Ipsofactoj.com: International Cases [2003] Part 5 Case 14 [PC]


THE PRIVY COUNCIL

Coram

Dymocks Franchise

Systems (NSW) Pty Ltd

- vs -

Bilgola Enterpreises Ltd

LORD HUTTON

LORD BROWNE-WILKINSON

LORD HOBHOUSE OF WOODBOROUGH

LORD RODGER OF EARLFERRY

SIR MALCOLM PILL

7 OCTOBER 2002


Judgment

Lord Browne-Wilkinson

(delivered the judgment of the Board)

  1. This appeal relates to franchises to sell books at three stores in New Zealand granted by the appellants to the respondents. The case is complicated but in general terms the appellants contend that the respondents breached the franchise agreements in a manner which justified the appellants summarily terminating them.  The respondents contend that there was no justification for such summary termination by the appellants which, conversely, was itself a repudiation by the appellants.  After a trial lasting some seven weeks and in a judgment running to 66 printed pages Hammond J held in favour of the appellants that the summary termination was justified: see Dymocks Franchise Systems (NSW) Pty Ltd v Bilgola Enterprises Ltd (1999) 8 TCLR 612[a].  On appeal, the Court of Appeal (Richardson P, Henry and Keith JJ) reversed that decision and held that the appellants not the respondents had repudiated the franchises.  Unfortunately, much turns in this appeal on the detailed facts and the procedural history.  It is therefore necessary for their Lordships to set out the facts at some length.

    BACKGROUND

  2. The Dymock group of companies is a long established retail bookseller in Australia.  During the 1980s it started to operate a franchising system through the appellant company, Dymocks Franchise Systems (NSW) Pty Ltd ("Dymocks"). Initially, all the franchises were in Australia.  But in 1994 Dymocks expanded its franchising operation to New Zealand.

  3. Dymocks entered into three franchise agreements with the respondents, Mr and Mrs Todd and their companies Bilgola Enterprises Ltd and Lambton Quay Books Ltd (together called "the Todds").  The first, dated 24th May 1994, was for a "flagship" store in a new development at the Atrium on Elliott in Auckland.  Dymocks had acquired the right to extensive premises in the new development under an entry package provided by the developers to the value of NZ$1 million plus GST of NZ$125,00.  Mr Todd who was then middle aged had spent his life in banking and investment management in Australia.  He had no previous retailing experience.  Under the Atrium agreement he was granted the non-exclusive right to carry on retailing trade in books in the name and as part of the Dymock Group for five years with a right to renew for a further five years.  The Todds also entered into a five year lease of the Atrium premises with a right to renew for a further five years.  When opened, the Atrium was the first bookstore in Auckland to be trading exclusively in the premium sector of the market. 

  4. The first two years of trading at the Atrium were successful. Both Dymocks and the Todds became interested in expanding the enterprise and on 7th November 1996 the Todds entered into a further franchise agreement with Dymocks relating to premises at Newmarket.  On 18th December 1996 the Todds were granted a further franchise relating to premises at Lambton Quay, Wellington.

  5. In addition to the three franchises granted to the Todds Dymocks granted a limited number of other New Zealand franchises to other parties.  However, at the material times, the three Todd franchises together were responsible for approximately 70% of Dymocks turnover in New Zealand. 

    THE AGREEMENTS

  6. The contractual documents in this case are very long and in some respects complicated.  Each of the Todd franchises is regulated by a formal contract extending to over 50 pages which incorporates as part of the contractual documents Dymocks’ Confidential Operations Manual running to a further 250 pages. The Operations Manual is a hotchpotch document dealing with a wide range of different topics stretching from the laying down of mandatory contractual requirements for forfeiture at one end to detailed provisions covering every aspect of running the book-selling shop and business down to the state of the premises, the way in which they are to be presented and so on.  The Operations Manual is expressly incorporated into each of the contractual documents by clause 11H of the franchise agreement.  All three agreements regulating each of the three stores are in, for practical purposes, identical terms. 

  7. In the light of the way the case has developed and the view which their Lordships take of it, it is not necessary to set out all the provisions of the agreements in detail.  After providing for the grant of the franchise and the right of renewal, the agreement by clause 3 imposed certain duties on the franchisor which are not material.  Clause 4A and B provide for the payment by the Todds to Dymocks of an initial franchise fee and thereafter a monthly franchise fee.  Clause 4C requires further payments, being the Todds’ contribution to a fund to defray group advertising and other promotional costs.  Clause 4c(f) contains an agreement by the Todds "to participate in all sales and promotional activities as the Franchisor may reasonably require ....". Clause 5 contained a number of covenants by the Todds as to the conduct of their business.  Clause 5(A) restricted Todds to selling only authorised products.  Clause 5B contained a covenant to maintain the business "in compliance with the DYMOCKS Image prescribed .... in the Confidential Operations Manual".  Clause 5G contained a covenant to maintain absolute confidentiality as to the Dymocks system.  Clauses 5P and Q contained covenants by Todds not to compete for two years after termination of the agreement or expiration of the term.

  8. Clause 9 is important since it contains very full and detailed provisions governing termination of the agreement by the parties.  Clause 9C regulates termination by the franchisor.  Under clause 9C(b) the franchisor is given power to terminate the agreement forthwith upon delivery of written notice of termination to the franchisee if the franchisee permits the acts thereafter set out, which acts shall be treated as fundamental breaches of this Agreement.  Clause 9c(b)(6) provides power to terminate if the franchisee "repeatedly and consistently fails to pay any amount due hereunder including the franchise fee on its due date": clause 9c(b)(6).  Clause 9C(b)(32) provides for termination by notice if the franchisee "engages in any conduct which impairs or reasonably may impair the goodwill associated with the operation or reputation of the franchise business or of the franchisor's reputation, trade names, service marks, logo types or other commercial symbols".

  9. Clause 9H provides:

    In the event that the franchise is terminated for any reason, or expires through the effluxion of time or non renewal the franchisor shall have the right (but not the obligation) .... to purchase all, or part of, the franchisee’s physical assets used in the franchise, to take over some or all equipment leases and to take over the lease of the premises.  There shall be no compensation for goodwill or leasehold improvements.  The purchase price for such assets shall be the fair market value provided however that all stock shall be valued at cost price less the Dymocks rate of stock depreciation as specified in the Confidential Operations Manual.

  10. Clause 10G in the Newmarket and Wellington franchise agreement provides:

    The franchisee must not during the term of this Agreement (otherwise than in accordance with clause 10B) or within 3 months from the date of termination or expiration of this Agreement, enter into any agreement, arrangement or understanding with any person, firm or company under which or as a direct or indirect consequence of which, a person, firm or company acquires the right or is given assistance to carry on business as a retail bookseller in the premises or within the area referred to in clause 5Q.

  11. Clause 11D provides that Todds will not, on the grounds of an alleged non performance by the franchisor of any of its obligations or for any other reason, withhold payment of any amount due whatsoever

  12. Clause 11L provides that the governing law is the law of New South Wales. 

    THE OPERATIONS MANUAL

  13. As has been said, the Operations Manual forms part of the contractual documents.  Its provisions are far too long and detailed to summarise satisfactorily.  But there are two types of provision in the Operations Manual which are directly relevant to the present case. 

    • First, there are provisions showing the nature of the franchise relationship which the parties agree to operate.

    • Secondly, there are express provisions limiting the right of the Dymocks as franchisor to terminate for breach of contractual terms.

  14. As to the first type of provisions, the manual at the outset states the objectives for Dymocks and its franchise owners including the following provisions:

    To create a national chain of book stores with an identical image.

