Operational Disapproval
317 HJPL was operationally disapproved by BKC for further expansion on 27 November 1995. That position was not reversed until after the delivery of judgment in the court below.
318 Rolfe J found that BKC was not entitled, on the facts upon which it purported to act, to operationally disapprove HJPL. His Honour also found, for the same reasons he gave in relation to financial disapproval, that BKC did not act reasonably and in good faith in withholding operational approval. In essence, this was a finding that the withdrawal of operational approval was part of the BKC's deliberate plan to prevent HJPL expanding and to enable BKC to develop unhindered by its contractual arrangements with HJPL.
319 BKC disputes these findings. BKC submitted alternatively that even if his Honour was correct in finding that BKC was not entitled to disapprove for the reasons given in its letter of 27 November 1995, HJPL was, in any event, in breach of BKC's operational requirements so that it was entitled to act as it did: see Shepherd v Felt & Textiles of Australia Pty Ltd (1931) 45 CLR 359.
320 Operational approval was withdrawn from HJPL by Blauer, who, on the evidence, was the only person authorised to do so. Blauer did not give evidence in the proceedings.
321 In his letter of 27 November 1995 advising HJPL that they had been operationally disapproved, Blauer stated:
"Reference is made to the November 13, 1990 Development Agreement between Hungry Jack's Pty. Ltd. ("HJPL") and Burger King Corporation ("BKC"). Further reference is made to BKC's worldwide policy (the "Expansion Policy") regarding minimal operational standards necessary to expand within the system (the "Operational Expansion Criteria"), which we delivered to HJPL at the beginning of the year.
…
Pursuant to the terms of Section 4.1(a), BKC has the authority to refuse to approve any expansion by HJPL if HJPL fails to comply with the terms of a single franchise agreement. Notwithstanding this requirement, BKC has, without waiving its right to impose this standard in the future, agreed at this time to treat HJPL consistent with the less restrictive provisions of the Expansion Policy .
As you know, the Expansion Policy provides that a franchisee's eligibility for restaurant expansion in the Burger King system is dependent upon, among other things, operational performance pursuant to the terms of each franchise agreement. Pursuant to the Expansion Policy, HJPL was the subject of an operational assessment to determine its expandability in accordance with the Operational Expansion Criteria. As part of this assessment, each restaurant was categorized into one of the three groups: 'Superior', 'Satisfactory', or 'Needs Improvement'. These characterizations were based on many factors, including Franchise Manager ('FM') and Operations Trainer ('OT') visits. As you know, Terry Horowitz met with Malcolm Green early in 1995 to communicate the status of the HJPL restaurants and to work with HJPL to formulate a 'Franchise Action Plan' as provided in the Expansion Policy. The purpose of the Franchise Action Plan was to provide HJPL with input regarding actions which were required to move restaurants from the Needs Improvement category into the Satisfactory or Superior category.
As you know, [Green] originally requested less than a month to complete the Franchise Action Plan, but at the urging of Terry Horowitz the Plan was increased to a total of more than eight months, ending on November 15, 1995.
Pursuant to the Expansion Policy, each restaurant was evaluated on an ongoing basis through FM visitations, detailed OT visitations, and average Mystery Shop scores.
When the Franchise Action Plan was initiated, there were approximately 36 HJPL restaurants in the Needs Improvement category. At the end of the Franchise Action Plan, there were still a total of 31 restaurants in the Needs Improvement category. A summary of the major issues at these 31 restaurants is enclosed.
Pursuant to the Expansion Policy, a franchisee may not expand if it has more than 10% of its restaurants in the Needs Improvement category. HJPL has more than 20% of its restaurants in the Needs Improvement category and is, therefore, in violation of both the Expansion Policy and the more restrictive provisions of Section 4.1(a) of the Development Agreement. Unfortunately, this means that at this time HJPL is not approved for any further expansion." (emphasis added).
322 It is apparent from the letter, and in any event the proceedings at first instance were conducted on the basis, that the decision to disapprove was made because of HJPL's alleged non-compliance with BKC's Expansion Policy.
