An ACCC update on the Franchise Sector

Speakers: 
Mr Mick Keogh, Deputy Chair
Conference: 
Franchise Council of Australia Legal Symposium
19 October 2021

ACCC Deputy Chair Mick Keogh spoke at this year’s Franchise Council of Australia Legal Symposium, where he discussed legislative changes that affect the franchise and small business sectors.

Transcript: 

Introduction

The past 18 months have certainly been challenging for everyone, including individuals and businesses. As the lockdowns lift, we are starting to see signs that the economy is opening up again, and some hope that the worst of the pandemic may be behind us.

However, the opening up of the economy will inevitably mean that many businesses that have been in hibernation will need to make tough decisions about the best plan for recovery. Many will face deferred liabilities – rent, interest – along with increased business stress and the potential that consumer changes mean major adjustments are required, at a time when cash flows are very poor and future revenue is very uncertain.

Coinciding with this, there are a number of legislative and regulatory changes occurring that will also require adjustment by businesses, and especially those involved in the franchise sector.

In my talk today I will speak mainly about the legislative changes that affect the franchise and small business sectors.

At the outset, however, I want to emphasise that the ACCC is fully aware of the challenging business environment, and the considerable uncertainty under which many businesses are currently operating. The ACCC has itself also experienced major challenges over the past eighteen months, with lockdown restrictions disrupting our operations, and very substantial changes occurring in the nature of our work.

All of us, regulators and businesses alike, face what is likely to be at least another two years during which uncertainty and disruption will be the norm, and major adjustments will continue to be required. The ACCC will have this very much front of mind, as we go about our work during this period.

Current environment

Throughout the pandemic, the number of franchising sector contacts received by the ACCC have remained relatively steady. We hope this means most franchisors are doing the right thing and working with their franchisees to help them through these difficult times.

For some franchisees, difficult times will continue well into the future. It is important for franchisors to continue to support their franchisees, to ensure both parties maximise the benefit of being part of a franchise system.

Where this is not possible, franchisees may want to exit early. Changes to the Franchising Code now give franchisees a right to request early termination from a franchisor. When this occurs, franchisors must respond in writing and engage with their franchisees in good faith.

In some cases, franchisors may be considering changes to their system to adapt to the new operating environment. We expect franchisors to clearly communicate and continuously consult with franchisees on any changes they propose to make.

Changes to the Franchising Code

Not only has the business environment been challenging, but there have also been a number of changes in the law that the franchise sector need to be aware of.

Amendments to the Franchising Code were introduced on 1 June this year, and they include additional disclosure obligations.

For example, franchisors that include significant capital expenditure obligations in a disclosure document that is given to a franchisee must now provide more information, and have discussions with franchisees about the required expenditure before they enter into, renew or extend a franchise agreement.

Franchisors must also disclose more information about leases of premises associated with a franchise business to prospective franchisees. Franchisees also now have extra cooling off rights, particularly in situations where a lease or occupancy right granted by the franchisor is not yet in force.

Another important change applies in the case when a franchisor provides earnings information to a prospective franchisee. Under the amended Code it must now be provided with a disclosure document backed by a statement that, to the best of the franchisor’s knowledge, the earnings information is accurate. The franchisor must also specify if there is particular earnings information that the franchisor knows is not accurate.

There are also now more options for dispute resolution including conciliation, multi-party alternative dispute resolution and voluntary arbitrations.

Another significant change underway at present involves penalties associated with the Franchising Code. For some time now the ACCC has been calling for an increase in penalties for breaches of the Code. At the 2018 Inquiry we urged the introduction of higher penalties to strengthen the incentives for Code compliance, and the Government has responded to that proposal.

A recent amendment to the Competition and Consumer Act 2010 now allows the maximum penalties set under the Code to be at the same level as the maximum penalties for other breaches of the Competition and Consumer Act and the Australian Consumer Law.