    To ensure that all Dymocks Stores project a uniform image, staff attitude and shopping atmosphere.

    To ensure the right stock is in the right place, at the right time, in the right quantity, at the right price. 

    To maintain national image advertising.

    To improve our purchasing power with suppliers in terms of extra gross margin, promotional support, rebates and return rights etc.  (emphasis supplied) ....

    To have a harmonious and mutually profitable relationship between all Dymocks franchise owners and between all Dymocks franchise owners and Dymocks head office.

    To maintain a team spirit and commitment to service, reliability and the need to satisfy the customer.

    To be a champion team and not a team of champions.

    Need for team spirit is emphasised throughout.  Thus the mantras "a champion team not a team of champions" and "we share one name, we play one game" appear at the top and the bottom of every page of the manual.  The desirability of joining in group purchases to obtain the highest rebates is stressed.  Under the heading "Group Purchase Orders Head Office" it is stated:

    You will note that as part of the operation of the franchise system you are obliged to support group buys and that Dymocks is authorised to place orders on your behalf for your share of these purchases as part of the above mentioned blanket order.  In the majority of cases we will request your feedback in advance prior to the finalisation of such a group buy but this may not be possible in all cases ....

  15. As a final example of the emphasis on group activity there is the following passage:

    Always keep in mind that both your and our success is dependent on the combined strength, cohesion and profitability of all stores.  We must be a united team, we must be seen as a team, we must act as a team and we must be the best team. Any franchise owner who attempts to become too independent, and who ignores our uniform procedures, image, staff attitude and shopping atmosphere, and who does not participate in group buying deals will not only adversely affect his/her own store, but will also detrimentally affect every other store in the chain.

  16. It is clear both as a matter of commercial common sense and from the contractual provisions of the manual that one of the great advantages of franchise trading was that a larger group, if coherent and disciplined in its activities, is a more powerful market unit than each of the franchisees individually and that accordingly a refusal to conform to the norms of group behaviour is damaging not only to Dymocks as the franchisor but also to all the franchisees, including those wholly independent of the Todds. In a non-technical sense the franchisor and all the franchisees are engaged in a joint venture.

  17. The second element in the manual is that it appears in some places to modify the terms of the main agreement.  Clause 9 of the main agreement provides for summary termination of the franchise in the event of the specified breaches, some of which are of minor importance.  However, the manual provides:

    If we believe you have gone beyond the constraints of our Franchise Agreement we will give you fair notice, verbally and in writing, before resorting to legal action and every opportunity will be given to you to rectify the matter.  Some of the significant areas of infringement which could give rise to the termination of the Franchise Agreement are [and then certain specific instances are mentioned.]

  18. The manual also incorporates the Franchisor’s Association of Australia Code of Ethics which provides, inter alia, that "fairness shall characterise all dealings between a franchisor and its franchisees. To the extent reasonably appropriate under the circumstances, a franchisor shall to give notice to its franchisee of any contractual breach and grant reasonable time to remedy default".

    THE FACTS

    (APART FROM THE BLUE STAR AFFAIR AND THE NON-PAYMENT OF FRANCHISE FEES)

  19. 19.      There are two separate matters which render a clear exposition of the facts difficult.  First, a central issue in the case relates to certain negotiations between the Todds and Blue Star Consumer Retailing Ltd ("Blue Star").  Blue Star was the main competitor of Dymocks in the New Zealand market and the negotiations took place unknown to Dymocks between November 1997 and early 1998.  They related to a possible joint venture between the Todds and Blue Star ("the Blue Star affair"). Because these negotiations were covert and concealed by Mr Todd from Dymocks, the facts concerning them did not become known to Dymocks until after they had determined the contracts with the Todds on other grounds.  Indeed the facts did not emerge until very late in the trial and their late appearance influenced both the pleadings and the way in which the case was fought before the judge.  It is therefore convenient to present the facts first as they were known to the parties at the time and then subsequently take account of the Blue Star affair if necessary to see  how it affects the legality of Dymocks’ action.

  20. The second matter to be excluded from the general statement of facts relates to the failure by the Todds to pay the franchise fee due in January 1998.  For reasons which were not explained at the hearing before their Lordships, the facts relating to such non-payment are not referred to in the judgments in either of the courts below nor is there any consideration of the legal effect of such non-payment.  In order to understand the judgments below it is better first to set out the facts as apparently they were understood by the courts below and then to state separately the facts relating to the unpaid franchise fees.

  21. As has been said, the Todds’ trading for the first two years was reasonably successful.  However by late 1996 the results of the Atrium store were falling off.  There was a difference of opinion as to the reason for this.  Dymocks thought it was due to inefficient management by the Todds involving the payment of seriously excessive costs.  The Todds on the other hand attributed the fall off to a failure by Dymocks to achieve a "critical mass" of Dymock shops in consequence of which the Dymocks franchise was unable to secure large enough discounts from suppliers.  The Todds further considered that Dymocks had failed to build up quickly enough to prevent another chain of "premium" bookshops establishing itself. 

  22. The position was not eased by the relationship between Mr John Todd (who de facto controlled the policy and operation of the Todds) and Mr Robin Arthur (Dymocks’ general manager (operations) in New Zealand).  The judge found that personal conflicts between them had a distinct bearing on the way matters unfolded.  He started the history of the matter, 8 TCLR 612, 624 by quoting a memorandum from Mr Arthur to Mr Todd in June 1997 which gives the flavour: speaking of the Atrium sales performance Mr Arthur said:

    The day to day, nuts and bolts principles of detailed, retail management and selling are simply not being followed. Your senior managers are hopelessly store blind, unmotivated and working without any fizz or sense of urgency. .... Basic key areas such as merchandising and presentation are visually awful.

  23. The  judge then proceeded to state the facts from June 1997 onwards omitting all reference to the Blue Star affair and the non-payment of the franchise fees.  His findings of fact at ps 637-642 were as follows:

    [151]

    Mr Todd was the New Zealand franchisee representative.  There was to be a franchise owners regional meeting on 30 November 1997.  Mr Todd prepared and circulated an agenda on 12 November 1997. It included, as items 3 and 4, the following:

    3.

    Trading issues:

    -

    NZ economy & retailing

    -

    Regional differences

    -

    Dominant competitor's (Blue Star) decision to create premium brand throughout New Zealand

    -

    Difficulties of further improvements to trading terms with NZ publishers - current terms are still well short of Australian terms and conditions.

    4.

    Expansion plans for Dymocks' NZ network - timing and location. What are the key factors inhibiting growth - sites; investors; economic conditions; other factors?

    [152]

    Then, on 21 November 1997, Mr Todd wrote to Mr Perkin, the managing director of Dymocks, in Sydney, at some length.  He noted that it was just over 2 years since the decision had been made to expand from a one store to a three store operation.  He said that his company had always maintained that the success of the Dymocks operation in New Zealand was ‘reliant on the establishment of a significant chain of stores throughout the country to bring about benefits comparable to those enjoyed by Dymocks stores in Australia and our major competitors in the New Zealand market’.

    [153]

    I interpolate here that the Todds' enterprises had by now reached a critical point. Mr Todd told me in chief that:

    We had been trading for 3½ years and had expanded from a one store to a three store operation.  We had invested some $2.5m.  The 'Bennetts' stores were about to be launched in New Zealand, Dymocks appeared to have no future plans for the New Zealand market, the Queens Wharf store had closed, and there was a prospect that international booksellers, such as Borders, would be coming into New Zealand.  At that time, Borders was entering the Australian market and I presumed that it would not be long before they would be opening in New Zealand.  In fact they are now in discussions with the owners of the Civic Theatre redevelopment in Queen Street not far from my Atrium store.  I had just received my year end accounts.  Neither I nor Price Waterhouse could now see strong growth in our market and certainly not growth along the lines that had been projected by Dymocks.   The purpose of the letter was to put our situation in a proper context. We were in constant contact with Price Waterhouse and knew how our businesses were performing or, rather, were not performing.