323 BKC submitted that Blauer's withdrawal of operational approval amounted to an exercise of its discretion under cl 4.1 of the Development Agreement. This submission was directed, first, to meeting HJPL's case, accepted by Rolfe J, that the facts necessary for BKC to exercise the discretion on the basis of non-compliance with the Expansion Policy had not been made out, and, secondly, as the basis for its alternative submission that upon the application of the principle in Shepherd v Felt & Textiles there were other facts which would have entitled it to disapprove.
324 Blauer's decision to operationally disapprove was based upon information supplied by Horowitz, BKC's franchise manager for Australia and New Zealand, as to the number of restaurants classified as "Needs Improvement". Neither Blauer nor Horowitz gave evidence in the proceedings.
325 Horowitz had prepared a schedule for each restaurant said to be in that category (the Horowitz schedules). Those schedules were attached to Blauer's letter. The schedules were dated from 27 October through to 1 November 1995 and said to be in respect of the "Needs Improvement Issues" of the particular restaurant. Except for the schedule for the restaurant at Fulham, the schedules were said to be based upon "the most recent visit" to the store in question. The date of that visit was not specified. The schedule for Fulham was stated to be a "Recap of issues in Needs Improvement Restaurants" and the date of the last visit was stated to be 24 August 1995.
326 The classification as "Needs Improvement" derived from BKC's Expansion Policy referred to by Blauer in his letter. Under the Expansion Policy, franchised restaurants were categorised as "Superior", "Satisfactory" and "Needs Improvement". The Policy set out BKC's established "guidelines for operational approval":
"if a franchisee has more than 10 restaurants, no more than 10% of a franchisees restaurants can fall within the 'Needs Improvement' category."
327 Restaurants were to be reviewed for re-categorisation on a semi-annual basis, although a restaurant could be moved to a lower level at any monthly meeting of the franchise manager and the operational trainers.
328 An essential feature of the way the Expansion Policy operated as at the date Blauer exercised his discretion was BKC's Restaurant Visitation Programme. This replaced a "question and answer audit" process which was more objective and less evaluative than the new process. The stated aim of the Visitation Programme was to ensure the continuous improvement in restaurant operations. It required regular inspections by operational trainers and the franchise manager. A target number of visits was specified for each restaurant depending upon the category into which the restaurant was placed. The target for restaurants in the "Needs Improvement" category was ten visits per year - six by an operational trainer and four by the franchise manager.
329 After each visit, if the circumstances required it, an Action Plan was to be prepared and given to the restaurant manager with a copy provided to the franchisee, in this case HJPL, within seven days.
330 Blauer, in explaining his reasons for withdrawing operational approval in the letter of 27 November 1995, stated that HJPL's restaurants had been assessed on an operational basis and the result communicated to Green in February 1995. It appears from other evidence that that assessment was made in January 1995 and a schedule prepared at that time classifying all HJPL restaurants (the January classification list). The letter went on to state that another purpose of the meeting in February 1995 was to formulate a Franchise Action Plan to enable steps to be taken to remove restaurants from the "Needs Improvement" category.
331 The Franchise Action Plan was the specified procedure for this purpose under the Expansion Policy. The Franchise Action Plan, it seems, had another purpose, namely of permitting a franchisee to expand, notwithstanding that three might be restaurants in the "Needs Improvement" category. This was also the understanding of the executives within BKC, including Power and Hothorn, as was apparent from internal communications between them in June 1995.
332 The letter of 27 November 1995 continued:
"Pursuant to the Expansion Policy, each restaurant was evaluated on an ongoing basis through FM visitations, detailed OT visitations and average Mystery Shop scores.
When the Franchise Action Plan was initiated, there were approximately 36 HJPL restaurants in the Needs Improvement category. At the end of the Franchise Action Plan there were still a total of 31 restaurants in the Needs Improvement category. A summary of the major issues at these 31 restaurants is enclosed."
333 None of these assertions was quite accurate. In the letter, Blauer expressly stated that the period of time granted to HJPL to "complete the Action Plan" was "more than 8 months". He specified the end of that period as being 15 November 1995. That might have been correct if the Franchise Action Plan was provided to HJPL in February 1995. However, although at the meeting in February Horowitz and Green agreed on a nine month time frame in which the "Needs Improvement" category would be reduced to below 10%, BKC did not provide HJPL with the Franchise Action Plan until 5 October 1995.
