From 1 January 2015, a new Franchising Code of Conduct will apply to most franchise agreements, resulting in new disclosure requirements, fines for non-compliance and parties’ conduct being subject to an obligation to act in good faith. It is important that franchise agreement managers take steps
to understand the new legislation and when it will apply, as there are staged transitional provisions. Below we set out the key changes and what you should do now.
Good faith obligation
The most significant change is the requirement that each party to a franchise agreement acts in “good faith” in respect of any matter regarding a franchise agreement (eg disputes) or the new Code. This requirement will apply to conduct after 1 January 2015 in relation to all franchise agreements entered into after 1 October 1998.
This obligation will apply not only during the term of a franchise agreement but also during pre-agreement discussions and negotiations and disputes after termination. Parties cannot “contract out” of the good faith obligation.
The new Code will adopt the common law meaning of “good faith”, but provides the following non-exhaustive list of matters which the court may take into account:
- Whether a party has acted honestly and not arbitrarily and
- Whether a party cooperated to achieve the purposes of the agreement.
The good faith obligation is likely to give rise to some uncertainty for both franchisees and franchisors, particularly in the short term until the courts have had the opportunity to provide further franchise-specific guidance.
The new Code specifies that the obligation does not prevent a party from acting in its own “legitimate commercial interest”. It also states that the absence of a renewal/extension right in favour of the franchisee does not mean the franchisor has failed to act in good faith.
Some practical examples of conduct which you should be mindful of in the context of the good faith obligation include:
- Conduct which is not in pursuit of legitimate commercial/business interests, such as conduct which is strategically motivated to put a franchisee out of business
- An arbitrary/unreasonable exercise of contractual discretion
- Conduct which effectively renders the franchisee’s interest under the franchise agreement worthless
- Failure to give serious and genuine consideration to the other party’s position in a negotiation
- Deliberate failure to disclosure relevant information, for example in a dispute or pricing context
- The purported termination of a franchise agreement by relying on technical or minor breaches in circumstances where the breaches are not the real motive for the termination.
New disclosure requirements
There are a number of changes to the disclosure requirements in the new Code, including a new form of disclosure statement which requires additional disclosures (eg in relation to litigation involving directors of the franchisor’s associates and also information regarding online sales).
In addition to the disclosure statement, franchisors must give prospective franchisees an “information statement” (in the form set out in the new Code) which summarises key franchising “risks and rewards”.
New penalties for breach
Fines of up to $51,000 will apply for certain breaches of the new Code, including the “good faith” requirement and the obligation to create and maintain a disclosure document (and other disclosure document obligations). The ACCC can also issue infringement notices of $8,500 per breach.
What else will change?
There are a number of other changes under the Code. You will need to review the following elements of future franchise agreements for compliance with the new Code:
- Restraint of trade clauses
- Waiver/release clauses
- Governing law
- Dispute resolution.
When must you comply with the new Code?
The new Code will generally apply as follows:
- New franchise agreements: All new agreements entered into after 1 January 2015.
- Existing franchise agreements: From 1 January 2015 in relation to existing franchise agreements entered into after 1 October 1998. There are some exceptions for specific Code provisions, however, these exceptions cease to apply if the agreement is varied or transferred after 1 January 2015.
- Good faith obligation: New agreements entered into after 1 January 2015 and conduct occurring after 1 January 2015 in relation to existing franchise agreements entered into after 1 October 1998.
- Disclosure documents: There is a grace period until 31 October 2015 for franchisors to update their existing disclosure documents to comply with the Code.
What do you need to do?
You should act now to review and update your business processes, franchise agreements and disclosure documents to ensure you can comply with the new Code.
This review process is crucial in the context of the substantial penalties which can be imposed for breaches of the new Code.
It is important to take steps to ensure franchise agreement managers understand the new good faith obligation, particularly in the context of franchise agreement disputes.
You should also have procedures in place to capture any amendments to a franchise agreement after 1 January 2015 (non-written amendments could be particularly problematic), remembering that the smallest amendment to an existing agreement (entered into after 1 October 1998) will trigger a requirement to update the entire agreement in line with the new Code.