    [154]

    Mr Todd's letter of 21 November to Mr Perkin concluded:

    The inescapable conclusion of this analysis is that the current situation has to end now.  Our financial advisers, Price Waterhouse, warn us of the need to act quickly to correct the situation, otherwise the position will move beyond redemption.

    We consider that we have been poorly served by the Dymocks' franchise arrangement through lack of real support from the franchisor.  We have never generated returns to the level represented to us by the franchisor and we see little hope of the promised representation of Dymocks' outlets in New Zealand reaching the 20 to 25 outlets needed to give the franchise the critical operational mass it currently lacks.  In light of this position we deem that your duty to us through representations made have not been met and that Dymocks has responsibility for past performance and position we currently find ourselves in.

    We consider the future of Dymocks and its franchises in New Zealand is bleak.  Lack of real support of the franchise in the market by Dymocks, both physical and financial, along with our assessment of the future, lead us to this conclusion.

    We need to resolve the issues raised in this letter quickly and, hopefully, without the need to resort to other remedies.

    [155]

    There is a dispute whether the letter was sent or later tabled.  I think nothing turns on that.  It is common ground that Mr Todd in fact flew to Sydney on 24 November 1997 with his general manager, Mr Roy Younge; that the letter was then available to Mr Perkin; and that Mr Perkin and Mr Todd discussed it.

    [156]

    Mr Perkin's recollection of the meeting is that the only option Mr Todd was interested in putting to Dymocks ‘was a suggestion that Mr Todd take his business out of the franchise agreements and operate his stores as independent book stores’.  Mr Perkin said he could not entertain that option, and that other options should be explored.

    [157]

    On 25 November 1997 Mr Todd wrote to Mr Perkin in the following terms:

    Thank you for giving Roy and me the time yesterday morning to discuss the critical issues affecting our future and the future of the Dymocks Group in New Zealand.

    Most of the problems are outlined in more detail in our letter of 21 November spring from the lack of critical mass of Dymocks in New Zealand.  The upshot is that Dymocks has not been able to deliver on representations made regarding turnover, profitability and a wide range of services currently enjoyed by franchisees in Australia.  The consequence of this situation is that we have suffered large losses in our first three years of operating after paying very substantial sums to Dymocks.

    Our severe dissatisfaction with Dymocks Franchise Systems in New Zealand has brought us to the point where we feel the relationship is over. Our solution to the problem is to take the business out of the franchise agreement.

    Your solution was for us to work together to add value to our business operations and you promised to come back to us within a week with an outline of what Dymocks could offer us to resolve our financial dilemma.  We look forward to looking at your proposals on this matter next week.

    We are wanting to come to a speedy and amicable settlement of this matter and we look forward to receiving your suggestions by close of business on Monday 1 December.

    [158]

    Mr Perkin sent a facsimile letter to Mr Todd on 27 November 1997, confirming that there was no possibility that Dymocks would consider Mr Todd ‘taking the business out of the franchise agreement’.  He said, ‘we genuinely believe there is value in the existing franchise arrangement and want to work with you to optimise the value you receive’.  He said he would communicate with Mr Todd ‘next week’.

    [159]

    Mr Perkin sent a facsimile on 4 December 1997 responding in detail to Mr Todd's financial concerns.  He suggested a ‘full review of your operations in both Atrium and Newmarket covering, but not limited to, .... stock to sales ratios, inventory value analysis, inventory term analysis, assessment of stock condition and merchandising, competitor evaluation, assessment of demographics and match to store, assessment of staff scheduling and effectiveness, review of store operation, task definition, morale and communication’.  It was intimated that this review would be undertaken in conjunction with Mr Arthur; that a full written report would be prepared and made available to Mr Todd; that such an exercise would take about 10 days; and it was suggested that the review should be undertaken during January 1998.

    [160]

    Mr Todd was asked to respond by 12 December.  A cashflow analysis for 1 December 1997 to 30 November 1998 was also requested for both the Auckland stores.

    [161]

    Mr Todd claims to have been ‘astounded’ by Mr Perkin's response.  He sent a reply by facsimile on 5 December 1997, suggesting that in fact there already had been a review using external professional consultants (Price Waterhouse) ‘in conjunction with our own in-house expertise’.  He then replied in detail to some of Mr Perkin's points.  He suggested that his concerns had been ‘swept aside with a few evasive comments’ and that the ‘tenor of your letter is that perfect service has been continually provided by Dymocks while the problems that our business faces are entirely of my own making’.  Mr Todd suggested there were only three options available to his enterprise - to exit the franchise agreements; to retain the franchise agreements but withdraw the franchise fees; or, for Mr Todd to acquire the New Zealand franchise rights for Dymocks.

    [162]

    There was then a telephone discussion between Mr Perkin and Mr Todd on 9 December 1997.  Mr Perkin sought a copy of Price Waterhouse's analysis of Mr Todd's business. Mr Todd wrote again to Mr Perkin on 12 December 1997 and said that providing the details ‘was simply avoiding the heart of the matter and delaying us addressing the specific issues’.

    [163]

    Mr Todd again went to Sydney on 18 December 1997 to meet Mr Perkin and Mr Allen.  He initiated the meeting. Mr Todd's position was that the operational audit, which Dymocks was still suggesting, ‘would not address the critical mass point’.  And I accept that Mr Todd said that Dymocks could come in and carry out a review, but that given Christmas and the January sales, the proposed timing was not suitable, and that some other time would have to be sorted out.

    [164]

    By now, relations between the parties were very tense.  Mr Arthur had become suspicious, from trade sources, that Mr Todd had talked to the Blue Star group (although he had not reported this to his head office in Sydney).  He thought that Mr Todd was ‘dangerous’ to the Dymocks network, that he had no loyalty to the Dymocks brand or to his fellow franchisees, and he said quite plainly in evidence before me that his personal view was that ‘it [was] important that Mr Todd [be] removed from the Dymocks business’.

    [165]

    Mr Todd closed out 1997 by writing to Dymocks on 31 December 1997.  The letter is six pages long.  It again sets out the Todds' concerns.  Mr Todd said: ‘In reality, our respective views of this matter are still poles apart. Your view is that the position will be corrected with relatively minor procedural adjustments to our business that will arise out of the Dymocks operational audit.  Our position is that this matter, including the Dymocks system in New Zealand, is fundamentally flawed’.  Again, claims of misrepresentation were made.  The letter concluded:

    These matters require your urgent and serious consideration and, I believe, cannot wait until an operational audit is completed.  We will be making our final decision as to the course we will be forced to take on 20 January 1998 if we have not satisfactorily reached another agreement in the meantime.

    Without prejudice, we are prepared to discuss various ways of attaining an orderly change over from Dymocks to an independent operation.  We look forward to your early reply.

    [166]

    On 13 January 1998 Mr Todd received a lengthy (ten page) letter from Mr Perkin.  The letter made it plain that Dymocks would not ‘under any circumstances’ permit Mr Todd's companies to carry on business as independent operators.  Mr Perkin confirmed that access had initially been denied to the business ‘but I am pleased that you have now changed your mind’.  The claims of misrepresentation and breaches of the agreement by Dymocks were all rejected.

