Franchise

Bread & Kaya: Layperson’s guide to the Chatime v Tealive dispute

-By Foong Cheng Leong | Jul 17, 2018
– Trouble started brewing when La Kaffa alleged that Loob had breached RERA
– Case began in the High Court, went to the Court of Appeal, pending a hearing at the Federal Court

MUCH has been said about the dispute between the owners of the Chatime and Tealive bubble tea businesses. The dispute, however, is not as straightforward as the media has reported it to be. This article seeks to guide readers, especially laymen through this technical legal dispute.

Background

La Kaffa International Co Ltd (La Kaffa) is the registered franchise owner of the Chatime bubble tea franchise (Chatime Franchise). Prior to the opening of Tealive, Loob Holding Sdn Bhd (Loob) was appointed as the master franchisee for the Chatime Franchise and had entered into an agreement called Regional Exclusive Representation Agreement (RERA).

Due to the popularity of the Chatime Franchise, it had expanded to 165 outlets in Malaysia in a short period of time.

However, trouble started brewing when La Kaffa alleged that Loob had breached RERA by, among others:

– Loob’s failure to purchase all raw materials from La Kaffa as required by Article 7 RERA;
– Loob failed to allow La Kaffa to inspect and/or audit, among others, Loob’s accounts, books and records; and
– Loob’s failure to pay for raw materials purchased from La Kaffa.

The parties then had the dispute arbitrated by the Singapore International Arbitration Centre (Singapore Arbitral Proceedings). The RERA was also terminated by La Kaffa. Loob argued that the termination was unlawful but accepted the termination in any event.

The matter was arbitrated in Singapore because Article 18 of the RERA stated that the RERA is governed by Singapore laws and any disputes regarding the RERA shall be arbitrated at the Singapore International Arbitration Centre.

After the termination, Loob started its Tealive bubble tea business. Out of 165 Chatime franchisees, 161 Chatime franchisees in Malaysia “converted” into Tealive.

Pending the disposal of Singapore Arbitral Proceedings, La Kaffa and Loob filed applications for interim injunctions under s 11(1) of the Arbitration Act 2005 and/or inherent jurisdiction of the Court in the High Court of Kuala Lumpur.

La Kaffa sought orders for, among others, an interim injunction to restrain Loob, its directors (including their spouses and immediate family members) and employees from, among others, carrying on business which is identical or similar to the Chatime Franchise business.

What is an Interim Injunction?

The important point here to note is the interim injunction.

I will focus on La Kaffa’s interim injunction only as Loob’s interim injunction in its counterclaim was only to restrain La Kaffa from interfering with its business.

The purpose of the interim injunction is to restrain Loob and its related parties from carrying on business which is identical or similar to the Chatime Franchise. This would include running the Tealive bubble tea business.

If the Court grants the interim injunction, it would last until the disposal of the Singapore Arbitral Proceeding. La Kaffa did not ask for a perpetual injunction to restrain Loob from operating the Tealive bubble tea business.

The High Court held that it does not decide on the merits of the dispute which should only be decided by the arbitral tribunal as agreed by the parties. The High Court held that it would only need to decide if the interim injunction would support, assist, aid or facilitate the Singapore Arbitral Proceedings.

And to decide whether the interim injunction would support, assist, aid or facilitate the Singapore Arbitral Proceedings, the Court would need to determine if there is any bona fide and serious question to be tried in respect of the plaintiff’s cause of action against the defendant; and if so:

– whether damages constitute an adequate remedy for the plaintiff; and
– if damages do not constitute an adequate remedy for the plaintiff, whether the “balance of convenience” lies in favour of the granting or refusal of an interim restraining injunction.

In other words, the Court would need to balance the rights of the parties to determine if Tealive should close down pending the completion of the Singapore Arbitral Proceedings.

Should Tealive close down?

La Kaffa says that it should because of our franchise laws and Article 15 of the RERA.

