New, stricter regulations for Australian franchises

Earlier this year, following a series of negative comments in Australian media about franchising industry, the Parliamentary Joint Committee on Corporations and Financial Services completed an inquiry into the operation and effectiveness of the Franchising Code of Conduct.

As the result of the inquiry, the Committee released the “Fairness in Franchising” report.

On a broad scale, the Report recommended:

  • stronger, tougher regulation of the franchising industry
  • new and higher penalties for breaches of the Code
  • more responsibilities and greater enforcement power for the ACCC

Not all the recommendations have been welcomed by the industry with noticeable controversies and stir among the insiders.

Regardless of the reactions the Report had generated, we believe significant changes to Australia’s franchise laws are coming.

Let’s look at some of the key recommendations made by the Committee:

Franchise Termination Rights

A franchisee may terminate a franchise agreement without liability to the franchisor where:

  • a franchisee suffers personal hardship or is over-geared and unable to restructure their finances or sell the business under the assignment provisions of the Code; or
  • a franchisee’s EBITDA has been negative for three fiscal quarters, the franchisor would be responsible for meeting the terms and conditions of breaking any third-party leases.

Stricter Disclosure Obligations

It is a common practice among many franchisors not to disclose earning information, at least not in writing, to incoming franchisees. Instead, they prefer to use general market data or inform them verbally about the state of the business.

To stop this, the Committee recommended franchisors to provide incoming franchisees with a profit and loss statement, balance sheet, previous two years’ business activity statements and an assessment of labour costs.

Collective Bargaining and Dispute Resolution

To increase the franchisees’ collective power, the Committee recommended to establish a process for franchisees to collectively bargain with the franchisor.

For dispute resolution, the Committee recommended to draft binding arbitration procedures.

Unfair Contract Terms

Under the current legislation, the ACCC has no authority to seek penalties or issue infringement notices for unfair or likely to be unfair contractual terms.

Some of the specific clauses discussed by the Committee in the Report related to the franchisor’s unilateral right to vary the terms of the franchise agreement, manuals, liquidated damage clauses, restraint of trade provisions and certain termination clauses.

The Committee recommended to apply unfair contract terms laws to franchisee agreements irrespective of the size and scale of the franchisee’s business.

To enforce compliance, the Committee recommended to give the ACCC power to issue infringement notices and seek penalties for breaching the regulations.

Churning and Burning Practices

Churning refers to a practice of a failed franchisee’s site sold repeatedly to new franchisees.

Burning is a practice to continually open new franchises (often with no prospect to succeed as a business) to profit from upfront fees. These newly created franchises are left to struggle on their own leading to a closure.

The Committee recommended to give the ACCC the authority to prevent the marketing and sale of a franchise where the franchisor shows a track record of churning or burning.

Restriction on Franchisor Termination Rights

The Committee recommended to repeal the right of a franchise to terminate franchise agreements for fraud or breach of public health or safety regulations unless the franchisee has been convicted of fraud or served with a permanent closure direction by a relevant authority.

Cooling Off Period

The Committee’s recommendations include a proposal to allow a franchisee to terminate a franchising agreement, associated arrangements and leases at any time up until 14 days after the last of the following to occur:

  • a franchise agreement has been signed
  • a payment to the franchisor has been made
  • the required disclosure document has been received by the franchisee
  • copy of the lease has been received by the franchisee

Increased Civil Penalties

In the Committee’s view, the current capped penalty of $63,000 for a breach of the Code is inadequately low.

The Committee recommended to set penalties at a multiple of three times the value of the benefit obtained from the offence.

In addition, the recommendation called to align the penalties with those provided under the Australian Consumer Law.

The Committee recommended the penalty structure should be the greater of:

  • three times the value of the benefit obtained from the offence
  • $10 million, or
  • 10% of the annual turnover of the business

The Fairness in Franchising report is currently under review by the Government. Before a decision is made, our franchise experts will continue to monitor the developments in the legislation and inform you of any news.