Franchising is essentially a business system that delivers products and services to a particular market place under the franchisor's brand or trade mark, in return for a fee. The fee may be a combination of an upfront payment and an ongoing royalty.
Franchising allows a person to set up their own business, but their business is supported by a tested business system. This is known as a "business format" franchise. In these types of business the franchisor provides training, equipment, marketing tools and brand recognition.
The Franchising Code, which is underpinned by the Commonwealth Trade Practices Act, regulates the rights and obligations under a Franchise Agreement.
The Franchise Agreement
The Franchising Code defines "Franchise Agreement" as an agreement, that is either written, oral or implied.
In the agreement, the franchisor grants to another person (the franchisee) the right to carry on the business of offering, goods or service, under a system (or marketing plan) determined by the franchisor.
The operation of the business is associated with a trade mark, advertising or a commercial symbol, that is owned or licensed by the franchisor.
Before starting business, the franchisee must pay or agree to pay either:
- An initial capital investment fee; or
- A payment for goods or services; or
- A fee based on a percentage of gross or net income (eg. royalty or franchise service fee); or
- A training fee or training school fee.
This amount does not include:
- Payment for goods and services at or below their usual wholesale price; or
- Repayment by the franchisee of a loan from the franchisor; or
- Payment of the usual wholesale price for goods taken on consignment; or
- Payment of market value for purchase or lease of real property, fixtures, equipment or supplies needed to start business or to continue business under the franchise agreement.
It’s worth noting that, the following relationships are specifically excluded from the definition of "Franchise Agreement"
- Employer and employee;
- Partnership;
- Landlord and tenant;
- Mortgagor and mortgagee;
- Lender and borrower;
- The relationship between the members of a co-operative registered, incorporated or formed under Australian State and Federal Co-operatives legislation.
The Disclosure Document
The most important requirement under the Franchising Code and the ACCC is for the franchisor to give full disclosure of a number of matters to the franchisee. This is before receiving any non-refundable money from the franchisee or before the franchisee enters into a Franchise Agreement. It is called a “Disclosure Document”.
Franchisors must update their Disclosure Document at least annually within three months after the end of each financial year (ie. by 30 September each year).
There are three exemptions or exclusions from the operation of the Franchising Code:
1. Where the franchisor is resident or incorporated outside Australia and grants only one franchise or master franchise to be operated in Australia.
2. Where another mandatory industry code, prescribed under section 51AE of the TPA applies to the franchise agreement.
3. If the Franchise Agreement is for goods or services that are substantially the same as those supplied by the franchisee before entering into the Franchise Agreement. The franchisee has supplied those goods or services for at least two years immediately before entering into the Franchise Agreement. Sales under the franchise are likely to provide no more than 20% of the franchisee's gross turnover for goods or services of that kind for the first year of the franchise.
During any given year, updates are not required unless they relate to changes in ownership or control of the franchisor, or to certain types of litigation.
The Disclosure Document must be given to a potential franchisee at least 14 days prior to the franchisee:
- enters into a franchise agreement.
- Agrees to enter into a franchise agreement.
- Pays any non-refundable money to the franchisor.
The Disclosure Document must be set out, be numbered and contain prescribed information and answers to prescribed questions.
This is set out in clear detail the Franchising Code and includes:
- information about the franchisors' details and business experience;
- lawsuit history;
- payments to agents;
- details of existing franchisees;
- franchise site or territory selection procedures;
- intellectual property ownership;
- supply of goods and services to and by franchisees;
- marketing or other co-operative funds;
- payments due under the Franchise Agreement;
- summaries of franchisors and franchisees' obligations;
- other material conditions of the agreement; and
- financial details and earnings information of the franchisor.
The ACCC keeps a close watch to ensure that franchisors comply with their disclosure requirements. The ACCC has power to take legal action against any party not complying with the disclosure requirements. Recent case law indicates the ACCC is becoming more vigilant.
A franchisee may terminate the franchise relationship:
- within 7 days after signing the Franchise Agreement or making a payment under the franchise agreement (the cooling off period);
- with the consent of the franchisor;
- in accordance with any other rights under the particular franchise agreement;
- at common law if:
- the franchisor has rejected the Franchise Agreement by indicating that it no longer wishes to be bound by its terms;
- the franchisor breaches an essential term of the Franchise Agreement; and
- the franchisee was led to enter into the Franchise Agreement by a false representation or statement and has not, since becoming aware of the false information, decided to uphold the Franchise Agreement.
In relation to selling your business, the Franchising Code states that the franchisor may not unreasonably prevent you from selling. It further states that it would be okay for the franchisor to withhold consent to sell where:
- the proposed buyer is unlikely to be able to meet the financial obligations under the Franchise Agreement; or
- the proposed buyer does not meet a reasonable requirement of the Franchise Agreement for the transfer of a franchise; or
- the proposed buyer has not met the selection criteria of the franchisor; or
- agreement to the transfer will have a significantly adverse affect on the franchise system; or
- the proposed buyer does not agree in writing to comply with the obligations of the franchisee under the Franchise Agreement; or
- the franchisee has not paid or made reasonable provision to pay an amount owing to the franchisor; or
- the franchisee has breached the Franchise Agreement and has not remedied that breach.
Further obligations may be imposed upon the transfer under the Franchise Agreement (eg. that a transfer fee be paid.)
In relation to disputes, the Franchising Code requires that a complaint handling and dispute resolution procedure is included in the Franchise Agreement. This helps facilitate mediation of disputes rather than costly lawsuits.
Franchising is a great business model but you need to be aware of your rights and responsibilities. The normal checks and due diligence that you would apply in starting your own business equally apply in relation to a franchise.