Australian Government releases its new draft franchising law for brief consultation period

October 16, 2024

Key points

• The Australian federal government has released its proposed draft re-write of the national franchising law.
• This law in the primary legislation in Australia that regulates the franchising sector as well as certain automotive and machinery dealership agreements and some other distribution and licensing arrangements.
• The draft law is a substantial rewrite.
• There is a very short consultation period ending on 29 October 2024.
• The proposed laws are set to commence on 1 April 2025.
• This article discusses the key changes and their potential impact.

Introduction

As mentioned in our earlier article on the plans by Australia's federal government to amend the franchising laws, the exposure draft of the new laws has been released in October 2024 for public consultation. Time is short to provide views - any submissions are due on 29 October 2024.

Partner, Robyn Chatwood, and Managing Associate, Suman Reddy, discuss the proposed changes and their implications below.

Background

The background to the Australian federal government's proposed changes is that, in 2023, Dr Michael Schaper (previously Deputy Chair of the Australian Competition and Consumer Commission (ACCC) and the ACT Small Business Commissioner) was asked to review Australia's main law regulating the franchising sector - the Franchising Code of Conduct (Code) (Review).¹ The purpose of the Review was to evaluate the effectiveness and fitness for purpose of the Code. A trigger for the Review was that the Code was scheduled to sunset in April 2025. Dr Schaper's final report was published in February 2024. The Australian federal government responded to that Review report in May 2024 agreeing with all of Dr Schaper's recommendations (Government Response).

Below is a summary of the key changes and their implications.

It is not yet clear how and whether existing agreements will be regulated by the new laws. The new draft Franchising Code of Conduct in accessible online at Franchising Code of Conduct Consultation page [link] together with its accompanying Explanatory Statement and an Information Paper.