We are waiting for the Government to determine which provisions in the Franchising Code will attract these maximum penalties. The Franchising Code Regulation will then need to be amended to include higher penalty maximums for any relevant clauses.

As part of its response to the Parliamentary inquiry into franchising, the Government is also developing an online register, which will be publicly accessible and will provide access to information about franchise businesses. This register will be a starting point for increased transparency about franchise businesses, as it is intended to provide potential franchisees with an easy way to access certain information about franchises.

It is important to note that neither the information on the register nor the franchise businesses will be checked, vetted or approved. It will still be imperative that anybody looking to buy a franchise exercises caution and does their own independent research on the franchise system. That includes contacting current and former franchisees and seeking professional advice before taking on potentially significant costs and risks.

The Government is currently consulting stakeholders on the draft regulations, Explanatory Statement and a guide that provides information about the register.

Other legislative changes relevant to franchise businesses

In addition to the changes to the Franchising Code I have already outlined, there are several other legislative changes that have already occurred, or are proposed, which franchise business owners need to be aware of.

The first of these is the class exemption for collective bargaining by small businesses and franchisees. This came into effect on June 3 this year. Under this class exemption, eligible small businesses, or franchisees wishing to collectively bargain with their franchisor, no longer need to first seek an exemption from competition laws from the ACCC.

To use the class exemption, bargaining groups just need to lodge a one-page notice with the ACCC. They can then negotiate as a group, which often saves time and money, for both the group and the franchisor or the other business they are negotiating with.

It should be noted however, this does not mean that a target business has to deal with a bargaining group.

So far we have received 22 notices from groups seeking to engage in collective bargaining, mainly car dealers, off-airport parking operators and newsagents.

The second legislative change, which is proposed but not yet implemented, involves changes to the business-to-business unfair contract terms law, which was introduced in 2016.

Under the 2016 law, a Court could void an unfair term in a standard form contract offered to an eligible small business. Examples of unfair terms included contract clauses that allowed one side to unilaterally change an agreement without giving the other party any corresponding right to negotiate or reject the change, or which imposed onerous penalties on one party for a breach of the terms of a contract.

While the 2016 law gave the Courts power to strike out unfair contract terms (UCTs), there are no penalty provisions, and in the ACCC’s experience enforcing this law we found that some businesses would only revise their contract terms once the ACCC took legal action. This is costly and can involve extended timeframes.

As a result of our experience with this law, the ACCC advocated for changes, including the introduction of penalties and the broadening of eligibility requirements so that more small businesses gain protection under this law.

The Government has proposed reforms to this law that the ACCC believes will reduce the prevalence of unfair terms in standard form contracts and, improve consumer and small business confidence when entering into these contracts. The key reforms include:

  • providing courts with the power to impose a pecuniary penalty for a contravention of the prohibition on using or relying on an unfair contract term
  • providing greater clarity about when a contract is a ‘standard form contract’
  • lifting the small business definition threshold and removing the contract value threshold so it applies to an expanded class of small businesses standard form contracts.

Many franchise agreements are likely to be standard form small business contracts. Once these reforms are legislated, a court will be able to impose penalties for inclusion of UCTs in such contracts. It would be prudent for all franchisors to seek advice on whether their agreements might be in breach of this law, and to implement any required changes.

ACCC approach to enforcement in current environment

Franchisors often have the stronger bargaining position in their dealings with franchisees, which is why compliance with both the Franchising Code and the Australian Consumer Law is so important.

Part of the ACCC’s role is to educate industry about their obligations, and we do that in a number of different ways, including by providing comprehensive resources for franchisors and franchisees.

But where franchisors are not complying with this law, and where non-compliance is prevalent across the sector, we can also litigate.

In the last year the ACCC has been successful in our litigation involving franchise businesses including Jump Swim School and Megasave Couriers for breaches of the Australian Consumer Law.

We also commenced proceedings in the Federal Court against Retail Food Group alleging the food and beverage franchise company engaged in unconscionable conduct and made false or misleading representations in its dealings with franchisees, in breach of the Australian Consumer Law. That case is currently before the Federal Court.

