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What good faith means
Although the Franchising Code of Conduct doesn't define exactly what good faith means, the meaning of good faith needs to reflect historical judge-made law, known as the ‘common law’.
Under common law, good faith requires certain conduct of parties who are part of an agreement. They must exercise their powers reasonably and not arbitrarily or for some irrelevant purpose.
Certain conduct may lack good faith. For example, if one party acts dishonestly or fails to have regard to the legitimate interests of the other party then that is not acting in good faith.
Australian courts have found business dealings to be not in good faith when they involve one party acting:
- for some ulterior or hidden motive, or
- in a way that undermines or denies the other party the benefits of a contract.
The franchising code outlines certain matters that a court may consider when determining whether a party has acted in good faith. These matters are whether the party:
- acted honestly and not arbitrarily
- cooperated to achieve the purposes of the agreement.
For new vehicle dealership agreements, the code also says that the court must consider whether the terms of the agreement are fair and reasonable.
A court can also take into account other matters it considers relevant.
When to act in good faith
Under the franchising code, parties must act in good faith in their business dealings with each other.
Failure to act in good faith can lead to penalties.
All parties must act in good faith at all times. This means acting in good faith:
- during pre-contractual negotiations
- while performing the obligations in the franchise agreement
- during dispute resolutions
- at the end, including termination, of a franchise agreement.
The obligation to act in good faith may also continue after a franchise agreement comes to an end. For example, if a franchise agreement imposes obligations that will continue after the agreement has ended, the franchisor or franchisee may be required to carry out these obligations in good faith.
The obligation to act in good faith cannot be excluded or limited by a clause in another document, including a franchise agreement.
Good faith and legitimate business conduct
While good faith requires a party to take into account the rights and interests of the other party, it does not require them to act in the interests of the other party. Good faith does not prevent a party from acting in their own legitimate commercial interests.
For example, while good faith requires parties to act honestly and cooperatively during the negotiation of a franchise agreement, it does not mean a franchisor has to make requested additions or changes to an agreement.
Similarly, a decision by a franchisor not to offer a franchisee an option to renew or extend their franchise agreement does not mean that the franchisor has not acted in good faith.
Assessing whether conduct is in good faith
Whether conduct lacks good faith depends on the circumstances surrounding the conduct.
When assessing whether your conduct is in good faith, some questions to ask are:
- Have you been honest with the other party?
- Have you considered the other party’s interests?
- Have you made timely decisions?
- Have you consulted with the other party about issues or proposed changes?
- Are you imposing any conditions on the other party? Are those conditions necessary to protect your interests?
- Where a dispute has arisen, have you attempted to resolve the dispute directly with the other party or through mediation?
- Are you acting for some ulterior or hidden purpose?
Examples of dealing and not dealing in good faith
The performance of a franchise agreement example
Scenario
The franchisor of a video rental franchise system granted a franchisee an exclusive licence over a particular territory.
As a result, the franchisor was not allowed to be involved in renting or selling video products, or a similar business, within the franchisee’s territory.
During the agreement, a business that was related to the franchisor sold DVDs through its website to consumers who lived in the franchisee’s territory. The franchisor did not take any action to prevent these online sales.
Factors relevant to good faith
By allowing its related business to sell DVDs within the franchisee’s territory, the franchisor has not acted in good faith as they did not follow the franchise agreement.
Dishonest business dealings example
Scenario
A franchisee in an electrical testing franchise system has the right to perform work for the franchisor's clients.
Under the agreement, the franchisee was not allowed to have a business outside the franchise system that is:
- substantially the same as the franchise business, or
- in competition with the franchisor.
This condition was for defined periods and within defined areas, during the term of the agreement.
The franchisor shared confidential information with the franchisee, specifically to help them operate the franchised business. This information included the names and details of its clients, together with the pricing and other arrangements negotiated by the franchisor.
During the franchise term, the franchisee used this information to offer electrical testing services to a number of the franchisor’s clients. However, instead of doing the work as part of the franchise relationship, the franchisee led the:
- franchisor to believe that the clients no longer needed the franchisor's services, and
- client to believe they were still dealing with the franchisor.
Factors relevant to good faith
This meant the franchisee did not pay the franchisor the franchise service fee it was owed as part of the agreement. The franchisee’s dishonesty in this example means the franchisee has not acted in good faith.
Acting for an ulterior purpose example
Scenario
The franchisor of a motor vehicle service franchise system entered into a franchise agreement that required the franchisee to follow specific procedures for invoicing and reporting.
During the agreement, the franchisee found it difficult to accurately process invoices using the software and hardware supplied by the franchisor. Meetings with the franchisor failed to resolve these issues, leading to a breakdown in the franchising relationship.
The franchisor then issued default notices to the franchisee, alleging that the franchisee had not complied with invoicing and reporting requirements. However it was unclear whether the franchisee had failed to follow these requirements.
The franchisor's default notices were motivated by its ulterior or hidden motive to eventually terminate the franchise agreement. The franchisor later terminated the agreement on the basis that the franchisee had failed to remedy the alleged breaches.
Factors relevant to good faith
In this instance, the franchisor has not acted in good faith because they were acting for an ulterior purpose.
Acting for legitimate commercial reasons example
Scenario
The franchisor of a takeaway food franchise system entered into a franchise agreement that gave the franchisee the right to operate a franchised business at a specific location.
The franchisee did not have an exclusive territory and there was no limit on the franchisor's ability to open new stores. The franchisee did not have a right to own and operate extra stores.
Under the franchisor’s expansion policy, an existing franchisee would be eligible to operate another store when they satisfied certain criteria. This included complying with the franchisor’s standards of operation. Reviews of the franchisee’s store during the agreement showed that it was not meeting the necessary standards to be eligible to operate another store. This led to problems between the franchisee and franchisor.
12 months later, the franchisor decided to open a new store in an area near the franchisee's store, because of perceived commercial benefits of expanding its system. The franchisee was not offered the right to operate the new store. In this example, the franchisor’s decision to open the store was motivated by their perceived commercial advantage.
Factors relevant to good faith
The franchisor has acted in good faith as its actions were based on the pursuit of their legitimate business interests.