	Change proposal	Implications for Franchisors	Implications for Franchisees
1. New obligation on franchisors to provide the franchisee with a "reasonable opportunity to make a return on investment"	Currently new motor vehicle dealership agreements must include an obligation on the franchisor to provide a reasonable opportunity for the franchisee to make a return on investment. This is extended to all franchise agreements. The drafting provides that the opportunity for a return on investment must be "during the term of the agreement" and it applies to "any investment required by the franchisor as part of entering into, or under, the agreement." The related explanatory materials provided with the exposure draft state that "what is considered a reasonable opportunity will be specific to the terms of each agreement, the costs paid by the franchisee and the length of the agreement. Franchisors are not expected to provide a contractual guarantee of a profit or the success of the franchisee's business. It is not intended to remove the inherent risks of running a business but is intended to ensure that the term of a franchise agreement is consistent with the level of capital investment required."	Franchisors will likely be unhappy with this new obligation as it may materially change their commercial model - such as the length of the term being offered to the franchisee. It may also affect the agility of the franchise to respond to market requirements if that increases the investments required by franchisees to respond to them to stay competitive. There are likely to be disputes over what is considered to be a "reasonable opportunity" and how over-investment by a franchisee will be factored in. Another contentious issue will be how returns will be measured. This may threaten the viability of some franchise models in Australia.	Franchisees will welcome the prospect of longer terms to their franchise agreements and any reallocation of the risk of investment back to the franchisor. Prospective franchisees may be more tempted to enter into franchises (as distinct from investing in non-franchised small businesses or other investments such as property or equities) where there are no investment assurances. Some franchisors however may be reluctant to appoint new franchisees without a proven track record and so it may make it harder for new entrants to enter into the franchise market.
2. Changes to termination rights including compensation to the franchisee for early termination	Termination rights restructured. Termination for Breach Key changes for termination for franchisee serious breaches include the following characteristics: • Terminations without alternative dispute resolution processes staying: termination on certain grounds with 7 days' notice where the franchisee may not progress the matter to alternative dispute resolution (ADR) where: - there has been a finding against the franchisee by a competent authority in relation to matters that represent serious misconduct by the franchisee - the franchisee no longer holds a licence that the franchisee must hold to carry on the franchised business - the franchisee is a company that is deregistered by the Australian Securities and Investments Commission - the franchisee is convicted of a serious offence - the franchisee no longer holds a licence that the franchisee must hold to carry on the franchised business; - the franchisee becomes bankrupt, an insolvent under administration or a Chapter 5 body corporate; - in proceedings for an order in relation to certain breaches of the Fair Work Act 2009 (Cth) (Australia's key federal workplace law), a court is satisfied that the franchisee has committed that serious contravention or the franchisee is convicted of certain offences under that law; - in proceedings for a civil penalty order in relation to certain contraventions of Australia's key federal migration law, the Migration Act 1958 (Cth), a court is satisfied that the franchisee has contravened the section concerned or the franchisee is convicted of certain offences under that law. • Terminations where rapid alternative dispute resolution may stay: termination on certain grounds with 7 days' notice where the franchisee may progress the matter to expedited ADR where: - the franchisee voluntarily abandons the franchised business or the franchise relationship; - the franchisee operates the franchised business in a way that endangers public health or safety; - the franchisee acts fraudulently in connection with the operation of the franchised business. Termination for convenience rights changed There is a new obligation on franchisors who wish to terminate before the term ends (in absence of franchisee breach) to provide compensation for early termination. The obligation is that the franchise agreement must provide for the franchisee to be compensated if the agreement is terminated before it expires because the franchisor withdraws from the Australian market, or rationalises its networks in Australia, or changes its distribution models in Australia. The agreement must specify how the compensation is to be determined, with specific reference to lost profit from direct and indirect revenue, unamortised capital expenditure requested by the franchisor, loss of opportunity in selling established goodwill and costs of winding up the franchised business. Currently new motor vehicle dealership agreements only have this obligation.	The logic of the change is stated in the documents accompanying the draft law as "that it is not necessary to enable access to ADR because the franchisee has already been afforded a chance to dispute the relevant conduct through the process of the competent authority. In these situations, the provision of access to ADR may delay the franchisor from taking decisive action." Franchisors will welcome there being circumstances that they can terminate for franchisee serious misconduct without being forced to stay termination while rapid ADR occurs. However, the threshold to require a court to make determinations before a franchisor can exercise its rights under the new non-ADR provisions will mean that most franchisors will face too lengthy delays before they can take action to terminate the franchise agreement for these reasons and so the franchisor rights may not have value. We expect that the new obligation on franchisors who wish to terminate before the term ends in absence of franchisee breach to provide compensation for early termination will be a contentious matter - as it has the potential to impose significant costs on the franchisor and may change the economics and viability of the franchise model. Additionally, it may mean that some franchisors will not be as willing to take the risk on appointing certain potential franchisees with less experience / track record - if they have to compensate them for capital expenditure (which may be made by a franchisee in excess of the requirements).	The changes will be welcome by franchisees who will be consider they have more protection against a franchisor from terminating on short notice in circumstances where the franchisor may be arguably acting unfairly or prematurely.
3. New franchisee rights to compensation for non-renewal	There is a new obligation on franchisors to include in the franchise agreement provision for the franchisor to buy back or compensate the franchisee if the agreement is not renewed at its expiry (or the franchisor does not enter into a new franchise agreement with the franchisee) or it is terminated before it expires because the franchisor withdraws from the Australian market or rationalises its networks in Australia or changes its distribution models in Australia. The compensation must provide for outstanding stock of the franchise purchased by the franchisee (that was specified by the franchisor and required in order to operate the franchise in accordance with the franchise agreement or any operations manual), all "essential specialty equipment, branded product or merchandise purchased or maintained by the franchisee" that "could not be repurposed for a similar business", and any other things that the franchisee was required by the franchisor to purchase or maintain for the purposes of the franchise, in order to operate the franchise in accordance with the franchise agreement or any operations manual (however described).	