Questions & Answers - Issue 3#2

By Business Franchise Magazine

This article appeared in Issue 3#2 (January/February 2009) of Business Franchise Australia & New Zealand

Can a franchise agreement include a right for the franchisor to terminate even if there hasn't been a breach?

The Franchising Code of Conduct (the Code) includes provisions for the termination of a franchise agreement. The Code provides for a termination of the agreement where there has been a breach by the franchisee (subject to the franchisor giving the franchisee written notice of the breach and an opportunity to remedy the breach) or when there has been no breach by the franchisee (where this is addressed in the franchise agreement). The franchisor may also terminate the franchise agreement in ‘special circumstances’ which are set out in the Code. These include if the franchisee becomes bankrupt, is convicted of a serious offence or abandons the franchise business.

Given the wide rights of termination afforded to franchisors, it is important that franchisees are familiar with their rights under the franchise agreement, particularly where the agreement includes a right for the franchisor to terminate the agreement even when there has been no breach. This issue is compounded by the fact that most franchise agreements include an express clause which states that the franchisee is not entitled to any payment for goodwill upon expiry or termination of the agreement. This means that a franchise agreement can effectively be terminated at any time by the franchisor and the goodwill and other value of the business assumed at no cost.

While this may seem like a favourable clause for franchisors, it is not advisable that franchisors attempt to exercise this right unreasonably. If a franchise agreement is terminated by a franchisor for an extraneous purpose, a franchisee may be able to argue that the franchisor is in breach of the duty to act in good faith. Franchisors must be careful in terminating a franchise agreement, in order to comply with the requirements under the Code and common law.

The Code attempts to balance the right given to the franchisor to terminate the agreement where there has been no breach, by requiring the franchisor to give reasonable written notice of the proposed termination and the reasons for it to the franchisee. This requirement ensures that the franchisor has legitimate grounds for terminating the agreement and the franchisee is given an opportunity to conclude the business. The franchisee also has a right under the Code to refer the matter to mediation in order to resolve any dispute arising out of the proposed termination. 

Answered By: Clare Cahill
Solicitor - HWL Ebsworth Lawyers
Sydney Office
Phone: 02 9334 8647

Elisabeth RitchieIf an Australian Franchisor is thinking of granting a franchise overseas does the agreement need to be compliant with the local laws?

Established Australian franchise systems are increasingly looking to overseas markets as a way to further expand and develop the brand. Regardless of the country which a franchisor decides to move into, there is a great deal of preparation involved with any international agreement. One of the first and most important steps is establishing what the applicable law is in the proposed new country and whether the agreement should be governed by the local law or Australian law.

There has not been an internationally consistent approach to franchising law. Some countries (such as America and Australia) have detailed franchise legislation, which franchisors must comply with. Other countries (such as the United Kingdom, New Zealand and parts of the European Union) have voluntary codes of compliance, which franchisors can choose to opt in to. Finally, some countries (such as Singapore and India) have no specific franchise legislation and the relations are generally governed by existing law such as contract law.

The choice of governing law is central to any agreement and it is important that parties are not seen to be ‘forum shopping’ by looking for the jurisdiction with the most favourable laws and nominating it as the relevant jurisdiction. There are two main reasons for this:

(a)    Evasion of laws is not looked upon favourably by the courts (either in Australia or internationally) and may lead to courts imposing punitive sentences on franchisor companies. 
(b)    Regardless of the law chosen, franchisors are often subject to the foreign laws in any event (just as overseas franchisors are now required to comply with the Australian Franchising Code of Conduct). 

For Australian franchisors looking to go overseas, many may choose to use Australia as the governing law. This may be on the basis that the company primarily operates from Australia, the franchisor is familiar with the law and the franchise system is already operating in compliance with this legislation. Such an explanation is likely to be seen as reasonable grounds for using Australia as the appropriate jurisdiction. However, Australian law may not be the best choice, as the master franchisee usually has assets in its own country and an Australian judgment may not be enforceable in that country.  

It will be important to seek the advice of a local law firm to verify any particular obligations including registering companies, using local directors, tax obligations, customs regulations and intellectual property, and to clarify what particular franchise requirements there are.  Your Australian adviser can then determine, in conjunction with the local lawyer, as to what the governing law should be.

Answered By: Elisabeth Ritchie
Partner – HWL Ebsworth Lawyers
Sydney Office
Phone: 02 9334 8649

Corrine AttardWhat are the repercussions of the slowing economy for the retail franchise sector?

The current slow down in the economy is having a significant and measurable affect on the retail sector as consumer confidence wanes and sales are generally expected to decline over the next 12-18 months. The impact is not uniform and varies across product categories and retailers. Home wares have been particularly hard hit but the statistics show that even takeaway food sales have declined.

An obvious result of the “credit crunch” is less willingness by banks to lend money for retail franchises. Banks already have had considerable exposure in this area and lost considerable amounts, both in the failure of retail franchises and the reduction in value of their mortgage security. Funds are in short supply in any case so potential franchisees who can not finance themselves through cash and substantial real assets are less likely to get funding approval for a business acquisition.

Franchisees are finding it harder to find purchasers so if you really need to sell your business, your price expectation may need to be adjusted down. Purchasers of brand new (therefore untested) franchises are even more difficult to find. While some have touted redundancies as a form of finance, retail franchises often require a level of funding which would exceed the amount of all but the most generous redundancy package. 

With respect to the property industry, while landlords may delay or cancel investment in redevelopment and construction, the availability of space through store closures should reduce rentals, particularly in regions which are hardest hit. It should be noted that several of the major landlords have redevelopment plans already underway and have indicted no intention to slow these. 

Unfortunately the reality is that slowing retail trade, leads to a greater potential for business failure among retail franchisees and this is what both franchisors and franchisees need to face, however unpleasant. 

Retail franchises (unlike service or mobile franchises) are characterised by high investment by the franchisees which are financed through greater borrowing. Loans are usually secured on the family home or other real property and this may have also declined in value. Business failure can be financially and personally catastrophic for the individual franchisee and bad news for the franchisor and the brand.

Retail franchisors should be proactive with regard to assisting their franchisees to ride out the storm.  You should consider where you can help your own business and those of your franchisees achieve efficiencies such as with staff reduction, rostering, inventory control, purchasing and rent. 

Now may be the time to negotiate with landlords for a reduced rent and renegotiate any supply arrangements you may have that are open. Be aware however that certain commodities such as milk and sugar and imported items may have increased substantially since your last contract. Group purchasing or negotiation for services such as insurance, bookkeeping, IT or other services may be possible. Wherever you can make savings then go for it- seize those opportunities.

In some situations stores may need to close and franchisees to exit the system.  Seek legal advice at the earliest sign to enable the exit to be handled as smoothly as possible, limiting brand damage.  If you or your franchisees are at risk of insolvent trading then professional advice is essential.

The message is yes the retail sector is going to take a battering but there will be opportunities, even small ones which can assist retailers to ride it out so ensure that you are getting the right advice to identify these and maximise those benefits.

Answered By: Corinne Attard
Special Counsel – HWL Ebsworth Lawyers
Sydney Office
Phone: 02 9334 8705