The Realities of Outsourcing

        

Changes to Australian Franchise Laws

The Australian Federal Minister for Tourism and Small Business has announced significant amendments would be made to the Federal Franchising Code of Conduct, which is the law that regulates the selling and operating of franchised businesses in Australia (“the Code”). The Code has the full weight of the Trade Practices Act (CTH) 1974 (“Trade Practices Act”), which is Australia’s federal law for regulating commerce, including the franchising industry.

These amendments will come into effect on 1 March 2008 (“effective date”).

The amendments are considerable in nature and thus it is important for franchisors to consider what implications these amendments will have for their existing and prospective business in Australia.

The amended Code has significant implications for franchisors, including:

1. The removal of the exemption for ‘foreign’ franchisors to comply with the onerous disclosure requirements of the Code, which will add significant initial and ongoing compliance costs to franchising in Australia;

2. More scrutiny and continuous disclosure requirements in relation to marketing funds, rebates and pricing strategies; and

3. Provisions that facilitate the ongoing communication between franchisees, ex-franchisees and prospective franchisees.

Key Amendments & Issues

International Franchisors

Once the amendments come into effect, franchisors that are resident, domiciled or incorporated outside of Australia will no longer be exempt from the disclosure document and ongoing disclosure requirements set out in the Code.

International franchisors already operating in Australia or new to the Australian market are currently exempt from these disclosure requirements, but, must meet the newly revised disclosure requirements (including the provision of a detailed disclosure document to franchisees) and ensure that they amend existing franchise agreements to comply with the amendments to the Code by the effective date.

This will mean that an international franchisor will have significant disclosure compliance costs (which to date has not existed under the Code for international franchisors that have granted either a master franchise or appointed one franchise in Australia) leading up to the effective date, and beyond. A international franchisor will need to provide its franchisees with a disclosure document and franchise agreement that comply with the amended Code on the effective date, and will then have to supply a revised disclosure document within 4 months of the end of the 2007/2008 financial year as required by the Code.

International franchisors will also have to implement processes by the effective date for marketing funds, continuous disclosure of materially relevant facts, franchise transfer, franchise termination and dispute resolution that are compliant with the Code.

Prospective international franchisors must also ensure that any franchise agreements and ancillary agreements, such as licensing agreements, supply agreements, services agreements, lease agreements and insurance requirements related to the franchise all properly reflect and comply with the amendments to the Code by the effective date, and from thereon.

Disclosure

The nature and frequency of disclosure for franchisors in Australia has been altered by the amendments.

Key changes include:

1. Current disclosure document must be provided on renewal and on extension of the term of the franchise agreement and also extension of the scope of the franchise agreement;

2. The disclosure document must be updated and provided to franchisees in Australia within 4 months after the end of each financial year;

3. Franchisors must provide prospective franchisee’s with a copy of the proposed franchise agreement in the form in which it is to be executed. Franchisors must provide this at the same time as they provide the disclosure document. The terminology will be changed from ‘intended’ to ‘to be executed’. This raises significant problems regarding contract negotiations and franchisors will have to ensure that the franchise agreement and all ancillary agreements are as conclusive as possible before presenting them to the anticipated franchisee; and

4. Franchisors are required to provide all related agreements at least 14 days prior to the signing of the franchise agreement or at the earliest opportunity if not available.

Conduct

After the effective date, potential franchisees will as be permitted to freely associate with existing franchisees whereas they are not under current law.

Restrictions on franchisees being asked to sign a general release from liability has been extended to prohibit the waiver of any verbal or written representation made by the franchisor.

Significant changes have been made to the reporting requirement for franchise marketing funds. A franchisor is entitled to a 4 month period to prepare the financial statement detailing the marketing fund’s receipts and expenses and to finalise any audit, and the itemisation requirement has been removed. The financial statement must be provided to the franchisee within 30 days of its preparation. The 75% majority vote of franchisees contributing to the marketing fund has to be taken either within 5 months of the end of the financial year or within 2 years of a previous vote.

Disclosure of materially relevant facts

Section 18 of the Code sets out prescribed matters that the franchisor must disclose to the franchisee. The time frame for disclosure has changed from 60 days to 14 days.

The franchisor will be obliged to provide details of all s87B of the Trade Practices Act undertakings within 14 days of the franchisor giving that undertaking and this information must also be included within the disclosure document.

Franchisors will also be required to disclose serious offences as well as any confirmed contraventions of the Corporations Act 2001, the Australian corporate law governing all companies operating in Australia.

Disclosure Document content

Disclosure will be required regarding any legal proceedings etc against any franchisor or franchisor director. Furthermore, the content of any order or undertaking must now be disclosed also. For international franchisors this would include in formal legal proceedings and undertakings in other parts of the world.

The disclosure document require franchisors to disclose all rebates and other financial benefit schemes that are given in connection with the supply of goods or services to the franchisor or an associate. After the effective date the disclosure document must include the names of all parties who provide rebates and financial benefits. This requirement is likely to impact on an international franchisor’s ability to keep its trade secrets, business partnering approach and know how confidential both in Australia and their home country, including pricing strategies and supply arrangements, as such information will now be required to be disclosed to franchisees. It is not however, necessary to disclose the amounts or method of calculation of rebates or other financial benefits.

Disclosure of name, location and contact details of past franchisees that have been terminated, transferred the franchise or otherwise exited the system over the past three years will be required.

Franchisors will have to provide potential franchisees with the disclosure documents as well as the details and the history of the site that is to be franchised.

Relevant conditions of franchise agreements will no longer be able to be summarized; they will need to be set out in detail.

Some other important considerations

The Australian Federal Government has also indicated that it is considering amending s51AC of the Trade Practices Act that would prohibit franchisors from making unilateral changes to and/or unilateral termination of a franchise agreement once it is in place with a franchisee. This amendment is not part of the amendments to the Code taking effect on 1 March 2008, but, they are likely to be made law in the near future given the present climate for regulation of the franchise industry in Australia.

Conclusion

Given the significant changes to the Code that will take effect on 1 March 2008, it is critical that franchisors are aware of these requirements, understand what is required operationally, and are fully compliant by the effective date.

It is also important that franchisors understand that the Code is construed quite widely in Australia to include: traditional food and beverage franchises, but, also automobile dealerships, extensive product distribution systems, professional services networks structured as franchise networks and certain commercial licensing arrangements between companies.

As such, it is important that franchisors prepare to either comply with the Code or consider alternative models to franchising such as accreditation schemes and joint venture/subsidiary company equity strategies for expanding their business in Australia.