Franchisors will likely be unhappy with this new obligation if it materially impacts their commercial model. The level of compensation is not specified. The explanatory document accompanying the exposure draft states "For example, if a franchisee is intending to purchase a café franchise and the franchisor will require the franchisee to sell coffee only in branded coffee cups and using a specific brand of coffee beans the agreement must provide for how the franchisor will buy back or compensate for the outstanding stock of branded coffee cups. However, the franchisor would not be required to compensate or buy back the coffee beans as they are not specific to the franchise and could be repurposed for another business." There are likely to be disputes over what is considered to be able to be repurposed or a "similar business" and how over-investment by a franchisee will be factored in. This may threaten the viability of some franchise models in Australia.	Franchisees will welcome the prospect of longer terms to their franchise agreements and any reallocation of the risk of investment back to the franchisor. Prospective franchisees may be more tempted to enter into franchises (as distinct from investing in non-franchised small businesses or other investments such as property or equities) where there are no investment assurances. Some franchisors however may be reluctant to appoint new franchisees without a proven track record and so it may make it harder for new entrants to enter into the franchise market.
4. New franchisee rights to opt out of cooling off and disclosures in some circumstances	New provisions will give existing franchisees the right to opt-out of receiving disclosure documents or to opt-out of the 14-day cooling off period where the franchisee has, or has recently had, another franchise agreement with the franchisor that is the same or substantially the same as the franchise agreement and the business that is the subject of the franchise agreement is the same or substantially the same as the business that is or was the subject of the other agreement.	Franchisors need not wait 14 days for the new franchise agreement to take effect which will help operations and increase legal certainty that a transaction is proceeding.	Same as for franchisor - this will be welcomed especially as the franchisee retains its rights to request a disclosure document during the term.
5. Motor vehicle dealership agreement scope	There is an amendment to the definition for "motor vehicle dealership" which is aimed to ensure that any agreements to service or repair motor vehicles by a dealership business involved in buying, selling, exchanging or leasing motor vehicles is also regulated as a motor vehicle dealership agreement.	Some franchisors may have structured arrangements or agreements so as to exclude service and repair work from the dealership agreement to minimise the risk that the other commercial arrangements were regulated under the Code. Now, servicing or repairing of motor vehicles conducted by dealers or associated with a motor vehicle dealership agreement that involves buying, selling, exchanging or leasing motor vehicles will be in any event caught explicitly by the Code as part of motor vehicle dealership agreements.	Franchisees will get better protection if they were part of arrangements structured by the franchisor to ensure the servicing or repairing of motor vehicles by a business was outside the scope of the agreements / arrangements in place for that business who also bought, sold, exchanged or leased motor vehicles.
6. Marketing fund compliance requirements expanding	Compliance obligations in place under the current laws are expanded to all "specific purpose funds" - catching any other funds which franchisors may operate to collect and pool franchisee payments for specific purpose such as marketing or to manage technology platforms.	Franchisors will have greater admin burdens where they operate funds for specific purposes in addition to common marketing funds.	Franchisees will welcome greater transparency about the costs and benefits of the funds which contain their contributions for specific purposes.
7. Pre-contract and annual disclosures	Delete the requirement to produce a separate key facts sheet and add any key facts sheet requirements into the Disclosure Document.	Consolidating documents will be a change that is welcome even if the scope of disclosure is not changed.	The original intention of the key facts sheet, when originally enacted, was to help potential franchisees better understand important information about a franchise by repeating that in a document separate to the disclosure document (given most disclosure documents are very long). Impact will be neutral but the problem that some franchisees find the length of the disclosure document overwhelming is not assisted by this change.
8. Prohibition on franchisor execution of the franchise agreement before lapse of 14 day pre-contract disclosure requirement	There is a new prohibition on the franchisor executing the franchise agreement before the end of the period (called the consideration period) of 14 days after the franchisor giving the prospective franchisee the disclosure documents required under the Franchising Code of Conduct or, if later, the franchisor making changes to the form of agreement (other than certain changes permitted under the existing laws) and giving the prospective franchisee the changed agreement.	This makes clearer that time for pre-contract disclosure will run again if changes are made to the form of franchise agreement to be entered into. Some franchisors will need to update their admin processes to ensure that they do not execute any documents early. Some may consider that this change will hold up legitimate transactions.	Some may consider that this change will hold up legitimate transactions.
9. Record keeping	There is a new obligation on franchisors to bee for 6 years anything written thing that a franchisee or prospective franchisee gives to the franchisor if required or permitted by the Franchising Code of Conduct.	Many franchisors keep records - but may not keep all such records or keep them for such a duration. This may increase admin costs.	This change will have little impact on franchisees.
10. Charging the franchisee for franchisor legal costs	At present, franchisor's legal costs relating to franchise agreement can in some cases be charged to franchisees (such as the franchisor's costs of legal services relating to preparing, negotiating or executing the agreement or documents relating to the agreement). The proposed amendments fetter the amount that can be charged - the costs will need to be only those that are "reasonable and genuine costs" of the services.	Franchisors who pass on such legal costs currently need to set these out in the disclosure document as a fixed sum or a calculation. Cost recovery will be limited to amounts which do not exceed reasonable and genuine legal costs. This may lower the cost recovery in some cases or increase the admin burden to evidence legal costs incurred by the franchisor are genuine.	This change will be welcomed by franchisees.
11. Increased penalties	The scope of penalties is increased (and associated regulatory investigation powers and the infringement notice regime). All substantive obligations placed on parties under the Franchising Code of Conduct now have a penalty provision (set at 600 penalty units - and a Commonwealth penalty unit from 1 July 2024 is set to be AU$330 under draft laws currently underway).1 This means many provisions will have a penalty for breach of AU$198,000 (around US$133,000), noting that the federal laws provide for automatic Consumer Price Index adjustment to penalty units every three years with the next indexation increase set to occur on 1 July 2026. This amount of 600 penalty units is the maximum amount a court can impose for a breach however courts maintain their discretion to determine the value of the penalty depending on the circumstances of the breach.	The increase in penalties increases the risks associated with non-compliance with the Franchising Code of Conduct.	Same as for the franchisor.

Next steps

There is a very short window to provide input on the new draft laws. Consultation closes on 29 October 2024. Please contact Partner, Robyn Chatwood, or Managing Associate, Suman Reddy, or your usual contact in the Dentons Franchising and Distribution team in Australia if you would like advice about these matters or assistance with submissions.

1. Competition and Consumer (Industry Codes-Franchising) Regulation 2014 (Cth).
2. Crimes and Other Legislation Amendment (Omnibus No. 1) Bill 2024 (Cth)