Economic duress and franchising: when does a threat not to enter into a contract amount to economic duress?
In the recent case of Times Travel (UK) Limited v Pakistan International Airlines Corporation, the Court of Appeal considered whether a threat not to enter a contract could amount to economic duress, holding that this would not be the case unless the threat was made in bad faith.
This decision clarifies the scope of economic duress and this article consider these issues in the context of franchising. Franchise renewals often contain terms which can seem unfair, such as an obligation to pay renewal fees, a waiver of existing claims and an obligation to enter into the franchisor's then current standard franchise agreement. A franchisee will feel they have no option other than to acquiesce and enter into the renewal agreement in order to secure their business for the renewal term.
Duress arises when a party is induced to enter into a contract by threats or illegitimate pressure. Where a contract has been entered into as a result of duress the contract is voidable. Economic duress refers specifically to economic pressure, such as a threat to terminate a contract.
Times Travel (TT) are a travel agency that predominately sell plane tickets between the UK and Pakistan to the Pakistani community in and around Birmingham.
TT was appointed as an agent for Pakistan International Airlines Corporation (PIAC) in 2009, with PIAC giving them authorisation to sell their tickets. PIAC were, at the time, the only airline operating direct flights between the UK and Pakistan.
In September 2012, PIAC gave notice to TT terminating the contract and reducing TT's fortnightly ticket allocation from 300 to 60.
PIAC subsequently offered TT a new contract, conditional on TT waiving any existing claims to any unpaid commission.
However, the fortnightly ticket allocation was also to be restored, which was crucial to TT's business. TT consequently accepted the terms of the new contract.
In 2014, TT brought a claim against PIAC in order to recover the unpaid commission under the 2009 contract, claiming that the waiver in the 2012 had been consented to as a result of economic duress.
TT was successful at first instance; the court found that this did amount to economic duress and held that TT could avoid the 2012 contract, awarding them some of the unpaid commission. PIAC appealed the decision.
The Court of Appeal relied on a number of authorities including CTN Cash and Carry Limited v Gallagher Ltd, in which it was noted that lawful act duress would be difficult to establish in a commercial context, particularly if the defendant is acting in good faith. The court confirmed that the doctrine of lawful act duress would not extend to lawful pressure, if the defendant believes they are acting in good faith, regardless of whether this belief is reasonably held.
Illegitimate pressure must be proved in order for there to be a successful claim in economic duress, which is often easier to prove if the defendant is threatening an unlawful act. In this case, PIAC threatened not to enter the contract unless TT accepted the new terms of the 2012 contract, which was lawful. Crucially, no evidence of bad faith on the part of PIAC was found by the court and PIAC had genuinely believed that they could legitimately use waivers in this way.
PIAC had used their position as a monopoly supplier of flight tickets from the UK to Pakistan to apply economic pressure. The court followed the common law position which has historically rejected that use of a monopoly position is grounds for a contract to be set aside. The court therefore held that it would not be appropriate for them to extend economic duress to this situation.
What does this mean for franchising?
This is a useful decision on the parameters of economic duress, which is rarely examined in the appellate court. The case confirms the high threshold for proving economic duress and is likely to be received positively by franchisors.
Renewal clauses in most well drafted franchise agreements will contain the following conditions, and all for good reasons:
- An obligation to pay some form of renewal fee, which is typically calculated against the franchisor's costs in managing the renewal process. It is important that franchisors cover the costs managing the contractual estate.
- An obligation to waive any existing claims which a franchisee may have against its franchisor. If the parties are looking to renew a relationship for a further 5 years (or possibly more), they should do so with a "clean slate" and without the spectre of litigation.
- For premises based franchises, an obligation to refurbish and modernise premises. For obvious reasons, stores need to be refreshed to reflect the current brand standards.
- An obligation to enter into the franchisor's then current standard franchise agreement. Much can change over the course of long-term agreement, particularly in relation to changes in law and operational/system changes. Franchisor's should use renewal as a means of ensuring that there is as much consistency as possible across the contractual estate, which in turns leads to more efficient policing and management of the network.
All of these conditions are justifiable and, used appropriately, benefit the network as a whole.
However, these conditions are open to abuse, and there is where we can see how the risk of a claim of economic duress could creep in. For example:
- What if the renewal fee is high and bears little relation to actual costs incurred? Whilst not legally binding, the British Franchise Association's ("BFA") Guide to the Code of Ethics discourages "the charging of renewal fees if used as a method unfairly of imposing a financial burden at a time when the franchisee may be in a vulnerable position".
- What if the franchisee has a legitimate claim or grievance against the franchisor and the franchisor seeks to use renewal as a means of achieving absolution? Is a franchisor really acting in good faith if this is its primary objective?
- Similar to point 1, what if the refurbishment costs are disproportionately high when set against the renewal term and franchisees ability to see a return on its investment? The BFA's Guide to the Code of Ethics states that "the overriding objective [of renewal] is to ensure that the franchisee has the opportunity to recover their franchise specific initial and subsequent investments and to exploit the franchised business for as long as the contract persists".
- Finally, what if the proposed renewal agreement is substantially different from the franchisee's existing agreement? The bigger the differences, the harder the justification, and this could lead to claims not just of economic duress but also "derogation of grant" if the renewal diverges materially from the proposition that the franchisee invested in originally. Again, the BFA's Guide to the Code of Ethics states the renewal should not impose "unreasonable conditions to create barriers which may renewal less attractive than it fairly should be".
Franchisees should be aware that in light of this decision it will not be easy to claim economic duress in relation to renewal conditions which it agreed to when it entered into the franchise agreement. This underscores the importance of taking legal advice prior to entering into franchise agreements and renewals.
Whilst the decision provides useful and comforting guidance for franchisors, it should also serve as a reminder to review contractual terms and processes and ensure that they are both robust and fair, as there is a fine line between protecting the integrity of the network and abusing a position of power.
Co-authored by Rachel Bowley