Embattled franchise sector faces parliamentary inquiry

Adele Ferguson
March 11 2018
AFR 

On March 20, Senator John Williams will notify the joint coalition senate party room of plans to move a referral to hold a parliamentary inquiry into the scandal-ridden $170 billion franchise sector. 

Senator Williams has been working closely with the Minister for Small Business, Craig Laundy, on the proposed terms of reference.

He told The Australian Financial Review he was confident he has the numbers to get a joint parliamentary inquiry across the line, with a report due September 20.

It comes after he organised a meeting in Sydney on February 16 that included Minister Laundy, representatives from the Australian Securities and Investments Commission and the Australian Competition and Consumer Commission and 30 franchisees from a cross section of franchises including Foodco, Domino’s, Retail Food Group (RFG) and Caltex. 

The franchisees were asked to discuss some of the issues facing them in their respective franchise networks.

“All of them had been burnt to a cinder,” Senator Williams told the Financial Review.

One RFG franchisee from Donut King, John Banks, told the gathering how he and his wife Julia had recently walked away from the store because they could no longer afford to run it. They lost their home, their retirement savings and his wife suffered anxiety attacks.

They bought the store in early 2015 for $230,000 via an agent hired by RFG. After signing the franchise agreement that they were given the full set of accounts which revealed it was losing $120,000 a year under RFG management.

Caltex franchisees told the meeting how they had lost their stores and their life savings with little or no compensation from Caltex, while Foodco franchisees from Muffin Break and Jamaica Blue lamented their plight. 

Senator Williams said the terms of reference were expected to include the rules and regulations governing franchising in Australia including the effectiveness of the franchise code, arrangements between franchisors and suppliers including rebates and any other financial considerations and flow on benefits to franchisors. 

The terms of reference would also include the transparency and proper disclosure of information to prospective franchisees before entering an agreement. Other areas are likely to include regulation and the need for any further oversight.

In the past two years Fairfax Media has exposed a series of scandals in the franchise sector, including 7-Eleven, Domino’s, Caltex, Pizza Hut and more lately RFG, which owns brands including Donut King, Brumby’s, Gloria Jeans, Michel’s Patisserie, Crust and Pizza Capers. 

But in the past few weeks the sector took a fresh round of hits when franchise group Aussie Farmers collapsed, RFG announced an $88 million loss and flagged up to 200 franchise-run stores would close, while pizza giant Domino’s reported disappointing results on the back of franchisees complaining about a brutal business model, and Caltex announced it was ditching its franchise model days before a damning report was released by the workplace regulator that found 76 per cent of its stores were underpaying workers.

The various scandals have a common theme of power imbalance between franchisees and franchisors. This coupled with soft regulation and a franchise code that isn’t working has resulted in suicides, bankruptcies and marriage breakdowns.

At the February 16 meeting, franchisees outlined a crushing business model of high fees, royalties, rebates and draconian refurbishment costs.

In the case of RFG, franchisees pay royalties and marketing fees that can add up to 10 per cent or more of sales, depending on the brand. They also have to source most of their products from RFG, which is often more expensive than if they bought them elsewhere. This can include basics such as milk and flour. Industry sources estimate RFG collects more than $40 million a year in rebates from suppliers which it then pockets.

The ACCC has long been alert to some of the issues facing franchisees.

In 2015 a group of franchisees from RFG’s Brumby’s bakery network joined forces and lodged a complaint to the ACCC about a range of issues, including unconscionable conduct and failing to comply with the code, particularly the obligation to act in good faith. It highlighted some of the problems, including inadequate information about refurbishment costs, the level of rebates Brumby’s received from suppliers and the difficulty franchisees face when trying to sell stores.

In June 2016 the ACCC wrote back saying it had looked at the complaints but decided it wouldn’t take any further action.

Franchisees from Michel’s, Gloria Jeans, Brumby’s and Donut King claim they submitted complaints over the years to the ACCC requesting an investigation of RFG, including its treatment of the marketing fund.

Other franchisees from other networks have also contacted the ACCC over the years raising a range of similar issues, hoping for some action. 

One franchisee from a Western Australian based cafe franchise chain said complaints had been made to the ACCC but nothing appears to happen. “This franchisor is a cowboy operator but is still managing to deceive people into buying cafes that have no hope of succeeding.”

Franchisees from numerous franchise outlets, big and small, have sent emails asking for help.

An inquiry needs to look at whether the ACCC has enough powers and resources and whether the franchise code and the legislation is adequate to protect franchisees.

The ACCC is looking at car dealership franchisees, which have raised concerns.

The Victorian Automobile Chamber of Commerce, which represents members that conduct their business through franchise arrangements including sales of cars and motorbikes, commercial vehicles, repairs and farm machinery, said it had written to Senator Williams telling him “the experience of the RFG franchisees is dwarfed by the approach of the car industry.”

VACC executive director Geoff Gwilym said the VACC and the Motor Trades Association of Australia (MTAA) believed the franchise code was inadequate. He said current franchise agreements had the scope to “impose unilateral unreasonable terms on a take-it-or-leave-it basis that forces the franchisee to accept unreasonable terms”. Despite the current franchise code, franchisors continued to impose hidden costs.

The peak lobby group for franchisors, the Franchise Council of Australia (FCA), contends that Australian franchising has the most comprehensive franchise laws anywhere in the world, overseen by the ACCC, “which is Australia’s best resourced regulator”.

In its latest bulletin, published on March 7, two days after Aussie Farmers collapsed and the day RFG fell another 33 per cent, it wrote “the franchise model is secure”.

But with so many scandals and the carcasses of far too many franchisees strewn across the landscape, the FCA needs to be careful it doesn’t become out of touch. 

A Brumby’s founder and the former managing director Michael Sherlock, who sold the Brumby’s franchise network to RFG in 2007, said the FCA needed to be overhauled.

Sherlock stayed on as a franchisee after selling the company to RFG, but he said it became difficult to make money under the RFG business model. One of his best performing stores started losing money. He eventually sold out. 

He said any parliamentary inquiry needed to look at disclosure documents and franchise agreements and recommend they be registered annually with ASIC and made publicly available, just as commercial leases are registered.

He said disclosure documents (which include franchise agreements) needed to include a fee summary of all charges that could be imposed on a franchisee during the term of the agreement.

Sherlock said rebates needed to be more transparent.

A parliamentary inquiry into the sector has been a long time coming. There have been a number of inquiries in the past, but none have fixed the problem. It is an important inquiry in an important sector. This time it needs to get it right.