Storms in Bubble Teacups

by Wong Jin Nee

The Malaysian franchise industry and bubble tea enthusiasts have been abuzz with the highly publicised disputes between La Kaffa International Co Ltd (“La Kaffa”) and Loob Holding Sdn Bhd (“Loob”). The interests have intensified with the recent nail biting decisions by the Malaysian Courts. The Court of Appeal (“COA”) had refused to stay an injunction which would have required Loob to cease operations of its TEALIVE outlets but the Federal Court (“FC”), the final appellate court in Malaysia, had thereafter stayed the execution pending appeal to the FC. While there are various causes of action and issues covered by the suits, this article will focus mainly on the franchise issues in the disputes, particularly on Section 27 of the Franchise Act 1998 (“FA”) which covers prohibition against carrying on a similar business.  

 

Background Facts

For better appreciation of the ongoing saga, the main events are set out in chronological order:

1 June 2011 –                  

La Kaffa and Loob entered into the first master franchise agreement for the CHATIME bubble tea business in Malaysia, known as Regional Exclusive Distribution Cooperation Agreement (“REDCA”).

15 October 2013 –           

The parties subsequently entered into a revised master franchise agreement known as Regional Exclusive Representation Agreement (“RERA”) which superseded REDCA and was intended to expire in 2041.

28 October 2016 –         

In accordance with dispute resolution clauses in RERA, La Kaffa commenced arbitral proceedings in Singapore (“Singapore arbitral proceedings”) for various alleged breaches of RERA by Loob.

5 December 2016 –          

Loob submitted its response and filed counter-claims in the Singapore arbitral proceedings.

5 January 2017 –              

La Kaffa issued Loob with a termination notice of RERA asserting the same breaches covered in the Singapore arbitral proceedings including Loob’s failure to carry out the following:

  • purchase all raw materials from La Kaffa;
  • allow La Kaffa to inspect and/or audit its accounts and records; and
  • pay for raw materials purchased from La Kaffa.

19 January 2017 –          

Although disputing the legality of the termination, Loob accepted the termination of RERA. 

Late January 2017 –         

Loob established its TEALIVE bubble tea business with 161 out of 165 CHATIME franchisees commencing operations as TEALIVE outlets.

 

The High Court decision

After the launch of the TEALIVE business and amidst media frenzy, both La Kaffa and Loob filed applications for interim injunctions at the Malaysian High Court (“HC”) pending the disposal of the Singapore arbitral proceedings.

The HC examined the various issues raised, including the following:

(1) whether Loob, its directors (including their spouses and immediate family members) and employees (“the Loob entities”) should be restrained from carrying on business which is identical or similar to CHATIME business.

(2) whether the Loob entities should be injuncted from disclosing, using and converting confidential information procured from La Kaffa under RERA.

The HC held that based on the nature and scope of the court’s power under the Arbitration Act 2005, it would only grant interim measures which may support, assist, aid or facilitate the Singapore arbitral proceedings and would not decide on the merits of the proceedings.

On the construction of Sections 26 and 27 of the FA which provide that a franchisee “shall” give written guarantees to a franchisor not to disclose confidential information and refrain from carrying on a similar business, it was held that such statutory provisions do not automatically incorporate such guarantees into the franchise agreement. The learned Judge went on to say that if Parliament had intended for such guarantees to be incorporated into franchise agreements, they would have expressly stated as such. It is trite law in statutory interpretation that if the construction of a statutory provision results in penal consequences, the Court should adopt a strict interpretation in favour of the person who may be liable to such penal consequences. On this basis, the provisions were construed in favour of the Loob entities, and the guarantees were held not to be incorporated into RERA. There was thus no question of whether Loob had breached these provisions or guarantees. Alternatively, even if it were decided otherwise, the Court is not bound to grant interim injunctions as such is a matter of discretion.

Further, the Court found that granting an interim injunction to prevent Loob from using confidential information under RERA carried a higher risk of injustice as such would effectively force Loob to cease operations of its TEALIVE business. The balance of convenience thus tipped in favour of the Loob and La Kaffa’s claim was accordingly refused. The HC did grant however mandatory injunctions including one to compel Loob to disclose its gross monthly sales and provide an account of profits in respect of its TEALIVE business.

 

The Court of Appeal decision

 The COA reversed the HC’s decision. The COA held that a simple construction of the relevant Article 15 of RERA and Section 27 of the FA would demonstrate that there exists an obligation on Loob not to compete with La Kaffa’s business, even after the termination of RERA. 

The COA went on to say that if the HC was willing to grant a mandatory injunction which threshold is very high, it ought not to have refused to grant a prohibitory injunction. The COA took the view that the HC had failed to consider Article 15 of RERA and Section 27 of the FA in the proper perspective:

When parties have agreed not to do certain acts and a statute also provides for such protection, the court is obliged to give effect to ensure the salient terms of the agreement as well as the statute is not breached, more so when undertaking to damages is in order. The issue of compensation is remedial in nature. It is an agreed form of compensation and does not override the paramount obligation not to breach a salient term of contract which is also protected by statute”.

 The COA found it unjustifiable for the HC to adopt the view that the prohibitory injunction would affect the ‘TEALIVE’ business consisting 161 outlets and the livelihood of 800 employees of Loob. It took the view that Loob’s conduct in transforming the CHATIME business to TEALIVE overnight was not only a breach of legal obligation relating to restraint of trade but also a breach of franchise law which does not encourage criminal or tortious conduct of business. The COA accordingly held that the HC’s failure to grant a prohibitory injunction was flawed, prompting Loob to seek appellate intervention.

Loob’s application to the COA for a stay of the injunction pending its leave to appeal to the FC was rejected albeit with one dissenting judgment. The FC subsequently granted the stay order on 16 July 2018 to temporarily stop an injunction granted by the COA.

It is not unexpected that many franchisors are rather alarmed by the HC decision, relieved with the COA decision, and are anxious to find out how the issues would be resolved by the FC. Franchisors feel that the HC decision would make a mockery of the so-called protection expressly granted to franchisors under Section 27 of the FA to restrain their franchisees from conducting similar businesses post-termination as it would provide a free pass for ex-franchisees to start operating similar businesses without having to wait out the 2 year moratorium after the termination date.

There will however be no opportunity for the FC to answer some of these issues raised as La Kaffa and Loob have since come to a settlement and have agreed to withdraw all proceedings in the Malaysian courts and the Singapore arbitration. Both parties have also agreed to mutually stop all actions including pursuing complaints lodged for enforcement actions against each other. The parties announced in a recent joint press statement that the settlement should not constitute nor be deemed nor treated by any party as an admission of any allegation and/or liability. The issuance of the joint statement was part of the settlement terms, with all other terms to remain private and confidential.

While this settlement may not bring any relief to franchisors who may still have lingering concerns as to how the Malaysian Courts would interpret the FA in the future, we can definitely say for certain that bubble tea lovers are relieved to know they would be able to continue enjoying their favourite bubble teas from both TEALIVE and CHATIME stores.