334 HJPL therefore only had about seven weeks in which to complete the Plan. This period was impossibly short and, for the substantial part of the nine month time frame, it deprived HJPL of the benefit of BKC's "input regarding actions which were required to move restaurants" out of the "Needs Improvement" category. As Blauer's letter said, BKC's input was the very purpose of the Franchise Action Plan.
335 There appears to be another inaccuracy in Blauer's assertion that there were 36 restaurants in the "Needs Improvement" category at the commencement of the period. Green said he was never advised, or provided with a list, of the restaurants which had been classified as "Needs Improvement". That evidence was not challenged or contradicted. Admittedly, Green was aware from time to time from discussions with his own managers that certain restaurants were in the "Needs Improvement" category. That, however, is quite different from being advised of, or provided with a list of, specified restaurants which were to be improved in accordance with a structured plan formulated by BKC. In addition, it was Green's recollection that he was told there were 27 restaurants in the "Needs Improvement" category, not 36. That accords with BKC's January 1995 classification list. Further, six of the restaurants in Horowitz's schedules were not on the January classification list, so that about 20% of the restaurants Blauer was relying on would not have been part of the Franchise Action Plan had it been provided in about February 1995. Blauer did not avert to this in his letter.
336 Blauer's letter next asserted that pursuant to the Franchise Action Plan each restaurant had been evaluated "on an ongoing basis through FM visitations, detailed OT visitations and average Mystery Shop scores". However, the evidence revealed that HJPL had scored consistently well on the Mystery Shop scores and only marginally below the worldwide average. HJPL had also scored a couple of percentage points above the Asia-Pacific average.
337 The reference to the FM and OT visitations was a reference to the Restaurant Visitation Programme. HJPL produced a schedule of visits to the 31 restaurants. The schedule is attached to the Schedule of Facts as Annexure A. That schedule demonstrates that many of the restaurants had not been visited in accordance with the "target" number of visits specified in the Restaurant Visitation Programme. In particular, of the 31 restaurants, 15 had not been visited in the three months prior to 27 November 1995. HJPL had submitted at trial and again before this Court, that this meant either that those restaurants were not in the "Needs Improvement" category or that BKC had not complied with its obligations of co-operation and good faith in carrying out the inspections in accordance with its own policy, so as to enable HJPL to continuously do what was necessary to move a particular restaurant out of the category.
338 BKC responded to this submission by emphasising that the specification of ten visits a year was expressly stated in the Programme to be the "target" number of visits only. A failure to satisfy the target, did not, on BKC's submission, have either of the two effects for which HJPL contended.
339 However, it appears that BKC required the Visitation Programme to be applied strictly. At least this is the position it took in relation to HJPL's third party franchisees. In May 1995, Honkey, HJPL's Franchise Operations Manager, was appointed as the person responsible for carrying out the visitation programme in relation to HJPL's third party franchisees. In providing instructions in relation to this role, Blauer wrote to Cowin on 10 May 1995 as follows:
"I would like this new manager to conform to the current BKC standard as it relates to the operations visitation process. This means that he must perform an expanded visitation at all restaurants at a frequency of 2, 4 or 6 times depending on the operating status of the restaurant. These visitations need to be [in] the same form used by our personnel in visitations to HJ restaurants."
340 On 14 July 1995, Blauer again wrote to Cowin:
"Our agreement is that Warren Honkey will assume the position of franchise manager immediately and begin servicing the franchisees. Warren will be responsible to perform visitations utilising Burger King Corporation's new visitation form. Warren will conduct visits under the following minimum frequency which is 2 visits for superior restaurants, 4 visits for satisfactory restaurants, and 6 visits for needs improvement restaurants."
341 It is possible that in this letter Honkey was directed to carry out a greater number of visits than specified in the Visitation Programme. However, no point about this was taken on the appeal. More importantly for present purposes, Blauer's directions were not expressed as a goal or target which he was setting. They were mandatory directions.
342 Further, given the importance BKC placed upon its Expansion Policy and the fundamental importance to HJPL of the right to expand, it follows, as we have already said, that the visitation policy required visits on a regular basis. This was, in our view, also implicit in the instructions Blauer gave to Cowin for Honkey to follow. A franchisee's position could be untenable otherwise. For example, a restaurant might be visited on a number of consecutive months, and then not visited for a period of say three months. In the ensuing three months the restaurant might be improved so as to enable it to be moved out of the "Needs Improvement" category. However, unless there was a visit proximate to the time of the re-categorisation, it would remain classified, wrongly, according to BKC's own standards, as "Needs Improvement".
