Changes effective 1 January 2015
In November 2014 the Australian Government released the final version of the new Franchising Code of Conduct to take effect from 1 January 2015.
The current franchising code will be repealed on 31 December 2014 and the new Code will apply to both new and existing franchise agreements from 1 January (subject to some transitional provisions).
1.For franchise agreements dated before 1 January 2015
Some of the franchise agreement clauses prohibited by the new Code will continue to be effective (i.e. not prohibited) in current franchise agreements (or at least until those agreements are transferred or varied). Provisions which require disputes to be heard in another State or Territory to where the franchisee’s business is located or which allow the franchisor to recover costs of settling a dispute from a franchisee will be prohibited and void in any new franchise agreements. However these clauses will still be effective if included in an agreement signed before 1 January 2015.
2.Disclosure document updating
The other main transitional concession is that franchisors can continue to use their current disclosure document (in the old form) after 1 January, potentially up to 31 October 2015. However as most franchisors will be updating their franchise agreements to take account of the new Code requirements, they will usually have to update the disclosure document as a result. Therefore prospective franchisees should be seeing the new form of Disclosure Document from early 2015.
Importantly the new Code has a number of new requirements that take effect straight away from 1 January such as with respect to the operation of marketing funds and what the funds can be spent on.
Also prospective franchisees must receive a new Information Statement when they apply for a franchise or express an interest in buying a franchise. This statement is 2 pages long and warns franchisees about what they should be aware of and the enquiries (due diligence) they need to make.
Here is a brief review of the major changes which will impact everyone involved in franchising in Australia:
Good Faith obligation – It introduces an express obligation on both parties to act in ‘good faith’. This obligation will apply to all aspects of the franchising agreement including during negotiations, throughout the agreement and in dispute resolution. The obligation to act in good faith equates to the common law (or unwritten law) but requires that a court consider whether a person:
(a)has acted honestly and not arbitrarily; and
(b)has cooperated to achieve the purposes of the franchise agreement
This obligation does not prevent a party to a franchise agreement, from acting in its legitimate commercial interests or from refusing to grant a renewal of a franchise.
No more Joint Disclosure Documents – The removal of the ‘double disclosure’ currently imposed on master franchise systems means the head or master franchisor does not need to give disclosure to the sub franchisee. However in a multilevel system the new form disclosure document requires that certain information about the head or master franchisor be provided by the master franchisee to its sub franchisees.This should reduce the disclosure documentation that franchisees receive.
Pre Disclosure Information Statement– Franchisors are required to provide prospective franchisees with a 2 page information sheet which gives them an overview of the risks and rewards of franchising. This is provided at an interview stage (before disclosure) and sets out the sorts of due diligence enquiries franchisees should make.
Lease incentives – In addition to giving a copy of the lease a franchisor must give a franchisee details of any incentive or financial benefit that the franchisor or its associate is entitled to receive from the landlord.
Disclosure of Materially Relevant Facts– Franchisors need to disclose materially relevant facts to a franchisee that are not included in the disclosure document including any updated financial documents that become available after disclosure but before signing of the franchise agreement.
Changes to the franchise agreement after disclosure– there is now an ability to change the franchise agreement after disclosure is given but before signing, to incorporate changes requested by the prospective franchisee or make minor changes without having to issue formal disclosure again and wait another 14 days.
Restraints of trade on former franchisees – Restraints of trade (non-compete clauses) on ex-franchisees will not be effective in some limited situations where the franchisee sought and was refused a renewal but was not in breach and the franchisor did not “genuinely compensate” the franchisee.
Significant capital expenditure – The reforms will prevent franchisors from imposing ‘significant capital expenditure’ such as refurbishments of fitout and equipment on unwilling franchisees unless:
- the expenditure was disclosed in the disclosure document ; or
- the franchisee or a majority of franchisees in a system agree to the expenditure; or
- the expense is considered a necessary capital investment by the franchisor and can be justified by a statement which provides the rationale, costs and anticipated benefits associated with making the investment.
