Lawsuit against Jean Coutu by franchise owners could indicate underlying tension, says analyst

MONTREAL — Jean Coutu Group Inc., one of the country’s largest pharmacy chains, is facing a class action suit filed by a group of franchisees in Quebec seeking to recover $252 million in royalties.

Jean Coutu overcharged stores for franchisor services in the past four years, according to Montreal-based Sopropharm, a nonprofit organization representing the majority of pharmacists and pharmacy owners operating under Jean Coutu.

Toronto-based Peter Sklar, a BMO Capital Markets analyst, isn’t convinced the lawsuit will succeed, but said there are concerns it exposes stress within the organization, especially as Quebec moves to make reforms in drug legislation. 

The stock fell 3.74 per cent to $19.05 a share on the Toronto Stock Exchange by the close on Monday. It fell as much as 4.45 per cent to $18.91 in earlier trade.

The proceedings were filed, on behalf of 284 individuals, representing 306 franchises in the province, with the Superior Court of Quebec in Montreal on Friday. It has yet to be authorized by a judge.

The suit claims franchise owners have been overpaying Jean Coutu in violation of Article 49 of the Code of Ethics for Pharmacists, which prohibits pharmacists from sharing fees and profits from drug sales with non-pharmacists, Sopropharm said.

Jean Coutu charges its franchisees for services such as advertising, branded plastic bags and flyers, meaning that if the company overcharges as alleged by Sopropharm, it’s making a profit. 

“This difference between the value of services rendered and the amounts paid to the franchisor have resulted in a significant financial imbalance, depriving owners of valuable financial resources to adequately meet the growing needs of the population,” Sopropharm stated in a news release.

Jean Coutu intends to contest the action but declined further comment, Hélène Bisson, vice-president of communications said, adding it would present its legal arguments in court.

BMO’s Sklar said it’s unlikely the lawsuit will be successful, as Jean Coutu charges about a 3 per cent royalty rate on sales, which is low compared to those charged by other Canadian franchises. Cara Operations Ltd. which owns the Harvey’s and Swiss Chalet brands, for example, charges 4 per cent.  

“Although Sopropharm has commissioned an independent report showing the amount of royalties paid by pharmacists-owners far exceed the value of services rendered by Jean Coutu, we suspect that Jean Coutu could commission a credible report that would reach the opposite conclusion,” Sklar wrote in a note to investors. 

The litigation may indicate some underlying tension in the relationship between Jean Coutu and its franchise owners, he said, adding it could also reflect growing concerns of franchisees regarding the financial impact of drug reform measures in Quebec.

In a bid to reduce health-care spending, the Quebec government plans to introduce a tendering system to decide which generic drugmakers would become exclusive suppliers for specific medications. The Association Québécoise des Pharmaciens Propriétaires, which represents about 1,930 pharmacist owners in the province, said low-cost manufacturers in India, or China would likely win the tenders, thereby hurting local drug manufacturers, increasing costs for pharmacies and possibly threatening the survival of some drug stores.

“This financial imbalance (with Jean Coutu) has consequences that become even greater when combined with the austerity measures recently imposed by the government of Quebec. The sustainability of businesses is compromised,” the Sopropharm news release stated. 

Varennes, Que.-based Jean Coutu operates a network of 420 franchised drugstores. About 385 are in Quebec and the rest are in New Brunswick and Ontario.

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