Ontario – Court of Appeal upholds arbitrator’s decision to “blue pencil” mediation clause having impact on limitation period – #057

Ontario’s Court of Appeal in PQ Licensing S.A. v. LPQ Central Canada Inc., 2018 ONCA 331 upheld an arbitrator’s decision on a preliminary issue involving the application of a limitation period.   The Court of Appeal agreed with the Superior Court which had held that it was reasonable for the arbitrator to sever the mention of “in Delaware” in a mediation clause because that stipulation violated remedial legislation applicable to franchising.  The balance of the mediation clause remained valid.  Completing the mediation was a condition precedent to triggering the date at which one of the parties could “discover” its claim and delayed triggering the two-year limitation period in Ontario’s Limitations Act, 2002, SO 2002, c 24, Sch B. (“Limitations Act”).

The decision involved the Court of Appeal’s decision on an appeal from the Superior Court, on leave.  The Superior Court’s reasons for the dismissal in first instance are not published online.  That said, in PQ Licensing S.A. v. LPQ Central Canada Inc., 2017 ONSC 1532, Madam Justice Victoria R. Chiappetta delivered an order on costs in which she mentioned that she had earlier delivered oral reasons on the appeal.  The Court of Appeal does refer to Chiappetta J.’s reasoning at different points in its own reasons and likely had access to a transcript of those reasons.  Those references are sufficient to follow the reasoning she applied.

At issue was an arbitrator’s decision that the franchisee’s notice of arbitration was not time-barred by the Limitation Act.  The arbitrator based himself on his interpretation of section 10 of the Arthur Wishart Act (Franchise Disclosure), 2000, SO 2000, c 3 (“Wishart Act”) and his application of section 5(1)(a)(iv) of the Limitations Act.

In arriving at his decision, the arbitrator had accepted that franchisee’s ability to “discover” its claim for the purpose of initiating a valid arbitration ran from the close of the parties’ contractually-agreed upon mediation process.  His analysis involved two sections of two different pieces of Ontario legislation worth reproducing here:

Section 10 of the Wishart Act, entitled “Attempt to affect jurisdiction void”:

10 Any provision in a franchise agreement purporting to restrict the application of the law of Ontario or to restrict jurisdiction or venue to a forum outside Ontario is void with respect to a claim otherwise enforceable under this Act in Ontario.

Section 5(1)(a)(iv) of the Limitations Act, entitled “Discovery”:

5(1)(a)(iv) A claim is discovered on the earlier of,

 (a) the day on which the person with the claim first knew, …

 … (iv) (iv) that, having regard to the nature of the injury, loss or damage, a proceeding would be an appropriate means to seek to remedy it

The parties’ franchise agreement provided for an escalation clause involving non-binding mediation in Delaware before resort to arbitration or litigation:

31.03 Except for disputes [relating to intellectual property], the parties agree that before resorting to arbitration, litigation or any other dispute resolution procedure, if any dispute between them … cannot be settled through negotiation by diligent effort, they will first attempt in good faith to settle the dispute or claim by non-binding mediation conducted in the state of Delaware under the auspices and then-prevailing commercial mediation rules of the American Arbitration Association…. The parties’ obligation to mediate will be deemed to be satisfied when six hours of mediation have been completed (whether or not the parties have resolved their differences) or sixty days after a mediation demand has been made if any party fails to appear or participate in good faith in the mediation.

 31.04 Except for disputes [relating to intellectual property], all controversies, disputes or claims arising between us … and you … based on any theory or facts, and whether or not arising out of this Agreement and which have not been resolved through mediation as provided in Section 31.03 above will be submitted for arbitration as provided in this Section 31.04 including (without limitation) any claim for equitable or interlocutory relief and any dispute as to the arbitrability of the controversy, dispute or claim.

The arbitrator had to consider a dispute timeline that spanned from August 2009 to October 2013.  The dispute stemmed from the parties’ 2008 franchise agreement.  On August 11, 2009, franchisee delivered a notice of rescission which franchisor disputed on October 8, 2009.  On October 6, 2011, franchisee commenced an action in Ontario Superior Court.  Franchisor objected to proceeding, invoking the mediation provision.  Franchisee resisted, arguing, among other things, that the mediation process was void because it required mediation in Delaware.  Franchisor proposed mediation in Toronto by letter dated January 23, 2012.

The Superior Court litigation lay dormant until dismissed in 2013 by administrative action for delay.  Franchisee’s attempt to revive the action was met with a July 2013 court order staying the action in favour of an arbitrator’s determination as to whether the arbitration was out of time.  Franchisee served a Notice of Arbitration on October 7, 2013.

The arbitrator held that franchisee’s 2013 attempt to arbitrate the 2009 dispute was timely under Ontario’s two-year limitation period.  The arbitrator reasoned that the mediation clause was valid provided the reference to “in Delaware” was struck as it infringed section 10 of the Wishart Act.  He further reasoned that undertaking arbitration had not been “appropriate” within the meaning of section 5(1)(a)(iv) of the Limitations Act until the mediation occurred.

The Court of Appeal reproduced an excerpt of the arbitrator’s reasoning:

I find that a condition precedent to litigation has the effect of suspending the running of the limitation period under Section 5(1)(a)(iv) of the Limitations Act with the result in this case that because Section 31.03 of the party’s agreement creates such a condition precedent, the limitation period was suspended until the party’s obligations under that clause were met. In this instance, the Franchisee refused to engage in Mediation at or about January 16, 2012. Thus, the Mediation requirement had been completed within the meaning of Section 31.03 60 days after that date. The result is that the limitation period commenced to run then and the Franchisee’s Notice to Arbitrate dated October 7, 2013, was within the two-year limitation period….