343 HJPL's primary submission on this point was that it followed that as 15 of the restaurants had not been visited in the three months immediately preceding 27 November 1995, they were not, in fact, in the "Needs Improvement" category. His Honour so found. Although that is a finding of fact which was open to his Honour, we prefer to base our decision on this point on BKC's failure to comply with its own requirements, so as to be in breach of its obligation of co-operation. Alternatively, it was a breach of the implied obligation of good faith for BKC not to visit restaurants regularly and in reasonable compliance with the target number of visits, so as to enable it to obtain the benefits which were intended to be provided by the Programme. Accordingly, in our opinion, BKC was not entitled to rely on those 15 restaurants for the purposes of operational disapproval.
344 Once these 15 restaurants are removed, the percentage of restaurants in the "Needs Improvement" category falls below 20%.
345 That leads directly to BKC's alternative submission, that on the proper construction of the letter of 27 November 1995, it is apparent that Blauer had exercised his discretion on the basis that HJPL had had more than 10% of its restaurants in the "Needs Improvement" category. We do not consider that this is the proper meaning of the letter. In it, Blauer referred first to the minimum circumstance sufficient to trigger the exercise of the discretion to disapprove under the Expansion Policy - "the more than 10%" requirement - and then specified the reason which caused him to exercise his discretion, namely that HJPL had more than 20% of its restaurants in the "Needs Improvement" category:
"HJPL has more than 20% of its restaurants in the Needs Improvement category and is, therefore, in violation of … the Expansion Policy."
346 This was the construction given to the letter by the trial judge. We agree that is the proper construction.
347 BKC next submitted that even if that is the correct construction, the fact is that HJPL had, as at the date of operational disapproval, failed to comply with the minimum tolerance level specified in the Expansion Policy. Accordingly, there were facts upon which it could rely to operationally disapprove in any event. This submission depends both upon proof of such facts and upon whether the principle in Shepherd v Felt & Textiles applies to circumstances such as these.
348 The trial judge found against BKC on the factual basis necessary for BKC's submission to succeed. His Honour did so by considering whether BKC had established on the evidence that there was a proper basis for categorising four of the remaining 16 restaurants as "Needs Improvement" and found that there was not. BKC does not challenge his Honour's finding on these four restaurants. It submitted, however, that there was evidence to prove that HJPL, in fact, had more than 10% of its restaurants in that category.
349 BKC first relied upon admissions by Green, HJPL's Operations Manager, to establish that there were more than 10% of restaurants in the "Needs Improvement" category.
350 Green's admission was based on information supplied and assessments made by Horowitz in October/November 1995. Some of that information and the factual bases which were said to underlie the assessments were under challenge in the proceedings, particularly by Honkey's detailed analysis of the restaurants alleged by Horowitz in October 1995 to be in the "Needs Improvement" category. Honkey's evidence on these matters was not met by BKC with evidence of its own, although it challenged Honkey's analysis in cross examination. In the end result, his Honour found it unnecessary to make findings on that evidence.
351 Green's admission was only as good as the information and assessments provided by Horowitz. Horowitz's assessments were challenged by HJPL and there has been no curial determination of the correctness of Horowitz's assessment. For that reason, and in circumstances where Honkey's evidence was not directly contradicted by evidence from BKC, the admission bears little weight. We accept HJPL's submission that it is an inadequate evidentiary basis upon which to determine a matter as fundamental as this in the proceedings. Further, and as Rolfe J found, the admission was irrelevant because there was no evidence that BKC:
"communicated knowledge of the matters of which Mr Green made his admissions to Mr Blauer before he wrote his letter of 27 November 1995, nor that he exercised, or anyone else from BKC exercised, BKC's discretion on the basis of those admissions."
352 BKC also relied upon a further alleged admission by Green that he had advised Cowin that he considered BKC was correct in classifying at least 10% of HJPL's restaurants as "Needs Improvement". In cross-examination Green was asked if he remembered having any discussion before the end of January 1996 with Cowin about the stores which had been listed "Needs Improvement" in Blauer's 27 November 1995 letter. Green had no recollection of any particular discussion with Cowin, nor did he recall telling Cowin that he considered that the classification of at least 10% of the stores in the "Needs Improvement" category was correct. He said that although he could not recall having told Cowin, he was "positive that [he] would have".
