A raft of proposed changes to the Franchising Code of Conduct, including additional disclosure obligations for franchisors, are currently being considered by the Federal Government.

The proposed changes are almost exclusively for the benefit of franchisees, and harsher penalties will apply to franchisors who do not comply with obligations under the code.

If passed, they are expected to come into effect from July 1 this year.

The new rules of engagement will have a significant impact on a key industry in the South Australian economy involving global and national brands, small business owners and many thousands of employees.

The back story

In 2019, a Parliamentary report into Australia’s franchise industry found the current regulatory environment did not deter systemic poor conduct and that exploitative behaviour had entrenched the power imbalance between franchisors and franchisees.

One of the main reasons why a franchised business fails is due to the inability of a franchisee to meet the various financial commitments during the lifecycle of their franchised business.

Such financial commitments include rent for the premises, fit-out costs, purchase of goods, employee costs and refurbishment costs.

One of the ways in which franchisees can be better prepared to meet these financial commitments is to ensure that there is more detailed and robust disclosure to franchisees prior to commencement of the franchise.

In response, the Australian Government’s Franchising Taskforce outlined a revised Franchising Code of Conduct that included additional disclosure obligations on franchisors, as well as other changes which will prevent franchisees from incurring unexpected legal costs or capital expenditure costs.

What changes are in store?

Disclosure obligations

• A key fact sheet must be provided 14 days before a prospective franchisee enters into the franchise agreement.
• Where a franchisor is the lessee and the franchisee is to be a sub-lessee, the franchisor must provide the franchisee with a copy of the head lease and any disclosure documents/statements the franchisor has received in accordance with a State or Territory law at least 14 days before the franchisee signs the franchise agreement.
• An information statement must be provided to the prospective franchisee prior to the disclosure document and franchise agreement being issued (where currently in practice it’s issued at the same time).
• Franchisors will need to disclose if they or any of their associates will receive a benefit from the supply of goods or services to the franchisee, and provide details as to that benefit.

Costs and cooling off

• Changes to notification practices from July 1 to prevent franchisees being blindsided by capital expenditure requests from a franchisor.
• Penalties of $133,200 will apply to franchisors’ non-compliance with marketing fund provisions.
• Tighter compliance requirements on a franchisor’s ability to pass on legal costs involved in preparing the franchise agreement.
• A franchisee’s cooling off period will increase from 7 to 14 days.
• Franchisees will be able to propose to terminate a franchise agreement at any time in writing. Franchisors are still able to terminate a franchise agreement under the Code’s special circumstances termination rights but must now provide the franchisee with 7 days’ notice and the reasons for termination.

Be prepared

Many of these proposed changes aim to help franchisees make more reasonable and informed assessments of the value of and cost to run a franchise before entering into a contract with a franchisor.

This is to ensure that a franchisee is able to make a fully informed decision as to whether or not they should proceed with the franchise and to avoid any nasty costly surprises down the track.

The practical issue for franchisors is being able to identify and accurately estimate the likely costs prior to commencement of a franchise, particularly in circumstances where the term of the franchise is likely to be five years or more.

While this reform represents a greater administrative and compliance burden on franchisors, it is hoped that by building greater transparency and accountability the industry as a whole will benefit.

However, as with any reform, much of the devil is in the detail and there are significant penalties for non-compliance of which to be aware.

It’s vital therefore that both franchisors and franchisees seek professional legal advice to ensure they understand their obligations and rights, and are well prepared before any changes take hold.

Megan Jongebloed is Head of Cowell Clarke’s Franchise Law Group.