Marketing Fund changes – These include:
- requiring additional disclosure on the types of expenses marketing funds are being used for;
- requiring company stores or franchisor owned businesses to contribute;
- giving franchisees the option to vote for or against an annual audit of the marketing fund; and
- requiring franchisors to keep marketing funds in a separate account.
Online trading disclosure – the new form of disclosure document requires disclosure of the online trading activities of franchisors including if goods or services may be made available online, the extent to which those goods or services may be supplied in the franchisee’s territory or made available via a third party website.
If the franchisee may provide goods or services online, then disclosure is needed of the extent to which those goods or services may be supplied by it to customers outside the territory of the franchise and any restrictions that apply Most importantly disclosure is needed of details of any profit sharing arrangements that apply in relation to goods or services sold online and whether these arrangements may be unilaterally changed by the franchisor.
Immediate termination – The right to immediately terminate the franchise without prior notice has been extended to where the franchisee’s company has been deregistered by ASIC and the right to terminate for fraud has been changed from “is fraudulent” to “acts fraudulently” which should possibly make this ground (very) slightly easier to prove and clearer.
Dispute Resolution – New provisions introduced to prevent a franchisor from passing on its costs in dispute resolution (mediation) to the other party. Also franchisors cannot require mediations be held outside the State or Territory where the franchisee’s business is located.
Enforcement – and here is the sting in the tail! The Government has introduced civil pecuniary penalties of up to $51,000 (for companies) for some 24 breaches of the new Code. These penalty notices can be issued (on court order) for offences such as not following the correct form of disclosure document, not giving disclosure 14 days before signing; not giving a copy of the lease and lease incentive details within 1 month of signing the lease; not giving a copy of the audit of the marketing fund to franchisees within 1 month; not notifying a franchisee of whether a franchise will be renewed; not refunding money in the event a franchisee terminates in the cooling off; not giving required notices for breach; disclosing a former franchisee’s details contrary to its request; not attending mediation and of course not acting in good faith.
ACCC powers – In addition to seeking a civil pecuniary penalty from the court, the ACCC will also be given powers to issue infringement notices of up to $8,500 to companies without court order. These infringement notices are like a fine and payment does not imply guilt and no record needs to be recorded on the disclosure document Also the ACCC will be allowed to use its audit powers to obtain documents that the franchisor has relied upon to support statements and claims made in their disclosure document. Franchisors are required to keep documents and all supporting information for a minimum of 6 years.
What should franchisors do?
Therefore while there is an ability to keep using the old form of disclosure document into 2015, the fact is that franchisors will need to immediately review their template franchise agreement for any prohibited terms, review their procedures and the franchise application process, make sure their marketing fund is compliant with the new requirements and their record keeping is watertight.
With the new penalty regime taking effect from 1 January franchise systems must start this process straight away if they do not want to risk a penalty or fine from the ACCC.
How will the changes affect franchisees?
Existing franchisees should understand that some things are going to change- they may need to vote for the marketing fund audit every year instead of every 3 years. They should also expect to see more information and justification of marketing expenses. Some borderline expenses which may not be considered genuine marketing or advertising costs may no longer be paid from marketing fund.
Any significant capital expenditure for the system such as a brand refresh will require substantial justification from the franchisor and possibly a vote of franchisees- most major systems implement this type of process in any case.
At the end of term if the franchise is not renewed on request the franchisee may have the right to compete with the franchised business despite any restraint.
New franchisees should expect to receive the new Information Statement when they apply for a franchise after 1 January 2015 and should expect to receive a new form of disclosure document from early 2015 although some franchisors may continue to issue the old form until 31 October 2015.
Ultimately both parties will also need to be aware that they have an express obligation to act in good faith in their dealings with each other.
Holman Webb Lawyers | Sydney
T: (02) 9390 8354
E: [email protected]