353 This admission is also of no assistance to BKC, as his Honour found, as there was no evidence Blauer was aware of it.
354 There are a number of other difficulties with BKC's reliance on Green's "admissions". In contrast to Honkey, Green had not received any training from BKC which would enable him to conduct a restaurant visitation in accordance with the visitation guidelines. Therefore, he was not in the best position to analyse Horowitz's classifications. Further, Green in his meeting with Horowitz in February 1995, appears to have been given a different understanding of BKC's standards than Honkey, whose job encompassed the Visitation Programme in respect of third party franchisees. Horowitz had informed Green that a restaurant had to have "no food safety issues" whereas the test put by BKC's counsel to Honkey in cross-examination was that there was "no ongoing food safety issues".
355 Next, BKC sought to prove that HJPL in fact had more than 10% of its restaurants in the "Needs Improvement" category. It sought to do so in the following way. First, it resorted to 12 of the 16 restaurants (that is, those left after the 15 had been removed from consideration ) which were not subject to an "adverse" finding by his Honour.
356 It next sought to prove that in respect of the 15 restaurants, which his Honour rejected as being able to be relied upon, there was evidence from inspections carried out in November/December 1995, or shortly thereafter, which proved that nine of these restaurants had properly been classified as "Needs Improvement" by Horowitz, for the purposes of Blauer's letter of 27 November 1995.
357 HJPL submitted that this challenge should not be permitted, and in any event could not be made good. First, it submitted BKC presented no such analysis to the trial judge and it was inappropriate to do so for the first time on appeal. Secondly, it was submitted that it was inappropriate to rely on reports prepared after Blauer's letter and it was an exercise not conducted at trial. Thirdly, in respect of five of the nine restaurants, Springwood, Ipswich, Carindale, Mackay and Kippa Ring, reliance was placed upon material contained in a statement of a Miss Elizabeth Martin which was not read in the proceedings. Finally, Honkey had expressed the view that none of the nine additional restaurants should properly have been classified as "Needs Improvement" as at November 1995. He was cross-examined only in respect of four of those restaurants.
358 We consider that BKC should not be permitted to advance this submission. It did not put this basis to the court below. Nor did it tender the relevant evidence. That concludes this issue against BKC.
359 It is also doubtful whether the challenge, if permitted, could have been made good. In relation to the 12 restaurants which were visited in accordance with the visitation programme, Honkey gave evidence that none of them ought to have been so classified. During cross-examination, his attention was directed to only four of those restaurants. There was, therefore, no challenge to his evidence in relation to eight of them. BKC did not call any evidence to rebut any of Honkey's evidence. Had his Honour dealt with this evidence, it is possible, and probably likely, that he would have considered BKC's failure to cross-examine relevant and accepted Honkey's evidence, at least on the unchallenged evidence. BKC would therefore have failed to establish that there were more than 10% of restaurants in the "Needs Improvement" category.
360 Having concluded that BKC has not made out the evidentiary basis upon which to base its claim that it could operationally disapprove because more than 10% of restaurants were in the "Needs Improvement" category, it is strictly not necessary to determine whether Shepherd v Felt & Textiles applies here. Accordingly we deal with the point only briefly.
361 In Shepherd v Felt & Textiles Dixon J at 377-378 said:
"… a party to any simple contract who fails or refuses further to observe its stipulations is entitled to rely upon a breach of conditions, committed before he failed to do so or so refused, by the opposite party to the contract as operating to absolve him from the contract as from the time of such breach of condition whether he was aware of it or not when he himself failed or refused to perform the stipulations of the contract. 'It is a long established rule of law that a contracting party, who, after he has become entitled to refuse performance of his contractual obligations, gives a wrong reason for his refusal, does not thereby deprive himself of a justification which in fact existed, whether he was aware of it or not.' (per Greer J., Taylor v Oakes Roncoroni & Co (1922) 127 L.T. at 269)."
362 We do not consider that Shepherd v Felt & Textiles applies in the circumstances here. This was not a case where a party had terminated for breach on a basis found to be unavailable, in circumstances where there were available grounds to terminate. Rather, it is a case where a party had purported to exercise a discretion to take certain action under a contract upon a basis which was not factually available. That is fundamentally different.