The ACCC also takes legal action for Franchising Code breaches, where the harm that arises from the breach is serious and it has a broader compliance effect for other franchisors in the industry.

In our matter against former car wash and detailing franchisor Geowash, last year the Federal Court found that Geowash had acted unconscionably towards franchisees through its charging practices for the establishment and fit-out of its franchise sites and was in breach of the Australian Consumer Law.

The Court also found that Geowash made false or misleading statements and failed to act in good faith in relation to the sale and marketing of its franchises in contravention of the Franchising Code.

The Geowash decision highlights development in the law around ‘good faith’, but also the personal liability of franchisors and their executives. The court ordered $4.2 million in total penalties and this included penalties of $1.045 million against Geowash’s former director Ms Ali and $656,000 against its former Franchise Manager, Mr Cameron. The Court also made orders banning Ms Ali and Mr Cameron from managing a corporation for periods of 5 and 4 years respectively. Each was ordered to pay $500,000 as partial redress to franchisees for the losses the franchisees had suffered.

Ms Ali and Mr Cameron’s appeal against the Court’s decision was dismissed by the Full Federal Court this year.

In our case against Ultra Tune, the Federal Court found that Ultra Tune had failed to act in good faith in its dealings with a prospective franchisee, in breach of the Franchising Code. Ultra Tune was also found to have made false or misleading representations in breach of the Australian Consumer Law.

In addition, Ultra Tune breached the Franchising Code by failing to prepare marketing fund statements within the required timeframes, failing to provide these statements and audit reports to franchisees, and failing to include sufficient detail in the statements.

In its decision the Full Federal Court confirmed the importance of franchisor obligations in respect to marketing funds, while upholding aspects of an appeal by Ultra Tune. The Court provided some clear directions to the industry as to what constitutes sufficient detail in marketing fund statements. We expect franchisors and their advisors will consider carefully what the Court has had to say on this issue, and to make improvements to their marketing fund statements in response, should that be necessary.

A key message arising from this matter is that franchisors need to be accountable on how they spend the franchisees' contributions to the marketing fund.

We are currently undertaking a strategic review of our franchising enforcement work and will consider whether it should remain a specific priority of the ACCC under our annual compliance and enforcement policy, as it has been for many years.

While the ACCC will always focus on current priority areas, we also retain capacity to pursue other matters which result in substantial consumer or small business detriment, or where our action assists in clarifying aspects of the law.

Updating disclosure document by Oct 31

Currently many franchisors will be busy reviewing and updating their disclosure documents and their key facts sheet to ensure they comply with the Code to meet the October 31 deadline.

The key facts sheet is not a substitute for the disclosure document, although it contains important information from it. The key facts sheet and the disclosure document need to be read together. The key facts sheet should be used to help identify some of the critical information in the disclosure document.

It is the legal responsibility of the franchisor to provide correct and sufficient detail in their disclosure document to assist potential franchisees to make reasonably informed decisions.

As we have said before, but it is worth emphasising, it is important that franchisors don’t:

  • Mislead existing or potential franchisees in respect to franchisor’s financial health.
  • Over promise or remain silent when a prospective franchisee thinks buying a franchise is "buying a job".
  • Make significant unilateral changes that mean the commercial value for franchisees is substantially diminished or neutralised.

In conclusion

Franchising can be mutually rewarding for both franchisors and franchisees. At the core of the success of any franchise should be the success of its franchisees.

Success often begins with franchisors recruiting people who are suited to franchising in the first place, and who have the right skills to operate a franchise business.

Parties to a franchise agreement must also act honesty, reasonably and not arbitrarily towards each other and co-operate to achieve the purposes of the agreement.

Lack of honesty and transparency will damage a franchise business, and ultimately also the reputation of the franchisor and very likely the franchise sector as a whole.

The ACCC looks forward to playing its role in the transition back to whatever ‘normal’ will look like for the sector in the coming year.