Pursuant to s. 27 of the Franchise Act 1998 (FA 1998), a franchisee shall give a written guarantee to the franchisor that the franchisee including its directors, the spouses and immediate family of the directors, and his employees shall not carry on any other business similar to the franchised business during the franchise term and for two years after the expiration or earlier termination of the franchise agreement.

In brief, La Kaffa argued that s. 27 of the FA 1998 requires Loob and its directors (including their spouses and immediate family members) and employees from, among others, carrying on business which is identical or similar to Chatime Franchise business e.g Tealive.

S. 27 FA provides the following:

Prohibition against similar business

27(1) A franchisee shall give a written guarantee to a franchisor that the franchisee, including its directors, the spouses and immediate family of the directors, and his employees shall not carry on any other business similar to the franchised business operated by the franchisee during the franchise term and for two years after the expiration or earlier termination of the franchise agreement.

(2) The franchisee, including its directors, the spouses and immediate family of the directors, and his employees shall comply with the terms of the written guarantee given under subsection (1).

(3) A person who fails to comply with subsection (1) or (2) commits an offence.

Article 15 of the RERA provides the following:

Article 15. Forbidden to Engage in Competition

I. Forbidden during the term of Agreement. Unless otherwise consented by the Parties in advance and in writing during the term of this Agreement, either Party, including their managers, employees, shareholders, subsidiaries or parent companies shall not in the Territory, directly or indirectly by itself through agents, engage in any commercial activities that are identical or similar to those done in the Franchised Stores.

II. The Parties agree that the commercial or business activities being done in the affiliate stores of the MASTER FRANCHISEE, including their managers, employees, shareholders, subsidiaries, or parent companies at the time of the execution of this Agreement would not be deemed to be identical or similar to those done in the Franchised Stores if the said activities do not form part of the core business or are complimentary to the core business of the affiliated stores.

III. Application scope. The Parties hereby consent that the aforesaid sub-articles (I) and (II) shall be applied to prevent the FRANCHISOR and the MASTER FRANCHISEE from engaging in unfair competition in breach of this Agreement.

IV. Default compensation. In the event any Party (Defaulting Party) violates this Article, the Defaulting Party shall pay the other Party (Non-Defaulting Party) a sum of US$10,000.00 as punitive penalty for each violation. All gains derive from the violation by the Defaulting Party shall also be paid to the Non-Defaulting Party as compensation and the Defaulting Party shall stop the competing activities immediately.

V. Validity of the provisions of this Agreement. This Article 15 shall survive the invalidity, expiration or termination of this Agreement.

In brief, Article 15(1) of the RERA prohibits La Kaffa and Loob from engaging in competing business during the term of the RERA.

What happened in the High Court?

As some of you may know, the case was first fought in the High Court. La Kaffa could not stop Tealive from operating.

The High Court held that it could not close Tealive down because the provision of s. 27 of the FA 1998 was not incorporated into the RERA and Loob and its related parties did not give a written undertaking to cease business for two years. Therefore, the High Court was of the view that there is no bona fide and serious issue to be tried as to whether Loob had breached s. 27 of the FA 1998.

Some may ask why the Court did not order the closure since it is clear that s. 27 of the FA 1998 requires Loob and its related parties to operate an identical or similar business as Chatime for two years.

The High Court was of the view that Tealive do not need to close down because Loob did not promise to close down after the termination of the RERA. The High Court Judicial Commissioner Wong Kian Kheong (as then he was) was of the view that the issue before the Court was whether La Kaffa is entitled to an interim injunction so that it can be used to support, assist, aid or facilitate the Singapore Arbitral Proceedings.

Based on my understanding of the grounds of judgment, the learned Judicial Commissioner was of the view that the action before him was not the forum for him to decide whether there was a breach of s. 27 of the FA.

Further, a breach of s. 27 of the FA amounts to a criminal offence. If it is a criminal offence, criminal action would need to be taken by the Government and it would need to go through a criminal trial to find liability. In a criminal trial, the burden of proof is beyond reasonable doubt as opposed to a balance of balance of probabilities in a civil case.