363 In any event, it cannot be assumed that a discretion would be exercised in the same way even if there were available facts sufficient to support its exercise. HJPL submitted that there was no evidence of how the discretion would have been exercised if the facts were that HJPL had more than 10% of restaurants in the "Needs Improvement" category. BKC, it was said, bore the onus on this issue. We agree. It was an assertion made in reply to HJPL's case that the letter of 27 November 1995 revealed Blauer's discretion was based on more than 20% of restaurants in the "Needs Improvement" category. It has not satisfied that onus. Blauer was the only person in BKC with the authority to exercise the discretion. He was available but was not called to give evidence. In those circumstances, the principles in Jones v Dunkel (1959) 101 CLR 298 apply.
364 BKC submitted, however, that there was evidence sufficient to support a finding that Blauer would have exercised his discretion on the basis that more than 10% was in the "Needs Improvement" category. The evidence said to support this was that Horowitz had meetings with Green in October and November 1995, in which the discussion centred around HJPL having more than 10% of its restaurants in that category. Secondly, Blauer's letter also referred to the fact that a franchisee "may not" expand if it had more than 10% of its restaurants in the "Needs Improvement" category.
365 We have already dealt with Green's evidence. We only add that Horowitz's discussions with Green do not establish the point. His state of mind was irrelevant to the question as to how the discretion would have been exercised, as Blauer was the only person who had this power.
366 That leaves Blauer's letter of 27 November 1995 and in particular the statement:
"Pursuant to the terms of Section 4.1(a), BKC has the authority to refuse to approve any expansion by HJPL if HJPL fails to comply with the terms of a single franchise agreement. Notwithstanding this requirement, BKC has, without waiving its rights to impose this standard in the future, agreed at this time to treat HJPL consistent with the less restrictive provisions of the Expansion Policy.
367 It cannot be assumed or inferred, in our opinion, that if it were shown that 11% or 12% or any other percentage below 20% of restaurants were in the "Needs Improvement" category, Blauer would still have exercised his discretion to operationally disapprove HJPL. HJPL was, after all, the main face of BKC in Australia. Further, it was largely the royalties from HJPL which enabled BKC to run its entire Asia Pacific operation. Those factors could have been enough to dissuade Blauer from taking such a drastic step as operational disapproval. But the important point is that, without Blauer's evidence, the Court simply does not know one way or the other.
368 In our opinion, all these matters: namely, the failure to deliver a list of restaurants in the "Needs Improvement" category; the failure to forward the Franchise Action Plan to HJPL until October 1995; the failure to comply with its side of the process specified in detail in the Expansion Policy of at least ten visits per year, was unreasonable and lacking in good faith in the sense in which we have explained those concepts.
369 We are also of the opinion that BKC's conduct in disapproving, in the manner and at the time it did, was a breach of the implied obligation of co-operation. It was apparent that the Expansion Policy required performance by both parties to achieve its purpose. We are of the opinion that, in order for HJPL to be able to effectively move to improve the categorisation of a restaurant from "Needs Improvement", it was incumbent upon BKC to provide the specified means for it to do so. That required BKC to promptly provide a Franchise Action Plan at the time it did its classification, in January/February 1995 and to visit the restaurants in accordance with the Policy. It did neither.
370 Accordingly, we agree with his Honour's conclusion that BKC had not established that it was entitled in its sole discretion to operationally disapprove HJPL.
371 Finally, BKC submitted that it was entitled to operationally disapprove HJPL in November 1996 because of the poor operational standards at HJPL's restaurants observed during 1996. It submitted that in effect, it had done so by withholding operational approval in Miolla's letter to Cowin of 7 November 1996. That letter was in the following terms:
"BKC has, as you are fully aware, exercised that discretion in not granting you operational approval because HJPL has failed to meet and comply with the provisions of Clause 4 having been called upon to do so on numerous occasions."
372 His Honour did not make any specific finding as to whether BKC was entitled to operationally disapprove at that time.
373 However, Miolla's letter was not a fresh exercise of operational disapproval. It was a re-assertion that HJPL was operationally disapproved. That must relate back to Blauer's letter of 27 November 1995 and therefore does not assist BKC's case.