Franchising Code of Conduct and New Costs Requirements
The recent amendment to the Franchising Code of Conduct (the Code) has resulted in a number of changes that have been in force since 1 July 2021. These changes largely impact the duties of the franchisors, in line with a government report indicating the need for improved fairness of the Code. Franchisors should urgently attend to ensuring their disclosure documents are compliant with the amendments to the Code, which we have outlined at length in a recent blog. Understanding and abiding by changes to procedures surrounding franchising costs and expenses is crucial to franchisors.
Franchisors must provide franchisees with full capital expenditure information, including:
- The reason for the expenditure;
- The amount, timing and nature of the expenditure;
- The anticipated outcomes and benefits of the expenditure;
- The expected risks associated with the expenditure.
These capital expenditure details must be provided to franchisees who are entering, extending or renewing a franchise after 1 July 2021. This disclosure obligation restricts franchisors from causing franchisees to incur significant capital expenditure without disclosing the expenditure to a franchisee.
Advertising funds are commonplace in franchised businesses. The Code now catches all ‘marketing’ activities, which encompasses a broader range of activities beyond advertising. Franchisors will face civil penalties if the marketing fund fails to comply with new reporting requirements. Both franchisors and any third party administering the marketing fund on behalf of the franchisor must abide by marketing fund obligations. There is a delayed deadline of 31 October 2021, which allows franchisors some time in bringing their marketing fund reporting into compliance.
The recent Code amendment includes a provision whereby franchisors cannot pass legal costs on to franchisees unless the costs are expressly disclosed to the franchisee and are of a pre-determined quantum. Previously, franchisors were able to pass legal costs on to a franchisee without expressly stating the amounts. However, franchisors are now limited to a fixed amount for particular legal costs. The only legal costs recoverable are those associated directly with the preparation, negotiation, and execution of the franchise agreement. The costs must also be payable before the franchisee commences franchise operations.
What does this mean for franchisors?
The amendment to the Code puts a greater onus on the franchisor to disclose information to franchisee and make clear potential franchisee liabilities that a franchisee may incur as a consequence of operating a franchised business including capital expenditures, marketing funds, and legal costs. Even prior to the 1 July 2021 Code changes, franchisors have faced hefty penalties for engaging inappropriately with franchisees.
For example, in this recent case brought by the ACCC against Jump Swim, the franchisor misled franchisees about the time period in which the franchise would be operational, and thus wrongly accepted payments from franchisees. The franchisor, now in liquidation, was ordered to pay $23 million for making false or misleading representations and wrongly accepting payments from franchisees. Its managing director was also ordered to pay $500,000 in compensation, as well as $400,000 in penalties.
While the recent amendments due create more obligations for franchisors, more robust disclosure and reporting requirements may be able to prevent serious financial consequences to both franchisors and franchisees. The financial penalties seen in the Jump Swim case may be better avoided under the new franchising costs regime.