In addition, the learned Judicial Commissioner held that La Kaffa had been guilty of inequitable conduct. One of the inequitable conducts committed by La Kaffa was that it had sent a notice to “shopping mall owners” which stated, among others, all the agreements between Loob and the shopping mall owners regarding Chatime franchise business “shall be null and void”.

What happened in the Court of Appeal?

The Court of Appeal had a different view and overturned the High Court’s decision.

In granting overturning the High Court’s decision, the Court of Appeal held that:

– A simple construction of Article 15 of the RERA as well as s. 27 of FA 1998 will demonstrate that there is an obligation for Loob not to compete with La Kaffa’s business even after the termination of the RERA;
– In light of Article 15 of the RERA and s. 27 of FA 1998, the High Court ought not to have refused the prohibitory injunction. When parties have agreed not to do certain acts and a statute also provides for such protection, the court is obliged to give effect to ensure the salient terms of the agreement as well as the statute is not breached.

The Court of Appeal found it unjustifiable for the High Court to rely that the Tealive bubble tea business consisting of 161 outlets and the livelihood of 800 employees will be affected. The conduct of Loob on the face of record is not only in breach of legal obligation related to restraint of trade but also breach of franchise law which does not encourage criminal or tortious conduct of business, goodwill.

Therefore, the Court of Appeal held that the failure to grant the prohibitory injunction was flawed which requires appellate intervention.

What happened after that?

Loob thereafter filed an application to the Court of Appeal to stay (suspend) the Court of Appeal’s order for an injunction, among others, pending the disposal of the application for leave to appeal to the Federal Court. However, the Court of Appeal, on a majority decision of 2-1, dismissed the application for stay.

It is unknown why Tealive stores did not close its doors after the stay of execution application was dismissed by the Court of Appeal. My guess is that La Kaffa was not enforcing the interim injunction. If Tealive closes down but Loob succeeds in the Federal Court, La Kaffa would be liable to pay damages for the profit Loob could have made during the closure and other forms of damages. This is because La Kaffa had given an undertaking as to damages for all loss suffered by the Loob as a result of the interim injunction. Such damages could amount to millions of Ringgit.

What now?

Fortunately for Loob, the application for stay of execution was granted by the Federal Court on 16 July 2018. Loob has filed an application for leave to appeal (permission to appeal) to the Federal Court. The Federal Court will only hear limited type of cases and in civil cases, the Federal Court will hear cases involving a question of general principle decided for the first time or a question of importance upon which further argument and a decision of the Federal Court would be to public advantage, among others.

If the Federal Court refuses leave for Loob to appeal to the Federal Court or dismisses the appeal, Tealive will need to close down until the disposal of the Singapore Arbitral Proceedings.


First published on Digital News Asia on 17 July 2018

Postscript [30 August 2018]: Parties have come to an agreement in resolution of their disputes, in which the decision has also been made to stop all court or any other enforcement action against each other.

Download:-
1. High Court Judgement
2. Court of Appeal
2.1 Appeal Proper
2.2 Stay of Execution
2.2.1. Majority Judgement
2.2.2 Minority Judgment

Can a franchise agreement be executed before the registration of the franchise in Malaysia?

In a recent High Court case, the Court held that a licence agreement can qualify as a franchise agreement and a licensor cannot offer to sell or provide a franchise until his franchise is registered in Malaysia.

Munafya Sdn Bhd v Profquaz Sdn Bhd

The Defendant operates an Islamic education system or syllabus for preschool children under the name Children Islamic Center (CIC). CIC is a franchise registered with the Ministry of Domestic Trade, Cooperative and Consumerism (“MDTCC”) and also with the Ministry of Education (“MoE”) (collectively referred as the “Ministries”).

Before the said registrations with Ministries, the Defendant entered into a licence agreement granting the Plaintiff the right to operate the CIC.