    [167]

    Very significantly, in my view, Mr Perkin stated: ‘I have no objection to your discussing your perceived complaints with other franchise owners as (i) I do not believe that they will agree with you; and (ii) you may learn something from the manner in which they conduct their successful businesses’ (italics added).  I interpolate here to say that this was a response to a comment from Mr Todd that he had refrained, to this point, from contacting other franchisees in New Zealand about the issues which had arisen.

    [168]

    Mr Todd then had his solicitors write to Dymocks, on 27 January 1998, seeking a review of the feasibility of the business (as opposed to a management audit) so as to avoid the collapse of the stores.

    [169]

    By now, Mr Todd had spoken (informally) with other franchisees.  He had received varying responses.  It is plain, on the evidence, that the other New Zealand franchisees were thoroughly alarmed at the situation which had arisen between the Todds and Dymocks.

    [170]

    It is in this context then, that on 3 February 1998 Mr Todd sent a facsimile to all the other New Zealand franchisees.  Notwithstanding the length of the document, given its centrality to the litigation, it is appropriate that I set the facsimile out in full.

    ‘As mentioned in our recent telephone conversation, I have had a lengthy dispute with Dymocks over representations made at the time of entering into franchise agreements still not being fulfilled.  After three and a half years, these misrepresentations focus on projected profitability and anticipated market presence of Dymocks in New Zealand.

    In basic terms, the non-delivery of Dymocks services has meant that our supplier discounts are no better than those available to other independent booksellers in New Zealand and, frequently, not as good as can be achieved by a number of independent buying groups.  Clearly, discounts fall well short of those received by the major groups players in the book trade (eg Blue Star, Paper Plus).  In addition, the relatively small size of Dymocks severely limits our ability to generate special deals with publishers (the recent issue with the new John Grisham title is a case in point where we would have had to buy four to five months stock for the additional discount and, given the cost of holding that stock, the deal did not make economic sense).  Furthermore, Dymocks do not receive anywhere near the same generous advertising and promotional subsidies from publishers which are granted to our competitors.  Following the latest developments announced by Blue Star for its upmarket book chain, Bennetts Books, proposing the establishment of up to 20 to 25 stores in this country, the growth prospects for Dymocks in New Zealand, both for sales through existing stores and in establishing new stores, are now heavily constrained, if not downright non-existent.

    What is quite apparent is that the Dymocks name in New Zealand does not put franchise owners on the same footing as our major competitors with publishers, so that the effect on profitability is two-fold, namely:

    1.

    Publisher discounts and subsidies are significantly smaller than those of our competitors, resulting in a relatively smaller gross profit which handicaps our ability to compete; and

    2.

    Payment of substantial franchise fees each month which confer no perceptible competitive benefit erode, or eliminate, net profit (or increase the size of monthly losses) and thus our ability to build up reserves (goodwill, etc) in our business, a vital factor in being able to meet the stronger competition in the New Zealand market expected over the next few years.

    This huge impost on profitability is certainly affecting the on going viability of my own business. Not only does it mean that earnings fall well short of projected Dymocks representations, they also do not meet ‘reasonable rate of return’ criteria. Consequently, I cannot justify my existing investment, let alone consider putting in additional funds to meet the competitive threat which will be posed by Bennetts Booksellers.  Quite simply, we would be better off just putting our money in the bank and living off the interest.

    Given that some of you have also experienced similar difficulties from the failure of Dymocks to deliver promised services, the following course of action would seem to be appropriate:

    1.

    I will no longer participate in any Dymocks activities until the dispute is resolved;

    2.

    As Dymocks franchise owners, we should get together in the near future to discuss common problems and objectives.  Towards this end, and at the invitation of Dymocks to talk the various issues over with you, I am sending copies of recent correspondence between Dymocks and myself to you under separate cover.

    The failure of Dymocks to deliver on core services seriously jeopardises the livelihood of us all, and I believe that we must take urgent action now rather than delay these matters further.  After all, it is our capital which is being put at risk by the failure of Dymocks to deliver on representations and to reach the critical mass necessary to ensure the ongoing viability of the Dymocks name in New Zealand.  It is my considered view that Dymocks now has no future in this country because current franchise arrangements will do nothing other than ensure we will eventually all go broke.  Opportunities to consolidate the name while the main opposition was in hiatus over the past few years have been lost and cannot be recovered except with huge capital expenditure which, again, cannot be justified under current arrangements.

    Please advise me your comments etc asap and suggested dates and venue for a meeting.  It goes without saying that these matters must be treated with the strictest confidentiality.

    Please send any facsimile messages on No (09) 366 2097, which is a private facsimile in my office.  I will be back in the office on Wednesday morning.

    [171]

    Mr Todd's facsimile was passed on immediately to head office by a franchisee.  Mr Forsyth, Mr Perkin, and other senior management and their legal advisers met, as a matter of urgency.  The facsimile was seen as an act of treason, and an incitement to the other franchisees to revolt against Dymocks.

    [172]

    Even after this passage of time, the language used in evidence by Dymocks' senior officers to describe their reaction to the receipt of the facsimile was revealing. Before me, Mr Forsyth spoke of Mr Todd ‘thrusting a dagger into the heart of the system’, ‘an absolutely terrible thing .... to do’; of Mr Todd ‘inciting rebellion within the franchise group’; of Dymocks needing to ‘cut out a cancer within the system [to survive]’; of the ‘very heavy straw .... that broke the camel's back’.  He said, ‘if someone was stabbing you in the heart, would you negotiate with them?’ and ‘we wanted to stop the rot’.  And he said, ‘we had been struck and we had only one thing to do and that was to get rid of the attacker or repel the attack, if we didn't do that we would be derelict in our duty’.

    [173]

    Mr Forsyth confirmed that there was no discussion of the possibility of giving notice to Mr Todd to modify his position, or of making further inquiries of him, and that there was no discussion of steps along those lines, as per the Operations Manual.

    [174]

    Mr Perkin's language was not quite so strong.  He did however, suggest that, ‘the facsimile of 3 February struck right to the core of the franchise agreement and clearly indicated Todd no longer wanted to work within the franchise system’.  He thought the expression ‘Dymocks now has no future’ was ‘tantamount to inciting the other franchise owners to revolt against the system’.  He said, in response to a question in cross-examination (as to ‘what exactly Mr Todd's crime [was]’) that ‘the crime was actually that [Mr Todd said] Dymocks had no future in this country’.

    On 9th February 1998 Dymocks served formal notices on the Todds terminating the three franchise agreements inter alia on the grounds:

    1.

    breaches of clause 9C(b)(32) by sending the fax of 3rd February 1998 to the co-franchisees;

    2.

    failure to operate the business in accordance with the manual by failing to do certain things required by the manual, most of which were minor but included refusing to participate in group buying;

    3.

    that the Todds had repudiated the Agreements by, inter alia, sending the fax of 3rd February 1998.

  24. On 13th February 1998 the Todds responded by alleging that the notices of termination themselves constituted repudiation by Dymocks and accepting such repudiation.  Shortly thereafter these proceedings were started.  There were two actions.  The first was brought by the Todds alleging that they had been induced to enter into the franchise agreements by misrepresentation.  Shortly thereafter the second action (the termination action) was brought by Dymocks seeking declarations that Dymocks were entitled to terminate the agreements, to exercise the options to take over the business assets and to enforce the restrictive covenants against the Todds.  The Todds counterclaimed in the termination action claiming damages for repudiation by Dymocks.

