2018 - Franchising - The Year in Review

It has been a tumultuous year for the franchise sector, but the year ends with new opportunities on the horizon and a great opportunity for the sector to self-regulate and stave off further legislation. There are also new and proposed regulatory changes beyond franchising that will impact many franchise systems, notably consumer law changes, gift card laws and modern slavery legislation. We summarise the implications in this newsletter.

It is easy to become consumed by the Parliamentary Inquiry into the Operation and Effectiveness of the Franchising Code of Conduct (Inquiry), with the final report due on February 14, 2019. The report is likely to be damning in its general condemnation of the sector, but short on workable solutions. It is likely to contain a general comment that action needs to be taken to address identified issues of concern, but it would be surprising if it contained specific recommendations for changes to the Code or new legislation. The Committee asked no questions of the Franchise Council of Australia in relation to its detailed and quite comprehensive submission. The only indication from the deliberations of the Inquiry to date is their apparent wholesale support for most of the ACCC recommendations requesting higher penalties and broader enforcement powers.

However it is important to remember that the Inquiry is only a parliamentary inquiry. A decision as to what, if any, action to take will be the responsibility of the Small Business Minister at the time. The bigger issue is how can the sector restore the reputation and credibility of franchising as a business model, and address the significant access to finance challenges caused by the coincidence of the Inquiry, the Banking Royal Commission and the drop in residential property values that support many business loans. For most franchise systems the margin compression caused by increasing rent, utility and wages costs and flat to declining revenue remains the biggest day to day challenge they face.

In this newsletter we take a closer look at the ACCC’s extensive submission to the Inquiry, which strongly advocates for increased penalties for breaches of the Franchising Code of Conduct (Code) and for breaches of the unfair contract terms legislation which impacts franchisors. We also summarise the proposed industry response, which will impose new higher standards on franchisor members of the Franchise Council of Australia that are specifically targeted at problems identified in submissions to the Inquiry. Higher standards will also open up opportunities to new pools of prospective franchisees identified by the FCA.

Rather than endeavour to predict the precise content of any recommended regulatory changes we will review the report when it issues and report to you in detail. Look out for events in our Melbourne, Sydney and Brisbane offices just after February 14, 2019.

Thank you for your support in 2018. We look forward to working with you again in 2019. In the meantime, we hope you enjoy a wonderful Summer break.

Best wishes from all the Norton Rose Fulbright team!

Save the Date!

Perspectives – Recruitment Excellence

Attracting and retaining quality franchisees is now, more than ever, one of the most important strategic priorities for every franchisor. In this “how to” session you’ll gain fresh insights to use business intelligence, technology, culture-building and other best-practice processes to protect and grow your franchise network.

We will be hosting this event in our Melbourne, Sydney and Brisbane offices in partnership with Seek Business and Franchise Relationships Institute. Details will be circulated in the New Year, but in the meantime, save the date!

Sydney- 4.30 pm on 7 February 2019

Brisbane- 4.30pm on 6 March 2019

Melbourne- 4.30pm on 7 March 2019

In October this year, the Government announced that it was commencing its review into the effectiveness of protections for small business against unfair contract terms (UCT).

The Treasury Legislation Amendment (Small Business and Unfair Contract Terms) Act 2015 introduced the UCT protections for small business which became effective in November 2016. It was always contemplated that the legislation would be reviewed at some stage following commencement. The review will be conducted by Australian Treasury and will report to the Government by 1 February 2019.

The ACCC has been advocating for amendments to the UCT laws despite having already made some fairly significant progress in enforcing the new UCT laws and educating businesses in relation to the need to avoid including unfair contract terms in small business contracts using the current laws.

The ACCC has recommended that a breach of the UCT laws should be illegal, which would incentivise businesses to avoid including unfair contract terms in contracts at all. The ACCC has also recommended pecuniary penalties and infringement notices should apply to any breach of the prohibition. This recommendation specifically extends the current law, and would dramatically alter compliance obligations. This would seem challenging given the uncertain application of the UCT legislation to franchise agreements, and the lack of any real guidance on provisions that are considered to be unfair contract terms.

The ACCC has been actively investigating organisations that have allegedly included unfair contract terms in their standard form contracts. Since these laws became effective just over 2 years ago, the ACCC has published media releases following investigations in relation to each of Husqvarna, Wisdom Properties Group, DC Payments, JJ Richards, Servcorp, and most recently Visy Recycling, Cleanaway and Suez Recycling, alleging that each of these organisations have included UCT in their contracts. The ACCC’s investigations have led to court actions and court-enforceable undertakings, as well as requiring the relevant organisations to review and amend their contracts to remove the offending terms.

The Government is likely to at least consider the ACCC’s submissions recommending that it be illegal to include an unfair contract term in a contract, during its review.

Franchisors who have standard form contracts (such as terms and conditions of sale, purchase terms, supply contracts and customer contracts) that have not yet been reviewed for compliance with the UCT laws should get in now to review and update these contracts before the consequences of including an unfair contract term in your standard form contracts potentially become even more severe.