After the necessary preparation was done, the Plaintiff discovered that CIC was not registered with the Private Education Division of the MoE. The Plaintiff demand proof of registration but the Defendant failed to do so. However, the Defendant subsequently took steps to register CIC with the Ministries. Before the grant of the registrations, the Plaintiff terminated the agreement and demanded for, among others, a refund of RM35,000.

In allowing the Plaintiff’s claim, the High Court held that, among others:-

1. Notwithstanding that the agreement is in essence a licence agreement and the word “franchise” is not pleaded, the Malaysian Franchise Act 1998 is applicable. Under s. 6(1) of the said act, a franchisor shall register his franchise with the Franchise Registrar before he can make an offer to sell the franchise to any person.

2. In view that the Defendant had failed to register its CIC franchise with the Ministries before the signing of the licence agreement, the Defendant cannot offer or give the CIC licence to the Plaintiff. Therefore, the Plaintiff’s termination is not premature.

Date of Coming into Operation of the Franchise (Amendment) Act 2012

The Malaysian Ministry of Domestic Trade, Co-operatives and Consumerism has appointed 1 January 2013 as the date on which the Franchise (Amendment) Act 2012 comes into operation.

For a write up on the changes to the Malaysian Franchise Act 1998, please see our article “Amendment to the Malaysian Franchise Act 1998

Amendment to the Malaysian Franchise Act 1998

The new Franchise (Amendment) Bill 2012 (“Bill“) was tabled in the Malaysian Parliament in June 2012. At the time of writing, the Bill is not in force. [Postscript: Franchise (Amendment) Act 2012 is in operation as of 1-1-2013 [P.U. (B) 387/2012]]

The Bill amends the Malaysian Franchise Act 1998 (“Act“) to ensure that the Act is consistent and up-to-date with current development of franchise business in Malaysia. It would further strengthen the Act for the purpose of proper administration and enforcement of franchise law in Malaysia.

The amendments amend the Act substantially. In brief, the amendment:-

(1) expands the scope of the law to cover franchise transaction which is concluded outside Malaysia and operated within Malaysia.

(2) introduces new offences and increases fines.

(3) introduces new power to the Registrar of Franchise (“Registrar”).

We will highlight some notable amendments to the Act.

1. Definition of Franchise

The amendment seeks to strengthen the definition of “franchise” by eliminating the elements of franchise which are not crucial to define franchise business. The word ‘franchise’ is now defined as:-

 “franchise” means a contract or an agreement, either expressed or implied, whether oral or written, between two or more persons by which—

(a) the franchisor grants to the franchisee the right to operate a business according to the franchise system as determined by the franchisor during a term to be determined by the franchisor;

(b) the franchisor grants to the franchisee the right to use a mark, or a trade secret, or any confidential information or intellectual property, owned by the franchisor or relating to the franchisor, and includes a situation where the franchisor, who is the registered user of, or is licensed by another person to use, any intellectual property, grants such right that he possesses to permit the franchisee to use the intellectual property;

(c) the franchisor possesses the right to administer continuous control during the franchise term over the franchisee’s business operations in accordance with the franchise system; and

(d) in return for the grant of rights, the franchisee may be required to pay a fee or other form of consideration.

2. Amendments to the Requirements for Registration of Franchise

Previously a franchisor is only required to register the franchise before they make an offer to sell it. With the new amendment, a franchisor must also register his franchise before he can operate a franchise business.

If the franchiser fails to do so, he commits an offence and shall, on conviction, be liable—

(a) if such person is a body corporate, to a fine not exceeding RM250,000, and for a second or subsequent offence, to a fine not exceeding RM500, 000; or

(b) if such person is not a body corporate, to a fine not exceeding RM100,000 or to imprisonment for a term not exceeding 1 year or to both,

and for a second or subsequent offence, to a fine not exceeding RM250,000 or to imprisonment for a term not exceeding 3 years or to both.

Further, the newly introduced Sections 6a and 6b will make it compulsory for any franchisee of a local franchisor or local master franchisee and any franchisee of a foreign franchisor to register with the Registrar before commencing the franchise business.