    THE BLUE STAR AFFAIR

  25. Blue Star conducted the largest book selling business in New Zealand although hitherto it had not traded in the premium end of the market.  It was rumoured at this time that it was about to enter the premium book sector.  On 8th September 1997 Mr Todd and his general manager went to a meeting with the chairman of Blue Star who raised the possibility of a joint venture with the Todds.  The judge accepted TCLR 612, 648 that Mr Todds’ reaction was that he was not free to enter such a venture because of his obligations to Dymocks.  However there was a further meeting on the 14th November 1997 at which a joint venture was again discussed between Mr Todd and Mr Ferrand of Blue Star but the proposal was described as "speculative" until the Todds could obtain a release from their agreement with Dymocks.  The judge at p 648 found it difficult to understand, in those circumstances, how Mr Todd came to go to a further meeting with Mr Ferrand.  At that further meeting Mr Ferrand produced a draft confidentiality agreement previously prepared which was signed by both Dymocks and Blue Star.  It recited that the parties had agreed to disclose information (described as being "of a secret and confidential nature .... of commercial value to the party providing this information") and to "explore the various advantages of the parties entering into a joint venture agreement". It restricted the use of the information to the purposes for which it was provided.  Mr Todd then provided an analysis of key performance indicators for the Atrium, Newmarket and Lambton Quay stores; sales figures for the stores; gross margins; some information on set up costs; employment costs; fees information; and the consolidated statement of the financial position of Bilgola as at 30th September 1997.  It is not clear when discussions between the Todds and Blue Star ended.  Amongst the papers produced by Mr Ferrand under subpoena were sale figures for the three stores for the months November and December 1997 and January 1998.

  26. The judge found at p 650 that the information disclosed was commercially valuable to Blue Star.  He stigmatised the whole episode as "consorting with the enemy" and said:

    There can be no question that the Todds were, by this action, being fearfully disloyal to Dymocks.  And, Mr Todd knew that very well.  His efforts to conceal these clandestine talks – even from his own solicitors for a time – right down to this trial, speaks volumes for his own appreciation of what had occurred .... However innocently the matter may have started out, [Mr Todd] was soon directly exploring the full possibilities of consorting with the enemy.

  27. The full information relating to the Blue Star affair was only obtained by Dymocks during the course of the hearing by requiring Mr Ferrand on subpoena to give evidence and produce the documents. 

    FRANCHISE FEES

  28. As has been said, the judge gives no account of the facts relating to the non-payment of franchise fees.  However the position is clearly demonstrated by the correspondence.

  29. In the long letter of 31st December 1997 to which the judge referred, Mr Todd said that "another option" to redress the wrongs he alleges resulted from Dymocks’ misrepresentations would be to stop paying the franchise fees.  This letter was not fully answered by Dymocks until 13th January 1998 but there had been developments in the meantime.

  30. On 12th January 1998 Mr Todd sent a fax to Dymocks as follows:

    Tomorrow, payment of franchise fees and advertising levy for December 1997 are due ....

    We have not yet received any response to our fax of 31st December 1997 but, our discussions and correspondence over recent weeks regarding the extraordinarily high cost/low value of DFS services, lead us to believe that a reassessment of the amounts we pay in fees would be forthcoming soon.

    Given that we are now due to pay another very large sum of money to DFS for no value-added in return, please advise by fax tomorrow as to when we could expect a relief program to be put in place.  In my view, it would be much more equitable for all franchise fees and other levies to be placed in an interest-bearing escrow account until the matter is satisfactorily resolved.  What are your views on this matter?

    The response was immediate.  On the same day, 12th January, Dymocks sent a fax to Mr Todd saying that a response to his fax of 31st December would be forwarded to him shortly and continued:

    We disagree that recent correspondence indicates that franchise fees will be reassessed. 

    We look forward to receiving the franchise fees tomorrow as required.

  31. On 13th January the Todds did not pay the fees to Dymocks. It appears that the fees, were paid into an escrow account with the Todds’ solicitors.  In a fax letter dated 13th January (but actually sent by courier on 14th January) Dymocks responded at length to the Todds’ letter of 31st December 1997.  In the course of that letter and immediately after the passage referred to by the learned judge 8 TCLR 612, 640 indicating that there was no objection to Mr Todd discussing his complaints with the other franchise owners occurs the following paragraph:

    With reference to your threats:

    (1)

    if you stop paying franchise fees, we will terminate your Franchise Agreements and exercise our rights under those agreements.  We see no reason to place any fees in escrow as suggested in your fax dated 12 January 1998;

    ....

    (3)

     

    if you take action against us, we will defend that action and counterclaim against you for damages for breach of the Franchise Agreements.

  32. On 9th February Dymocks sent to Todds a statutory demand requiring payment of the unpaid franchise fees within 15 days. On 9th February Dymocks also faxed a letter to the Todds enclosing a notice of termination of their franchise agreement on the ground inter alia of failure to pay all sums due within 30 days as required by clause 9D. The fees were not paid until, as part of a compromise regulating the interlocutory position pending trial of the actions, they were paid to Dymocks together with the fees for January 1998. 

  33. In the action Dymocks relied upon the non-payment of the December franchise fees and the letter of 12th January 1998 as particulars of repudiation of the franchise agreement by the Todds.

    THE JUDGE'S DECISION

  34. The Todds’ claim to rescind the agreements for misrepresentation was rejected by the judge whose decision was upheld by the Court of Appeal.  Their decisions have not been challenged before their Lordships.  The termination action was fought throughout with great elaboration and proliferation of issues.  As to the termination action, the judge started at p 629 by considering broadly the extent to which a duty of good faith in franchise contracts was recognised in North American law, Australian law and the common law generally.  He held at p 630 that Australian law, at least to some extent, was developing conceptions of good faith.  After these prefatory remarks on good faith the judge turned at p 631 to consider the termination by Dymocks on the grounds of specific breaches of contract alleged in the notice of the termination.  He held at p 632 that Dymocks could not summarily terminate the contracts without notice on those grounds for two reasons.  First, the passage from the Operation Manual quoted above required notice to be given and second, on the expert evidence the law of New South Wales required in a case such as this that powers of termination be exercised in good faith i.e. reasonably.

  35. Having reached that conclusion the judge seems to have been of the view that he had disposed of all Dymocks’ claims save the claim based on breach of an obligation of good faith based on the Blue Star affair.  He said at p 634:

    [132]

    Strictly speaking it is not necessary for this court, in view of my holdings that notice of intention to terminate, and an opportunity to address whatever was then raised, have not in fact been given, to consider whether there were in fact breaches, and whether they were sufficiently serious to warrant termination (other, of course, than with respect to the Blue Star dealings).  However, a very significant amount of time was taken up at the trial on these issues.  I think it as well to indicate at least my conclusions of fact on these matters, without traversing the evidence in that higher degree of detail which I might otherwise have felt to be appropriate.

  36. The judge therefore in the passages that follow was not aiming to give a comprehensive decision on all matters and this may account for the absence of reference to the non-payment of franchise fees. 

  37. In his findings of fact he first dealt at p 635 with breaches of the requirements of the manual as to the conduct of the book stores.  He did not decide whether there had been such breaches but said that in any event they were not sufficiently serious to warrant termination.  The judge then considered at p 636 termination on the grounds set out in clause 9C(b)(32) – conduct impairing good will.  The conduct relied on included the sending of the fax dated 3rd February to the franchisees and the Blue Star affair.  He held at p 643 that the fax of 3rd February even read in context was not "of a character or quality that amounted to a breach under the pleaded provisions of the agreement .... justifying summary termination". His decision on this point was upheld by the Court of Appeal [2000] 3 NZLR 169.

