Allan Myers QC leads appeal for Pizza Hut franchisees

Adele Ferguson
May 15, 2017
AFR

The $170 billion franchise industry – and its lobbyists – will nervously watch a court case about to be unleashed in the Federal Court between Pizza Hut franchisees and their former franchisor, US-based fast food giant Yum!

The appeal case, which begins today, comes as the relationship between franchisors and franchisees is being scrutinised by experts, regulators and politicians.

It is a topic that has been doing the rounds of senators in the past few weeks after a Protecting Vulnerable Workers Bill was introduced into parliament earlier this year.

The bill was designed to beef up penalties for wage fraud and make franchisors jointly responsible for workplace abuses if they have a “significant degree of influence or control” over the franchisee’s affairs.

The stakes are high. There are more than 1000 franchise networks and 79,000 franchisees creating more than 460,000 jobs.

Until now franchisors have enjoyed a disproportionate amount of power, with some franchisees likening the relationship to indentured slavery.

The relationship between franchisees and franchisors hit the spotlight after a series of wage fraud scandals were exposed in high profile franchise networks 7-Eleven, Domino’s, Caltex, United Petroleum, Pizza Hut and many others. 

The scandals highlighted limitations in the law, which Minister for Employment Michaelia Cash sought to fix in the new bill.

In 7-Eleven’s case, the Fair Work Ombudsman found that the franchisor “compounded” the problems of wage fraud by failing to use systems and processes to detect or address deliberate worker exploitation. 

Nobody is suggesting franchisors should be automatically liable for the wrongdoings of a franchisee, but if the business model creates a situation that encourages wage fraud or the franchisor knows, or should know, what is going on, they should be held accountable.

However, not all franchisors see it that way. The franchise industry, most notably the Franchise Council of Australia, is fighting to dilute the bill before it passes through the senate. 

The industry is also studying the legal battle Pizza Hut franchisees have launched against Yum!

The action was initiated by liquidator Bob Jacobs at Auxilium Partners late last year. Jacobs had witnessed the plight of Pizza Hut franchisees when he became liquidator of eight stores in 2014. The stores collapsed after the franchisor, Yum! rolled out a “value strategy” that required its franchisees slash the prices of a range of pizzas by 50 per cent.

More than 90 per cent of Pizza Hut franchisees joined the original class action, alleging unconscionable conduct, losses and business collapses as a direct consequence of the price war.

But the case was lost in 2016 and months later Yum! sold the Pizza Hut business to private equity operator Allegro, which has embarked on a strategy to reinvigorate demand and take on Domino’s.

Allegro went on to buy another franchised pizza chain Eagle Boys, which got into strife due to fierce competition and questionable strategies.

Jacobs decided to appeal the case, putting up $50,000 of his own money to lodge the claim.

He then cleverly filed an application with the Australian Taxation Office for an indemnity available to insolvency practitioners under The Financial Management and Accountability Act 1997.

Allan Myers, QC, will represent the franchisees.

Yum! is defending its actions. In its outline of submissions to the Federal Court it says the half-price pizza strategy was designed to improve franchisee profitability and grow its own business and revenues.

At the end of the day, the court of appeal will make its own decisions, but the appellant’s outline of submissions captures the current environment: “holding franchisors to account for the adverse impact of the exercise of their powers has been the subject of increased focus by policy makers.”

It goes on to say “the proper application of an objective test of reasonableness, rather than a subjective test of honesty, will have significant social utility in ensuring competent decisions are made by franchisors in the interests of the sector as a whole.”

There’s a lot at stake for the franchise industry besides a potential damages claim of tens of millions of dollars.

It is why the sector will be watching closely the legal action and the final wording of Vulnerable Workers Bill legislation.

The bill attracted a number of submissions, including one from the Franchise Council of Australia (FCA) which has been lobbying senators that the legislation is heavy-handed and unnecessary because accessorial liability provisions are working and in “heavy use”.

In its submission it wheels out the argument that the bill needs to be amended to “avoid serious harm” to the franchise sector. It says if the bill is adopted in its current form it will reduce franchising activity, growth and investment in Australia.

It also argues that the legislation currently catches all franchise systems due to the breadth of the definition of “responsible franchisor entity” and where there hasn’t been any evidence of systematic Fair Work Act contraventions.

However, in the past year there have been a multitude of cases of systemic wage fraud in different franchise models and by small and large franchisors. For example, last year Paul Sadler Swimland, a franchise network that runs 15 swimming schools, was caught underpaying hundreds of young swimming instructors over six years.

In its submissions, the FCA suggests a number of amendments to the wording of the bill. It wants it changed from “the person has a significant degree of influence or control over the franchisee entity’s affairs” to read “the person has a substantial degree of control over the franchisee entity’s workplace terms and conditions”.

Independent Contractors Australia has studied the FCA’s suggested wording changes and warns that if the senate adopts them, it would make it meaningless. These word changes would allow franchisors to go to court and argue that they didn’t have substantial control over the workplace terms and conditions of the franchisee and therefore shouldn’t bear any responsibility or liability for wage fraud across its network.

“These changes would essentially retain the status quo, where franchisors could deliberately seek not to exercise any influence over workplace terms and conditions and therefore avoid any responsibility for worker underpayment,” it says.

The ICA also rejects the assertion that the bill would create high compliance costs. “Remember that franchisors create, own and control a business system … They require franchisees to comply with strict marketing, product, pricing, shop design, purchasing, supply chain and many other imposed private sector regulations,” the ICA says. The franchisors monitor and audit franchisees to ensure compliance.

It also points out that franchisors must comply with regulations such as food safety, workplace safety, competition laws, zoning regulations and financial regulations. In turn, franchisors must ensure their franchisees comply with these regulations otherwise the franchisor will be in breach. “The business of franchisors is to specialise in the running of their own private and government-created regulations. That is their expertise. Yet when it comes to the realm of worker wage rates the FCA seems to want franchisors to avoid any exercise of that very expertise.”

The ICA believes if the language of the bill is changed it will become a legislative sham. “The legislation would give the appearance of doing something to prevent franchise wage fraud but do essentially nothing to achieve that aim. Parliament would have been conned into conning Australians.” 

Between the class action and legislative reform, the franchise industry has been under the microscope like never before. There have been some shocking cases of wage fraud across the franchise sector, which has raised questions about the balance of power. It’s time this was properly dealt with.