In addition, a franchisee who has been granted a franchise from a local franchisor or local master franchisee shall register the franchise with the Registrar within 14 days from the date of signing of the agreement between the franchisor and franchisee.

3. Power to the Registrar to cancel registration of franchise business

The Registrar may cancel the registration of the franchise from the register if he is satisfied that—

(a) the franchisor has failed to submit his annual report to the Registrar as stipulated under section 16 for the duration of five years continuously;

(b) the franchisor is insolvent; or

(c) the franchisor is no longer granting rights under the franchise.

4. Amendment to Disclosure Documents

Franchisors will be required to file an application to get approval from the Registrar if there are any material changes to the disclosure document. It is an offence is the franchisor fails to do so.

The scope of the compulsory practice to submit disclosure documents 10 days before the franchisee signs the franchise agreement is also expended.

Franchisors must submit to the franchisee any amendments to the disclosure documents 10 days before the franchisee signs the agreement with the franchisor or after the disclosure documents is approved by the Registrar, whichever is applicable.

5. Annual Report

Franchisor is now given more time to submit its annual report to the Registrar which is from 30 days from the anniversary date of the registration to 6 months from the end of each financial year of the franchise business. This is in tandem with the practice of companies regulated under Companies act 1965. It also seeks to make it an offence for any person who breaches this provision.

6. Payment of Franchise fee, etc

Section 19 of the Act is amended to further clarify the obligation of the franchisor to state in writing in the disclosure documents, in the event that the franchisor requires any payment from the franchisee before signing of the franchise agreement.

7. Prohibition against similar business

The scope of prohibition against similar business provided under the section 26 of the Act is widened to cover guarantee by a franchisee including its directors, spouses and immediate family of directors, and his employees to prohibit them from disclosing confidential information.

8. Conduct of parties

A new obligation is imposed in addition to the obligations in section 29 of the Act.

The franchisee shall operate the business separately from the franchisor, and the relationship of the franchisee with the franchisor shall not at anytime be regarded as a partnership, service contract or agency.

9. New termination rights

The new section 31 states that a franchisee cannot terminate a franchise agreement before the expiration date except for good cause. Previously such obligation only binds a franchisor.

“Good cause” now includes the ground of “bankrupt and insolvent”.

10. Extension of franchise term

The new section 34 imposes on the franchisee, at his option, apply for an extension of the franchise term by giving a written notice to the franchisor not less than six months prior to the expiration of the franchise term.

11. Offence of holding out as a franchise

Section 37a introduces the offence of holding out as a franchise.

A person who assumes or uses in relation to its business, the term “franchise” or any of its derivatives or any other words indicating the carrying on of a franchise business, including the use of the word “franchise” or any abbreviation thereof as part of the name or title in documents, agreements, books, advertisements or publications, without approval of registration by the Registrar commits an offence.

Such person shall, on conviction, be liable—

(a) if such person is a body corporate, to a fine not exceeding RM250,000, and for a second or subsequent offence, to a fine not exceeding RM500,000; or

(b) if such person is not a body corporate, to a fine not exceeding RM100,000 or to imprisonment for a term not exceeding 1 year or to both, and for a second or subsequent, offence to a fine not exceeding RM250,000 or to imprisonment for a term not exceeding 3 years or to both.

12. Increase in general penalty

The penalty for the offence where no penalty is expressly will be increased.

If such person is a body corporate, to a fine of not less than RM10, 000 and not more than RM50,000, and for a second or subsequent offence, to a fine of not less than RM20,000 and not more than RM100, 000.

If such person is not a body corporate, to a fine of not less than RM5, 000 and not more than RM25,000 or to imprisonment for a term not exceeding 6 months, and for a second or subsequent offence, to a fine of not less than RM10,000 and not more than RM50,000 or to imprisonment for a term not exceeding 1 year.

13. Increase in penalty for offence prescribed by Regulations

The maximum fine and imprisonment for contravention of regulations prescribed by the regulations made under the Act are increased to RM50,000 and 5 years respectively.

Download [Franchise (Amendment) Bill 2012]

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