  38. Next the judge 8 TCLR 612, 644 considered the claim based on repudiation.  He held, on the evidence, that the law of New South Wales on anticipatory breach was the normal common law rule.  He said at p 645 there had to be a "sufficiently serious refusal by the Todds to perform the franchise agreement" and continued:

    [194]

    On the facts, I think Dymocks’ argument must fail.  Plainly, Mr Todd wanted to avoid the Dymocks agreement.  He took advice.  It is a reasonable inference from the evidence (which I draw) that he had been advised that he could not do so, without coming to terms with Dymocks.  He was perfectly entitled to put the propositions he did to Dymocks, and he plainly desired that outcome. But to want to bring about a particular result, is not to bring it about.  As I see it, what Mr Todd did (without appreciating its significance) in the 3 February facsimile, could more correctly be described as ‘suspending’ his stores’ participation in the Dymocks operation.  Mr Todd’s exact words were ‘I will no longer participate in any Dymocks activities until the dispute is resolved’.  The analogy is more like a ‘strike’, to force the issues.

    [195]

    Mr Asher said this went too far – it evinced an intention not to be bound.  He could perhaps have argued, (but did not) that the common law does not generally recognise a ‘suspension’ of contractual obligations.  But I think the real difficulty in this case is that Mr Todd used very ambiguous language.  Just what was he saying in the facsimile?  That he would not perform at all?  That he would not pay franchise fees? Or what?

    The Court of Appeal also upheld the judge on this point. 

  39. Finally, on liability, the judge considered that the Blue Star affair provided grounds for the termination.  Due to Mr Todds’ disreputable cover up of his dealings with Blue Star, the full facts were not extracted until well into the trial.  Mr Asher for Dymocks, in response to a query in his closing speech whether he was relying upon implied obligations of "good faith and confidentiality", replied that he was.  The argument continued on that basis.  In his judgment the judge gave leave to make the necessary amendments to the pleadings and the statement of claim was amended to allege that the Todds "breached implied obligations of confidentiality". However the statement of claim as amended made no general allegation of a duty of good faith on the Todds.

  40. The judge then held as follows at ps 652-653:

    [236]

    What then, is the casts [sic] of any implied obligation of confidentiality which was owed by Mr Todd?  For reasons already given, in my view - and it is one of the reasons for having dwelt at some length on the nature of the franchisor/franchisee relationship earlier in this judgment - the relationship between franchisor and franchisee is not merely a simple bilateral contract.  It is a relational contract in which a working, ongoing, relationship is set up for the mutual benefit of both parties.  And, from an economic point of view, what is central is the joint maximisation of economic benefits.  Both parties are to work in good faith to that end.  It involves no violence, or undue extension to the law, to say that as part of that overall duty of good faith a franchisee must not (inappropriately) disclose even that own franchisee's information.  Conceptually this is no different than the obligation of good faith which exists between certain employers and employees, as a subset of which implied obligations of confidence are recognised.

  41. The judge then went on to hold at p 653 that this breach of the implied duty of confidentiality inherent in the franchise was such as to justify summary termination of the franchise agreement.  To sum up, Dymocks’ claims to terminate the franchise agreement before the judge failed on all points save one, namely the judge’s finding of a breach of an implied obligation of good faith in the franchise agreement.

  42. The judge held at p 656 that the option in clause 9H was not void as constituting a penalty but was enforceable by Dymocks. He further held at p 658 that the provision in clause 5P of the agreement restraining the Todds from trading within a specified area was valid.  He directed at p 660 an enquiry as to the damages suffered by Dymocks. 

  43. After the judgment at first instance, Hammond J refused a stay of execution.  In May 1999 Dymocks took over the three stores, their leases and the stock at prices fixed by clause 9H of the agreement.

    THE COURT OF APPEAL DECISION

  44. The Todds appealed to the Court of Appeal [2000] 3 NZLR 169.  Their appeal on the misrepresentation action was dismissed.  In the termination action, the Court of Appeal upheld the judge’s decision on all points  save the one on which the judge had held in Dymocks’ favour i.e. the Court of Appeal held the judge had erred in holding that there was in New South Wales law an obligation of good faith and confidentially implied in the franchise agreements.  Accordingly, the appeal was allowed since Dymocks by giving notice of termination had themselves wrongfully repudiated the agreements.  The case was remitted to the High Court to assess the damages to be paid by Dymocks to the Todds. The Court of Appeal upheld the judge’s decision that both the option and the restraint of trade were valid.

    THE ISSUES ON THE APPEAL

  45. On the appeal, Dymocks as appellants contend that the judge’s decision in their favour should be restored.  They relied on a number of different grounds, all of which were contested by the Todds, viz:

    1. Clause 10G: Dymocks contended that, contrary to the decision of the judge and the Court of Appeal, the Blue Star affair constituted a breach by the Todds of their express obligations under this clause not to enter into any agreement, arrangement or understanding under which another is given assistance to carry on business.  At first instance, the judge did not directly deal with this issue.  However the Court of  Appeal held that there was no breach for a number of different reasons.  Since, as will appear, their Lordships propose to allow the appeal on other grounds, it is unnecessary to address this point;

    2. Good faith and confidentiality: Dymocks contend that the judge’s decision on this point should be restored and the Court of Appeal’s view rejected.  Although their Lordships do not find it necessary to reach any final conclusion on this issue, it will be necessary to address certain points relied on by the Court of Appeal. 

    3. Repudiation: Dymocks contend that both the judge and the Court of Appeal were in error in deciding that Todds had not repudiated the franchise agreements.  It is on this ground that their Lordships propose to allow the appeal for the reasons given hereafter.

    4. Clause 9C(b)(32): Dymocks submit that Todds should be held in breach of this clause by reason that their conduct impaired the goodwill of Dymocks.  Since their Lordships propose to allow the appeal on other grounds it will not be necessary to deal with this issue.

  46. The Todds have cross-appealed against the decision of the judge and the Court of Appeal that the covenant in clause 5P restraining trading by the Todds and the option to Dymocks to purchase are valid.

    THE GOOD FAITH ISSUE

  47. It has been common ground throughout that the law governing this case is, as clause 11L provides, the law of New South Wales.  It follows that the question whether the contract by implication contains an obligation of good faith or whether there is such an obligation arising from the relationship of franchisor/franchisee is a matter of New South Wales law.  The difficulty in this case is to determine whether the judge had before him sufficient evidence of New South Wales law to justify his finding of such an obligation of good faith in this case.

  48. The issue of good faith first arose in relation to Dymocks’ reliance on breaches of contract as grounds for summary termination of the franchise agreements.  From the outset the Todds alleged that, whether or not there were breaches of contract, there was an obligation of good faith in the agreements under which Dymocks could only use its powers of termination reasonably.  The Todds’ allegation of a general duty of good faith was denied by Dymocks on the pleadings.  Therefore up until the final amendment of the statement of claim it was the Todds who were alleging duties of good faith in the exercise of contractual powers of determination and Dymocks who were denying the existence of any such duty.

  49. It was on the pleadings as they stood before the full facts of the Blue Star affair had emerged, that the three distinguished experts on New South Wales law gave evidence.  Mr. Bathurst QC (called by Dymocks) said that there was no general obligation of good faith in such a case.  Sir Laurence Street (also called by Dymocks) whilst prepared to contemplate a duty to act fairly in the exercise of contractual powers of termination was not prepared  to accept that any wider duty of good faith had yet been established in New South Wales law but that such principles were developing. 