Chiappetta J. heard franchisor’s application to appeal the order.  She determined that the applicable standard of review was reasonableness, relying on Sattva Capital Corp. v. Creston Moly Corp., [2014] 2 SCR 633, 2014 SCC 53.    She held that the determination of whether a procedural step was “appropriate” depended on the choice made by the parties in their agreement which allowed for arbitration if mediation was unsuccessful.  She also endorsed the arbitrator’s approach to severing the reference to “in Delaware” as serving the remedial purpose of the Wishart Act while still encouraging mediation in commercial disputes.

The Court of Appeal granted leave to appeal Chiappetta J.’s decision and, after having heard the parties, dismissed the appeal.  The Court agreed with Chiappetta J.’s application of reasonableness as the standard of review.  The Court wrote that the standard of review is “’almost always’” reasonableness, including when the arbitrator determines a question of law.  The Court noted that the standard would not apply to a question of law in some rare circumstances, such as constitutional questions or questions of law of central importance to the legal system and beyond the arbitrator’s expertise.  While the Court examined in detail two of appellant’s arguments in favour of a standard of correctness, the Court “would not give effect to either argument”.  Those arguments are set out and addressed in full at paragraphs 28-33.

In its application of that standard to the arbitrator’s decision, the Court of Appeal again agreed with Chiappetta J.’s approach.  The arbitrator’s decision met the standard of “reasonableness” set out in Dunsmuir v. New Brunswick, [2008] 1 SCR 190, 2008 SCC 9, falling “within a range of possible, acceptable outcomes which are defensible in respect of the facts and the law”.

The Court of Appeal specifically disagreed with franchisor’s characterization of the result of allowing a mediation clause to extend the two-year limitation period to four years.  The Court held that the parties had not engaged in “tolling” the limitation period but had applied the discoverability criteria in the Limitation Act.

The parties’ mechanism allowing for mediation was part of the parties’ circumstances and was a condition precedent to arbitration.

The Court further disagreed that allowing mediation to delay the date of initiating arbitration would make the limitation period uncertain.  Either party could trigger the mediation clause so there was no ability for one party to indefinitely extend the period for commencement of the action.  The parties’ franchise agreement, as well as provisions of the Wishart Act, require a party to give “immediate notice” of any alleged breach or violation of the franchise agreement and the legislation, respectively, and thereby triggers both parties’ right to initiate mediation as a condition precedent.

The Court also agreed with the arbitrator’s analysis on discoverability.  All parties had agreed that the claim was discoverable when the notice was first sent in October 2009 but that fact did not end the analysis.

[47] The question was not when the appellant knew it had a claim, or even that legal action was appropriate (the issue in Hamilton), but when the franchisee knew or ought reasonably to have known that arbitration, which was the dispute resolution proceeding the parties had bargained for, was the appropriate means to resolve the dispute. The arbitrator reasonably concluded that the answer to this question depended on the ADR Provisions and the parties’ agreement to a dispute resolution mechanism which required an attempt at mediation before arbitration could be commenced. As the appeal judge noted, the determination of when a proceeding was “appropriate” turned on “the parties’ choice to have their disputes resolved by arbitration if mediation as a precondition [was] unsuccessful.” Under this interpretation, the parties would only know that arbitration was appropriate when the mediation requirement had been exhausted. As such, the date of commencement of the franchisee’s misguided legal action was not determinative of the s. 5(1)(a)(iv) “appropriateness” inquiry.

As a final argument, appellant challenged the arbitrator’s decision to hive off the mention of “in Delaware”, submitting that his authority to do was precluded by the Court of Appeal reasoning in 2176693 Ontario Ltd. v. Cora Franchise Group Inc., 2015 ONCA 152.  The Court qualified the arbitrator’s approach as “blue pencil”, explaining it as an approach which severs or removes any illegal features of a contract where it furthers the parties’ contractual intentions.  The Court distinguished its earlier reasoning in Cora Franchise Group Inc. and also noted that the parties’ franchise agreement allowed the arbitrator to adopt the approach he did.

[52] The parties’ franchise agreement expressly contemplated what the arbitrator did here. Section 30.02 provides that, in the event of any conflict between any provision of the agreement and any law, any affected provision will be “curtailed and limited only to the extent necessary to bring it within the requirement of the law”. Removal of the requirement to mediate in Delaware served to uphold the ADR process the parties agreed to, that anticipated mediation before arbitration. It would “cure the illegality” while remaining as close as possible to the intentions of the parties: Cora Franchise, at para. 36.

The Court agreed that it would have been unreasonable if the arbitrator had excluded the entire mediation clause.

[53] Accordingly, the arbitrator’s severance of the Delaware requirement to meet s. 10 of the AWA was reasonable. Indeed, it would have been unreasonable for him to have accepted the franchisor’s argument to exclude the entire mediation clause, which was an integral component of the ADR Provisions, especially in circumstances where the franchisor had expressly relied on the obligation to mediate, and had proposed that a mediation take place in Toronto.

Note: would the “blue pencil” approach be upheld if the arbitrator applied remedial legislation and removed the mention of “in Delaware” it that were (a) the location of the hearings for the arbitration; and, (b) the seat of the arbitration?