Federal Government to address perceived weaknesses in franchising sector with amendments to Franchising Code

What you need to know

• On 6 November 2020, the Federal Government released Exposure Draft legislation setting out its proposed changes to the Franchising Code of Conduct (Exposure Draft).
• The changes to the Franchising Code will implement the Government's response to the Fairness in Franchising report (Report), which was published by the Parliamentary Joint Committee on Corporations and Financial Services in March 2019, and identified a number of weaknesses in parts of the franchising economy in Australia. 
• The Government is proposing to adopt many of the recommendations in the Report to improve fairness and transparency for franchisees – intended to restore confidence in the industry. However, the Government will not be adopting a number of significant recommendations in the Report, most notably the recommendation to raise the maximum penalties for contravention of the Franchising Code to align with the maximum penalties available under the Australian Consumer Law (ACL).

What you need to do 

• Franchisors should be aware that the Government is proposing to amend key provisions of the Franchising Code which may have commercial and practical implications for their business operations.
• While the Exposure Draft consultation process is ongoing, existing and prospective franchisors should be prepared to review their franchise agreements and operations, particularly in relation to disclosure requirements, cooling off periods, termination obligations, dispute resolution mechanisms, early exit obligations and unilateral variation clauses.
• The final form of amendments are expected to be introduced in early 2021 so watch this space for developments.

Key takeaways from the Exposure Draft

The Exposure Draft focuses on perceived weaknesses in the current franchising environment and is designed to improve transparency and to protect franchisees in response to the deficiencies identified in the Report. Yet, in its Exposure Draft, it is clear that the Government has sought to strike a balance between the interests of both franchisors and franchisees. The adoption of all the recommendations in the Report would have materially increased the obligations and compliance costs of franchisors, but the Government has stopped short of this.

The key changes include: 

• doubling the penalties that apply for a breach of the Franchising Code;
• preparing a new mandatory Key Disclosure Information Fact Sheet to improve and simplify upfront disclosure, highlight key information, and assist franchisees to understand obligations and the risks associated with entering a particular franchise agreement;
• introducing new disclosure requirements for significant capital expenditure, arbitration of disputes, early termination methods, supplier rebates and leasing information; 
• prohibiting (and having pecuniary penalties for) franchisors passing on the legal costs of preparing, negotiating and executing documents to the franchisee;
• preventing franchisors from retrospectively varying the terms of an agreement unless the franchisee, or a majority of franchisees, agree to the change; 
• extending the cooling off period after entering into a franchise agreement from 7 to 14 days; and
• strengthening dispute resolution options through the introduction of conciliation and voluntary binding arbitration, in addition to mediation, through the Australian Small Business and Family Enterprise Ombudsman.

A few points of interest arising from the proposed changes are as follows:

Increased penalties and enforcement 

Both the Report and the Government's response acknowledged that the current regulatory environment ‎fails to adequately deter systemic exploitation.‎

Notably, the Report agreed with the ACCC's recommendation that civil penalties should be made available for ‎all breaches of the Franchising Code and that the quantum of penalties available for breach be ‎significantly increased to ensure that penalties are a meaningful deterrent, such as to at least reflect ‎the penalties currently available under the ACL. ‎

However, the Government did not adopt this recommendation. The Exposure Draft proposes to merely double the pecuniary penalties for breach of an industry code (including the Franchising Code) from 300 penalty units (currently, AU$66,600) to 600 penalty units (currently, AU$133,200) which the Government considers to be a "significant increase" that will "encourage greater compliance with the Code". 

The Government will also amend the Franchising Code to apply penalties for breaches of clauses that relate to the use of marketing funds, but will not extend penalties to all breaches of the Franchising Code.

Pre-contractual disclosure obligations

The Exposure Draft requires the franchisor to furnish the prospective franchisee with certain relevant documents at least 14 days before the franchise agreement is executed, including copies of the executable franchise agreement, disclosure document, Key Facts Sheet, Franchising Code and certain lease documents. The franchisor will be required to provide these documents in hard copy and/or electronic form, where the prospective franchisee requests it, to make the disclosure process more accessible for the franchisee.

The Key Facts Sheet is to highlight the most critical information from a franchisor's disclosure document. The Exposure Draft contains three mock-up versions of a proposed Key Facts Sheet with the finalised version to be selected based on the outcome of the public consultation process. 

Unfair contract terms reform

The Report identified a power asymmetry caused by the operation of unfair contract terms in franchising relationships, and expressed concern that the current regulatory framework creates difficulties for franchisees to challenge a potentially unfair provision. Accordingly, the Report recommended that the Government assess the appropriateness of making unfair terms illegal in franchising agreements, and to introduce civil pecuniary penalties and infringement notices for such contraventions. 

The issue of unfair contract terms specific to franchising agreements seems unresolved for now, given it was ultimately not included in the Exposure Draft. However, the Government is actively pursuing a separate reform process to make unfair contract terms unlawful and give courts the power to impose a civil penalty, instead of simply deeming such terms void and unenforceable. 

In the meantime, the ACCC also continues to take action against franchisors that include unfair contract terms in franchise agreements, either by taking those parties to court or by accepting court enforceable undertakings. For example:

• In November 2020, ACCC accepted a court-enforceable undertaking from home security provider Tyco Australia Group, trading as ADT Security, to refund consumers who were wrongly invoiced, and to remove or amend certain unfair contract terms from its residential customer service agreement.
• In October 2020, the ACCC instituted  proceedings in the Federal Court against printing company Fuji Xerox, alleging that in total nine types of Fuji’s standard form small business contracts contain 173 unfair contract terms.
• In September 2020, the ACCC accepted a court-enforceable undertaking from Back in Motion Physiotherapy to remove certain restraint of trade and buy-out fee terms from its franchisees agreements which it admits may be unfair. 

Authors: Melissa Fraser, Partner; Andrew McClenahan, Lawyer; and Veronica Murdoch, Graduate.