The Competition and Consumer Act 2010 (Cth) (CCA) was amended with effect from 1 September 2018 to align the penalties for breaches of the Australian Consumer Law (ACL) to the penalties arising from breaches of the anti-competitive provisions of the CCA. The consequences of breaching the consumer protection provisions of the ACL (including unconscionable conduct, making false or misleading representations or supplying consumer goods that do not comply with safety standards etc) are now significantly increased.

For corporations, the penalties have increased from a maximum of $1 million per contravention to the greater of:

• $10 million; and
• Three times the value of the benefit received; or
• 10 per cent of annual turnover in the preceding 12 months (if the Court cannot determine the benefit obtained from the offence).

For individuals, the penalty has increased to $500,000 per contravention.

The consequences of failing to comply with the ACL are therefore now even more significant for franchisors. This may be a good time for franchisors to revisit or update your consumer law compliance programs to ensure that all staff and franchisees are aware of their obligations under the ACL.

We regularly conduct ACL compliance training for franchisors and targeted sessions for franchisees and sales/field staff. Please let us know if you would like to discuss your current consumer law compliance program or our online compliance training program, Compliance Manager.

The ACCC was quite strident in its submission to the Parliamentary Franchising Inquiry, making specific recommendations for changes to the Franchising Code of Conduct and the additional strengthening of the prohibitions on unfair contract terms.

In clarifying its role, the ACCC noted that “whilst the ACCC does not become involved in the vast majority of franchise disputes, it is critical that the ACCC is able to ensure that significant and systematic instances of non-compliance are identified, investigated and penalised.”

The ACCC then chronicled its track record for effective sector oversight and enforcement, noting that 97 compliance checks had been undertaken on franchisors and emphasising the success of the ACCC’s educational and outreach initiatives.

In a key statement the ACCC submitted that the lack of consequences for breaching parts of the Franchising Code undermines the ACCC’s ability to ensure compliance with the Code. The ACCC also made a number of specific recommendations:

• New civil penalties:
  • Civil pecuniary penalties (and therefore infringement notices) should be made available for all breaches of the Franchising Code and the Oil Code. The 2015 amendments to the Franchising Code introduced new penalties for specific Code breaches, being the most important provisions. Currently, unlike the Franchising Code, there are no penalties for any breach of the Oil Code. The ACCC considers that penalties should apply to all breaches, so it is able to issue infringement notices on all matters. It is hard to argue why the Oil Code penalties should not at least mirror the Franchising Code penalties.
  • The amount of civil pecuniary penalties available under the CCA for breach of a prescribed industry code be increased to at least reflect the penalties currently available under the ACL.
• It should be illegal for an unfair contract term to be included in a standard form contact, and pecuniary penalties and infringement notices should apply to any breach of the prohibition. See article above.
• The Franchising Code disclosure requirements should be amended to require Franchisors to disclose meaningful information about establishment costs and other expenses to prospective Franchisees. This recommendation could potentially impose substantial additional compliance costs.
• The Franchising Code should be amended to require Franchisors to disclose certain financial information where a prospective franchisees is considering taking over an existing business.
• The Franchising Code should be amended to prohibit Franchisors from passing on to the prospective Franchisee the legal costs of preparing, negotiating and executing documents. The ACCC postulates that such arrangements may inhibit a prospective franchisee from seeking advice or negotiating agreements. Empirical evidence from the Griffith University survey several years ago does not seem to support the ACCC position. If this recommendation is made one suspects franchisors will simply just increase their initial franchise fee.

The ACCC also recommended that a number of technical amendments be made to the Code, notably:

• Amending the Code to make it clear that providing a franchisee’s business details are not a substitute for providing the former franchisee’s actual contact details.
• Disclosure is required of third party payments under the Oil Code (as is required under the Franchising Code).
• Greater clarity is needed around the operation of the Code’s marketing fund obligations.
• Amending the Code to require that mediation commence within a specified time period once a mediator has been appointed.
• Amending the Code to allow a mediator to undertake multi-franchisee mediations (noting that other sections of the Code may also need to be amended).
• Making various amendments to the Oil Code to bring it into line with the Franchising Code.

These recommendations were reinforced when the ACCC’s Deputy Chair Commissioner Mike Keogh spoke to the Legal Symposium at the National Franchise Convention in October this year.

Commissioner Keogh again made it clear in his keynote speech that the ACCC’s position is that the Franchising Code needs to be revised to introduce significantly increased penalties for breaches of the Code. “The ACCC wants to see the Franchising Code strengthened, and supported by stronger penalty provisions to ensure franchise systems operate well for all parties involved, to encourage compliance with franchise agreements, and to keep competition on an even keel.”

It will be interesting to see how the ACCC’s recommendations are received by the Inquiry, and potentially by the Government of the day if the outcomes of the Inquiry lead to some form of legislative response.

