015 to March 2015; and
  • the sum of $13,840.07 being the surrender fee.

The Magistrate allowed claims (a) – (c) but did not allow claim (d) on the basis that that the underlying figures and calculations of the invoiced amounts (which were in dispute), had not been proven and more importantly, that they could not be proven by BB simply producing into evidence the invoices and alleging that they were sufficient proof of the debt existing.

His Honour allowed claim (e) but reduced it by $2,604.58.

Questions on Appeal

The appeal considered the following legal questions:

  1. Can a debt claim be proved by having a witness produce an invoice as a business document and saying it was unpaid, but without detailing how the amount claimed in the invoice was calculated where it was not clear on the face of the invoice?
  1. Does a plaintiff need to explicitly plead and claim a special costs order (such as an indemnity costs order) as a contractual entitlement before it is entitled to such an order?

Decision on Appeal

Question of Evidence

As to the question of the invoices, Associate Justice Mukhtar dismissed the claim for $16,168.62 (for licence and marketing fees) stating that mere production of an invoice was not sufficient proof.  The invoices in question quoted amounts due for items simply referred to ‘marketing fees” or ”franchise-rental” and a time period. Despite the Constantis’ querying how these invoices came to be calculated, no evidence was produced by BB at trial.

Associate Justice Mukhtar made it clear that BB had to prove how this particular part of its claim was calculated and noted that BB should be capable of providing such evidence and proof from its finance department.  After all, an invoice was nothing more than a claim for monies and did not in and of itself prove anything. However, his Honour qualified this statement by noting that there may be situations where a more detailed invoice may be capable of proving the facts of the claim but that this was not such a case.

Question of Costs

As to the question of costs, Associate Justice Mukhtar found that the wording in the costs clause in the Franchise Agreement was closer to the standard basis of assessment rather than the indemnity basis and ordered that the costs payable be assessed in accordance with the clause. 

His Honour repeated the following well-established principles that:

  1. In the absence of contrary evidence, a successful party is entitled to costs on a standard basis;
  2. A successful party may be entitled to costs on an alternative basis where it is in accordance with a well-recognised principle or in accordance with a contractual right that is plainly and unambiguously expressed;
  3. Even where a contractual term for payment of costs exists, the Court still has a discretion as to whether or not to make a costs order in accordance with that clause;
  4. The discretion to award costs in cases where point 3 exists would ordinarily be exercised to reflect that contractual right;
  5. Even if the language of a contractual term was plain, a costs order could be declined on the ground that the plaintiff did not reveal its intention in its pleadings to claim costs other than on a standard basis.

In this case, however, BB did plead the following costs clause:

”Upon the occurrence of an event of default by the Franchisee, the Franchisor will be entitled to recover from the Franchisee in addition to any applicable claim plus interest, legal fees, costs and expenses incurred by the Franchisor as a result of such default on an indemnity basis.”

This was sufficient for the Judge to conclude that BB was clearly seeking its costs under the above clause.

Lessons for Franchisors

Franchisors should not assume that the mere creation of an invoice will be proof of an entitlement to payment.  The entitlement for payment usually arises as a result of a provision of goods or services.  It is necessary for the Franchisor to prove that it supplied those goods or services at the request of the franchisee or under an obligation under the franchise agreement and that the price that it charged was an agreed or reasonable price.  Simply sending a self-serving invoice is not enough.  

In most litigation, the successful party usually only recovers a portion of its legal costs, somewhere in the range of 50%-60%. 

If a franchisor wishes to reduce the amount of non-recoverable costs when making a claim against a franchisee for breach of a franchise agreement, it should:

  1. Ensure that its franchise agreement contains a clear term entitling it to claim costs on an indemnity basis;
  2. When sending a letter of demand to the franchisee, ensure that it refers to the relevant costs clause and put the franchisee on notice that it will be seeking indemnity costs in accordance with the clause if proceedings ensue;
  3. Ensure that it makes it clear in its court documents that it is seeking to recover costs under the clause contained in the franchise agreement.

The type of costs clause BB pleaded in its case (being a costs clause that entitles a franchisor to recover all the legal costs it incurs by reason of a breach of the franchise agreement by the franchisee) is quite legal.  It is not the type of clause prohibited by clause 22 of the Franchising Code of Conduct (“Code”).

The prohibition outlined in clause 22 of the Code relates to the legal costs of settling a dispute under a franchise agreement.  The clause only applies to provisions in franchise agreements entered into varied, extended or transferred on or after 1 January 2015.

If you are not sure as to whether your franchise agreement contains a sufficient costs clause and one which does not breach clause 22 of the Code, MST Lawyers’ Franchising Team can help review your franchise agreement and provide you with the best advice to secure your interests.  For more information, please contact our Franchising Team by email or call Sofia Lozanova on 03 8540 0200 if you would like to discuss this case in further detail.