How Not To Evade a Restrictive Covenant

In the recent case of Pet Valu Canada Inc. v. 1381114 Ontario Limited, the Court dealt with a motion by a franchisor, Pet Valu Canada Inc., against a numbered company operating as “Pet Stuff & Supplies” and its principals. Pet Valu was seeking an injunction stopping the defendants from operating a pet supply store which allegedly breached a non-competition covenant in a franchise agreement.

Robin Martin, as sole officer and director of 1381114 Ontario Limited, entered into a franchise agreement with Pet Valu that contained a restrictive covenant. Ms. Martin personally operated the Pet Valu franchise store until the franchise agreement was terminated.

At that point, according to the franchise agreement, she was prohibited from operating or participating in a competing business for 2 years within a 20 kilometer radius of the store.

Ms. Martin’s husband was one Mark Fingarson. He was the long-time owner and operator of Alfa Security Systems, a security services company.

In the month prior to the termination of Ms. Martin’s franchise agreement, Mr. Fingarson directed a numbered company which he had incorporated earlier to register the business names “Pet Stuff & Supplies” and “Alfa Systems”.

After the termination of the franchise agreement, that numbered company began to operate a pet supply store 450 meters from a Pet Valu store. In addition to pet supplies, the store sold spy equipment and skateboards. Ms. Martin’s former manager was employed there after having set up the store. Shelving, racking and inventory with distinctive labels, price tags and product codes from Ms. Martin’s Pet Valu franchise were in use at the new store.

A private investigation firm hired by Pet Valu conducted surveillance of the store on a Saturday in the month following the termination of the franchise agreement and observed Ms. Martin attending there on two occasions throughout the day including dropping off several roles of change at the business.

Pet Valu sought an injunction to require the new store to close. The judge had no difficulty granting the injunction. The judge found that while Mr. Fingarson had not been a signatory to the franchise agreement, he clearly set up the new company to assist his wife to compete with Pet Valu when she had undertaken not to do so. It was plain to the judge that the new company had been incorporated by Mr. Fingarson to hide his wife’s involvement, and that she was involved in the operation of the new store.

The judge found that this was all a “transparent effort by all of the defendants to avoid the restrictive covenant”. She regarded all of this as “no more than a feeble attempt” to do so.

Mr. Fingarson had insisted that Pet Stuff was not actually competing business within the meaning of the restrictive covenant because it also sold spy equipment and skate boards. This argument was completely rejected as well.

The judge went on to make a significant point on the law relating to injunctions relating to restrictive covenants.

In a normal injunction proceeding, the party seeking the injunction must show that there is evidence supporting a valid complaint. In addition, it must show if the injunction is not granted, the party seeking the injunction will suffer harm which is “irreparable” which is to say that compensation in damages will not be adequate. Finally, the party must demonstrate that the harm to it if the injunction is not granted outweighs the harm to the defendant if it is granted. This is what is referred to as the “balance of convenience” test.

However, as the Court pointed out, a fundamental aspect of any franchise system is the protection of its method of operation, goodwill, products and services. Accordingly, where there is a clear breach of a negative covenant in a franchise agreement, the elements of irreparable harm and balance of convenience are not required. All the moving party has to do is to demonstrate that it has a valid and supportable claim for a breach of a non-competition provision or other restrictive covenant.

This is a useful reminder of the law relating to the enforcement of restrictive covenants in franchise agreements. It is also a useful reminder to the public generally that transparent attempts to circumvent these covenants will never be tolerated.

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