Background

Changes are coming to the Franchising Code of Conduct. The Treasury has published the Competition and Consumer (Industry Codes-Franchising) Regulations 2024. This new Franchising Code of Conduct will come into force on 1 April 2025, which will repeal the current Code. We will discuss some of the key changes and their implications below.

Key Changes

Reasonable opportunity to make return on required investment

One of the most significant changes to the Code is the extension of section 44. It will require that all franchise agreements must provide franchisees with a reasonable opportunity to achieve a return on the investment required by the franchisor. This requirement exists in the current Franchising Code, however, it had only applied to new vehicle dealership agreements.

The Explanatory Statement stated that this is not intended to remove the inherent risks of running a business. But it is intended promote fair opportunities for franchisees.

There are concerns that this extension to all franchises will create regulatory uncertainty:

The extension without any modification ignores the differences in business models between vehicle dealerships and other franchises. The Franchise Council of Australia (FCA) pointed out that vehicle dealerships are ‘solely focused on profit’ whereas return for franchises in the broader sector is a combination of wages, tax and other benefits.
Almost all investments by a franchisee are ‘required by the franchisor’ in a typical franchise agreement. For example, landlords will generally impose an obligation for the franchisees/tenants to meet the fit-out requirements. Is this considered as part of the ‘required investment by the franchisor’?
What is the minimum profit margin required to constitute an ‘return on investment’? Is a return of 1% on investment enough to satisfy the section 44 requirement?

Although the Explanatory Statement has noted that that franchisors are not required to provide contractual guarantee of profits or business success, it remains to be seen how this section would be interpreted.

Compensation for Early Termination

Another important change in the new Franchising Code is the introduction of section 43. Section 43 largely replicates existing requirements in the Current Code that had applied only to new vehicle dealership agreements.

The section requires the franchisors to provide compensation to the franchisees in the event that the franchise agreement is terminated before it expires, or it is not renewed. There are three trigger events that give rise to a compensation under section 43(2)(a):

if the franchisor withdraws from the Australian market; or
rationalises its networks in Australia; or
changes its distribution models in Australia.

It is unclear what constitutes a ‘rationalising of network’ and what changes can be made to the distribution models without triggering this section.

Section 43(4) provides two categories of things which the franchisor is required to buy-back or compensate. In summary, the franchisors need to buy-back (a) all the outstanding stock for the franchise; and (b) all the essential specialty equipment and branded products that was specified by the franchisor and cannot be repurposed for a similar business.

The introduction of section 43 significantly increases the risk for franchisors. It remains to be seen the level of compensation required by the franchisor in these cases, and how the value for the outstanding stock and equipment will be determined. Franchisors may want to reassess their franchise agreements and operational manuals.

Other Changes

Clarifying the purpose of the code: The New Code will address the power imbalance between franchisors and franchisees and improve industry conduct standards to reduce disputes between franchisors and franchisees.
Capturing service and repair work conducted by motor vehicle dealerships: The New Code will include ‘any servicing or repairing of motor vehicles’ to the definition of motor vehicle dealership.
New opt-out provisions: Franchisees will have the ability to opt-out of receiving disclosure documents and the 14-day cooling off period when entering into a franchising agreement.
Termination for serious breach: Alternative dispute resolution is not required if there has been a formal finding of serious misconduct. The franchisor will be able to terminate with 7 days’ notice.
Power to publicly name non-complaint franchisors: The new Code grants the Australian Small Business and Family Enterprise Ombudsman (ASBFEO) the power to publicly name franchisors that do not engage meaningfully in ADR. The aim is to promotes accountability and transparency.
Increase in penalties: A penalty of 600 units will apply to all breaches of substantive obligations. The value of one penalty unit is $330 at the time of this article, making the penalty $198,000.

Take Away

If you are a franchisor or a franchisee, it is important to be aware of the upcoming changes to the Franchising Code of Conduct. The new Code changes will significantly increase the compliance burden and risk for the franchisors.

The new Code is set to commence on 1 April 2025, franchisors may need to redraft the franchise agreements before that date to avoid penalties.

Please contact us if you would like more information or would like to discuss any of the above:

Alicia Hill
Principal
T: +61 3 9611 0180 | M: +61 484 313 865
E: ahill@sladen.com.au

Inshani Ward
Senior Associate
T: +61 3 9611 0110 | M: +61 413 557 157
E: iward@sladen.com.au

Samuel Zhang
Law Graduate
E: szhang@sladen.com.au