  50. It was on the basis of such evidence and the evidence of Professor John Carter that the judge held that, under the law of New South Wales, a power to terminate had to be exercised reasonably.  However, at the time that evidence was given the facts of the Blue Star affair had not emerged fully and Dymocks’ case had not been put on the basis that the dealings between the Todds and Blue Star were in breach of a general duty of good faith or confidentiality in the franchise agreements.  Once the Blue Star facts had emerged, not surprisingly Dymocks sought to rely on a requirement of good faith in the franchise agreements. But the experts were not recalled to give evidence.  Apparently counsel for both parties told the judge that he was just as able to read and apply the relevant authorities as the experts in New South Wales law.  On that basis the judge made widespread findings as to the requirements of good faith in the New South Wales law of contract affecting this case. 

  51. It was on that ground that the Court of Appeal reversed the judge’s decision on this issue of good faith.  Dymocks had submitted that the course taken by the judge was authorised by section 40 of the Evidence Act 1908 which provides:

    40.

    Certain law books may be referred to as evidence of laws

    Printed books purporting to contain statutes, Ordinances, or other written laws in force in any country although not purporting to have been printed or published by authority as aforesaid, books purporting to contain reports of decisions of courts or judges in such country, and textbooks treating of the laws of such country, may be referred to by all Courts and persons acting judicially for the purpose of ascertaining the laws in force in such country; but such courts or persons shall not be bound to accept or act on the statements in any such books as evidence of such laws.

  52. The Court of Appeal said at p 176:

    This is not an appropriate case to embark on a detailed examination of the scope of section 40 and the use to which the material referred to can be put by a court.  Its relevance arose only in the course of argument in this court, with particular reference to the finding that Dymocks had lawfully cancelled the agreements for breach by Bilgola of an implied term of confidentiality, an issue to which we will return later.  Suffice it to say that in a case such as the present, the proper course is to rely on expert testimony, which can be assessed by a consideration of the bases proferred to support the opinion in question.  Section 40 does not appear to permit a judge to decide a question of foreign law from his or her own studies or research, nor to engage in the development of existing and established law of another state.

  53. It is not clear to their Lordships whether the Court of Appeal were saying that section 40 did not give the judge jurisdiction to decide questions of foreign law in the absence of evidence from witnesses who were experts in that law or that, although the judge would have such jurisdiction, it was in the circumstances of the present case a wrong procedure to adopt.  Their Lordships wish to make it clear that, in their view, the main purpose of section 40 is to give the judge power to decide questions of foreign law in the absence of other expert evidence.  Section 39 of the Evidence Act 1908 is directed to obviating the need for formal proof of written laws etc.  Section 40, on the other hand, states that such materials may (not must) be looked at for the purpose of ascertaining the laws in force in such country.  If that is the purpose of looking at the foreign sources it must be the necessary conclusion that the judge can ascertain and find the law.  Their Lordships were told that, since the matter arose in the course of argument, the relevant authorities were not drawn to the attention of the Court of Appeal.  That position has been remedied before their Lordships.  Cross On Evidence, New Zealand edition 1999, supports the view expressed above as does the New Zealand decision SHC v O’Brien [1991] 3 PRNZ 1 and the New South Wales decision Temilkovski v Australian Iron & Steel Pty Ltd [1966] 1 NSWR 279. 

  54. On the other hand their Lordships are in complete agreement with the Court of Appeal that this was an unsuitable case for a judge to seek to ascertain foreign law without the assistance of expert testimony.

    • First, throughout the common law world it is a matter of controversy to what extent obligations of good faith are to be found in contractual relationships.

    • Second, as has been demonstrated, the pleading position in the present case was obscure, Dymocks pleading that there was an obligation of good faith implied into the contract in relation to the Blue Star affair but no such obligation on Dymocks in exercising its contractual right of termination.

    • Third, the expert evidence before the judge had been directed to the only issue before the court at the time it was given i.e. good faith in exercising a power of termination.  It emerged from the experts’ evidence that such a limited obligation of good faith is much more clearly established in the law of New South Wales than any wider general good faith obligation.

    • Fourth, the expert evidence shows that the legal analysis of an implied obligation of good faith in New South Wales is far from clear.  Is it based on an implication of fact on the principles variously known as the principles in BP Refinery (Westernport) Pty Ltd v Shire of Hastings (1977) 180 CLR 266 or The Moorcock (1889) 14 PD 64.  If so, it has to be shown that such implication is necessary for the performance of the contract and, like any other contractual implication cannot be inconsistent with the express provisions of the contract.  Although the judge was fully entitled to make the implication of the need for good faith in the exercise of powers of termination (there being no inconsistent express terms) an implication of such a term generally on the Moorcock basis would have been at best extremely difficult since the contracts contain many express terms dealing with such matters.  If, on the other hand, the alleged duty of good faith was based on an implication in law arising from the nature of the agreement, at the time the case was before the judge the law of Australia (like the law of many other common law jurisdictions) was in an uncertain and contentious state.  If the judge was to choose between the two views, he undoubtedly needed to hear the evidence of the experts directed specifically to the point.

  55. Since the decision of the learned judge there have been further decisions in Australia, particularly that of the Court of Appeal of New South Wales in Burger King Corporation v Hungry Jack’s Pty Ltd [2001] NSWCA 187.  In that case a franchise agreement was apparently treated as being a contract of a kind which by operation of law gives rise to a general duty of good faith.  However, even after this decision, in further affidavits giving evidence of New South Wales law put before their Lordships, the experts are not agreed.  Mr Bathurst QC and Sir Laurence Street consider that such an implication of good faith into franchise agreements is now established.  Professor Carter, the distinguished contract lawyer, disagrees.  He says: In my opinion, Australian law has not yet reached the stage where it can be said that all contracts (or all franchise contracts) contain a term – implied in law – subjecting the parties to a duty to exercise good faith in the performance of their obligations.

  56. Their Lordships therefore agree with the Court of Appeal that the judge erred in the exercise of his discretion in seeking to determine this difficult question of New South Wales law without proper expert evidence.  In view of the continuing disagreement between the experts as to whether or not there is an obligation of good faith in a case such as the present, their Lordships also prefer the course of prudence and do not seek to answer the question since there is some other proper ground on which the appeal can be decided. 

  57. However, before leaving this issue their Lordships wish to say a word or two about the Court of Appeal judgment on it. Although the Court of Appeal decided the point on the ground that the necessary expert evidence was not before the court, they made a number of comments suggesting that there is no room for superimposing a general duty of good faith, that to do so conflicts with requirements of certainty in commercial contracts, and that franchise agreements are not analogous to employment contracts (where duties of good faith are implicit).  These comments suggest that, in their view, the development of the law so as to make an obligation of good faith implicit in the relationship between franchisor and franchisee (as in the case of partnership and other joint venture agreements) is not desirable. Their Lordships propose to express no concluded view on these comments and wish to reserve their opinion on the suggestion that the implication of an obligation of good faith in the relationship between franchisor and franchisee would be an undesirable development. 

    REPUDIATION

  58. It is not in doubt that the judge directed himself correctly on the relevant law of repudiation i.e. under the law of New South Wales.  He was considering repudiation in the sense of an anticipatory breach.  He applied 8 TCLR 612, 644 the well-known dictum of Lord Blackburn in Mersey Steel & Iron Co v Naylor, Benzon & Co (1884) LR 9 App Cas 434 at page 442-443:

    where there is a contract which is to be performed in future, if one of the parties has said to the other in effect, ‘If you go on and perform your side of the contract I will not perform mine’ ...., that in effect amounts to saying, ‘I will not perform the contract.’  In that case the other party may say, ‘You have given me distinct notice that you will not perform the contract.  I will not wait until you have broken it, but I will treat you as having put an end to the contract, and if necessary I will sue you for damages, but at all events I will not go on with the contract’.