In the meantime we can report enhanced ACCC enforcement activity, and a definite desire on the part of the ACCC to be active in the oversight of the franchise sector. Particular areas of focus seem to be the administration of marketing funds, and the operation of rebate and supply chain arrangements.

The Franchise Council of Australia has announced it will be implementing a raft of initiatives in response to the issues identified in the Franchising Inquiry.

The FCA has already publicly indicated the likely elements of this industry response, being the introduction of new mandatory Member Standards for members of the FCA concerning:

• Mandatory legal and financial advice for franchisees, rather than the present recommended but optional arrangements that typically lead to a franchisee certifying that they were told to obtain advice, but elected not to do so. There is compelling evidence that franchisees that obtain advice are more successful, and find the Franchising Code disclosure process sufficient for their requirements; and
• Mandatory franchisor registration on an approved public registry of franchise systems, such as the Australian Franchise Registry, thereby providing base level assurance that franchisors have a current disclosure document. The ACCC will also then have a mechanism for identifying early warning signs that can lead to a more proactive approach to compliance enforcement.

The FCA is also introducing additional educational initiatives, producing franchising guides for lawyers and accountants and assisting the Australian Small Business and Family Enterprise Ombudsman enhance the effectiveness of the Franchising Code mediation process.

We expect to hear more about these initiatives early next year.

The Shadow Assistant Treasurer, Dr Andrew Leigh MP, announced in September this year that if voted into office at the next Federal election, a Labor Government will implement an industry-specific Code for the franchised new car dealer industry. Dr Leigh said that the new 'Dealer Code' will “drive a better deal for auto dealers by levelling the playing field between the overseas multinationals that manufacture cars and the small businesses that operate car dealerships”. Labor plans to implement the Dealer Code through regulations under the Competition and Consumer Act, in the same manner as has occurred with the Franchising Code of Conduct.

The Australian Automotive Dealers Association (AADA) has been advocating for a Dealer Code to help address alleged power imbalance between some dealers and manufacturers, and to address alleged behaviours within the franchised new car retail industry which, in its view, are not effectively prevented by the Franchising Code of Conduct. The review of the franchise sector conducted in 2013 by Alan Wein recommended a further specific inquiry into motor vehicle sector issues. However Labor’s proposal seems to jump that step, and flags the introduction of a specific mandatory industry code for new motor vehicle franchisees. Although industry consultation is mentioned, motor vehicle companies need to be prepared well in advance to ensure consultation is substantive, and also alive to the risk that the AADA may well seek to replicate in the new Code the sweeping provisions in the NSW Motor Dealers and Repairers Act.

Although it makes sense to address industry specific issues via an industry specific code, a question arises as to whether there is sufficient justification in this instance. Or could a separate annexure to the current Franchising Code dealing with the small number of genuine industry issues be a better and more cost-effective regulatory response? As Alan Wein noted at the National Franchise Convention in October this year, the only substantive issues seem to be tenure in the context of significant capital investment by dealers, and termination without cause provisions in some dealer agreements. These could be easily addressed in a separate schedule to the Franchising Code, particularly as the vast majority of the provisions in the Franchising Code of Conduct would appear to be entirely appropriate to the motor vehicle sector.

Advocates of the separate code need also to heed the lessons of the Oil Code, where the comparable sections were enacted in substantively identical form to the Franchising Code, but were not updated and improved as changes were made to the Franchising Code over the years. As a consequence, oil industry franchisees arguably ended up worse-off by having a separate code.

The Treasury Laws Amendment (Gift Cards) Bill 2018 was passed on 18 October 2018. It amends the Competition and Consumer Act 2010 to introduce a national regime to regulate gift cards. The Act reflects similar legislation which was passed by NSW Parliament in October 2017 and the Fair Trading (Gift Cards) Amendment Bill 2018 (SA) which was recently introduced by the South Australian Parliament.

The new regime requires that gift cards have a minimum three year expiry period and include prominently the expiry information on the card itself so that consumers are aware and understand when the gift card will expire. The new laws will also prohibit retailers charging post-purchase fees to a consumer after a gift card has been supplied. These fees work to erode the value of a gift card over time and act as a ‘de facto’ expiry date.

Failure to adhere to the new laws may attract a maximum penalty of $30,000 for a body corporate.

The introduction of these national gift card requirements means that national franchisors will at least have a consistent law applicable across Australia rather than trying to operate their gift card programs in different Australian jurisdictions under different laws. Many national franchisors already elected to apply the same expiry date to gift cards sold across the country after the introduction of the NSW legislation in late 2017.

The new laws will commence from November 2019. In the transitional period, franchisors should review their stock of gift cards, update the terms and conditions of their existing gift cards, as well as point of sale and other material relating to gift cards, to ensure they reflect the new laws. Franchisors should also review any fees or charges that apply to their gift cards following purchase of the gift card.