    He also correctly directed himself that a party who intends to fulfil a contract but only in a way which is inconsistent with the terms of the contract is in repudiation of that contract. 

  59. However, although directing himself correctly in law, his decision was flawed in two ways.  First, he did not consider all the relevant facts in reaching this conclusion.  Second, in holding at p 645 that Mr Todd had not repudiated the contract but merely suspended his participation the judge was failing to apply the law which he had set out correctly: a suspension of performance until the terms of the contract are changed is capable of being a repudiation.  As to the facts, the judge appears to have thought that the only, or main, repudiatory act being relied upon was the sending of the fax of 3rd February 1998 and its contents construed in the light of the circumstances leading up to the fax being sent.  Unfortunately, for unexplained reasons, he did not advert to the non-payment of franchise fees.  Even in an ordinary commercial contract, the non-payment of an instalment of the price is normally to be treated as a repudiatory act.  Certainly a statement, such as was implicit in the correspondence in this case, that neither the instalment due in January nor any later instalment of fees would be paid unless agreement to change the terms of contract had been reached indicates an intention not to comply with the terms of the contract.

  60. From the very first pleading of the statement of claim, Dymocks relied on the failure or refusal of the Todds to pay the franchise fees as a repudiation.  Their Lordships repeat that this was not just a failure to pay one month’s instalment: the letter from Mr Todd of 31st December 1997 referred to it being an "option" to stop paying franchise fees.  He reverted to this in the fax of 12th January when he says it would be equitable for all franchise fees to be placed in the interest paying credit account until the matter is satisfactorily resolved.  What he is plainly proposing is an indefinite suspension of the actual payment of the fees until some alteration of the contract terms satisfactory to the Todds has been agreed.  The Todds submitted that the payment into an escrow account was not a repudiatory act because the Todds intended to pay what was owing in due course.  But a party is not entitled to insist that he is not repudiating because he proposes to perform part of the contract in a manner not permitted by the contract. 

  61. Nor can there be any doubt of the Todds being aware of the consequences of non-payment.  The letter from Dymocks of 14th January spells out clearly Dymocks’ attitude: if you stop paying we will terminate your franchise agreement.  In their Lordships’ view, the failure at any time thereafter to pay the franchise fees in the face of this unambiguous response from Dymocks amounted in itself to a clear repudiation of the contract.  Moreover, that continuing failure to pay forms the background to Mr Todd’s fax of 3rd February.  Seen in this light, the fax, though not addressed to Dymocks, can be taken as a further indication that, as a matter of fact, Mr Todd did not intend to perform his contractual obligations.

  62. There is another aspect which is not adverted to in the judgment.  The fax of 3rd February 1998 proposes that the Todds will no longer participate in any Dymocks’ activities until the dispute is resolved.  The judge records at p 645 that counsel contended that this was an important threat in the context of a franchise agreement where co-operative efforts were fundamental to the whole venture.  However the judge appears to have brushed that point aside by saying that the language of the fax was very ambiguous.  In the same way that the actual non-payment of the franchise fees casts a flood of light on what the fax of 3rd February meant, another event also illuminated the meaning.  There was clear and unchallenged evidence from Mr Arthur that on 20th January 1998 he was told by the Todds’ senior buyer that all buying for the Todds’ stores would in future be done in-house and not with other franchisees.  In another part of his judgment at p 635 the judge refers to Todds’ refusal to join in group purchases of three specific books which he treated as being minor breaches if breaches at all.  But the judge does not refer to this much more crucial general statement of an intention not to behave as "one of the team". Even if, as the judge seems to have thought, there was no contractual obligation on the Todds to join in any particular group purchase, it was plainly inconsistent with Todds’ contractual duties to refuse to consider joining in any of them. 

  63. In their Lordships’ view that is the crux of this case.  These were not ordinary commercial contracts but contracts giving rise to long term mutual obligations in pursuance of what amounted in substance to a joint venture and therefore dependent upon co-ordinated action and co-operation.  Whether or not the agreement is such as in law to give rise to an obligation of good faith, the expressed terms of the contracts (incorporating the Operations Manual) which their Lordships have quoted imposed contractual obligations of co-operation, and contain (clause 5B) a covenant by the Todds to maintain its business in compliance with the "DYMOCKS Image prescribed .... in the Confidential Operations Manual". The manual refers to the franchisee being "obliged to support group buys". It also stresses "We must be a united team, we must be seen as a team.  We must act as a team and we must be the best team".  In their Lordships’ view a statement by a franchisee that for the future he will not participate in group activities is a fundamental breach of the basic principles underlying the contract which, however vaguely they may be expressed, the franchisee has undertaken to comply with.  On any basis the stance taken by the Todds in 1997 and 1998 was in direct conflict with the express contractual obligations by which they had undertaken to act in co-operation and as a team.

  64. The Court of Appeal upheld the judge’s decision on repudiation holding that he had construed the fax of 3rd February in a legitimate way and in its full context.  But unhappily the Court of Appeal’s decision suffers from the same defect that neither the refusal to pay over the franchise fees nor the general statement by the Todds that they would not take part in group buying were brought to their attention.

  65. Since the courts below have left out of account factual matters of great importance, their Lordships feel entitled to reverse their decision and to hold that the Todds’ conduct culminating with the fax of 3rd February constituted a repudiation of the franchise agreements by the Todds.  Dymocks were therefore entitled to terminate these agreements.

    THE OPTION TO PURCHASE

  66. The Todds contend by their cross-appeal that the option to purchase conferred on Dymocks by clause 9H is void as a penalty.  Their Lordships agree with the views of the judge and the Court of Appeal.  The matter falls to be decided in accordance with the law of New South Wales and was so decided by the judge.  In the absence of a clear misdirection by the judge as to the effect of the expert evidence it would be inappropriate for their Lordships to reverse his decision that clause 9H does not constitute a penalty under the law of New South Wales.  The Court of Appeal also held that view.  Their Lordships can see nothing in the arguments submitted on behalf of the Todds to cast doubt on those decisions.

  67. The Todds conceded that if Dymocks were not in breach of contract, the covenant restraining Todds trading was enforceable.

  68. For these reasons their Lordships will humbly advise Her Majesty that the appeal be allowed and the order of Hammond J (including his orders as to costs) be restored.  The unsuccessful respondents, the Todds, must pay the costs in the Court of Appeal and before their Lordships’ Board.


Cases

Dymocks Franchise Systems (NSW) Pty Ltd v Bilgola Enterprises Ltd (1999) 8 TCLR 612; SHC v O’Brien [1991] 3 PRNZ 1; Temilkovski v Australian Iron & Steel Pty Ltd [1966] 1 NSWR 279; BP Refinery (Westernport) Pty Ltd v Shire of Hastings (1977) 180 CLR 266; The Moorcock (1889) 14 PD 64; Burger King Corporation v Hungry Jack’s Pty Ltd [2001] NSWCA 187; Mersey Steel & Iron Co v Naylor, Benzon & Co (1884) LR 9 App Cas 434 

Legislations

Evidence Act 1908: s.39, s.40

Authors and other references

Cross On Evidence, New Zealand edition 1999

Notes:-

[a] see Bilgola Enterprises Ltd v Dymocks Franchise Systems (NSW) Pty Ltd IpsofactoJ.com: International Cases [2000] Part 5 Case 4 [NZCA]


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