The franchising industry – disruption or disaster?


Posted By on 29/03/18 at 4:32 PM

Recent revelations of wage scandals and the parlous position of franchisees, within certain well known franchise systems, have led to what is being viewed by some as a crisis, perhaps even a crossroads which may determine the future survival of franchising as a business model.

This is certainly the line that has been pressed by the media.

The reporting of the 7-Eleven wages treatment of employees, often foreign students with little bargaining power, has justifiably created outrage against the system.  This has been exacerbated by the apparent inept attempts by the franchisor to provide a solution which have resulted in further public scepticism.

The public interest shown in the reporting of the 7-Eleven matter has prompted further investigative journalism with ready material being supplied by a large number of franchisees within the Retail Food Group ( Michel’s Patisserie, Donut King, Brumby’s, Gloria Jeans Crust and Pizza Capers) indicating the model provides no appropriate income to them and a significant loss in their investment.

The flavour has also been diminished for the franchise offerings of such industry heavyweights as Dominos Pizza though internal share trading has complicated that story.

Caltex has determined to close its foray into franchising and be entirely in house focussed because of wage scandals – though any decision within the petroleum industry may likely be a result of a more complex set of factors.

The politicians have, motivated by concerns they say they are obliged to act on, responded in the manner they have historically always done in this sector.  A parliamentary inquiry has been announced with the aim of scrutinising the fairness of relationships between the franchisor end of the model and those running the systems and interfacing with customers.

It is time to lend some perspective to this up swelling of concern and look at what the consequences may be.

 

franchising

Background

There are some necessary background points to make:

  1. The franchise industry is a major component of the Australian business landscape. Including petroleum and motor vehicle dealerships, it has a turnover approximating $180 billion per year. It is simply not going to disappear nor be legislated into a shadow of itself.
  2. The wages scandal, best exemplified by the 7-Eleven reporting, has been dealt with through amendments to the Fair Work Act. Under this legislation, in force since late 2017, a franchisee employee may have recourse for underpayments, or the withholding of entitlements, not only against its direct franchisee employer but also, in certain circumstances, against the franchisor.
  3. Over the past six months I have, in the course of co-writing a text book on the regulation of franchising in Australia, been obliged to look deeply into the history of regulation and the finer points of the Franchising Code of Practice. What I have found is not regulatory failure but an ever increasing level of sophistication in ensuring the model provides fairness to both parties.  Implementation is always the next step.
  4. The regulator, the ACCC, has been active in weeding out many problematic practices with significant penalty outcomes secured over the past 12 months. It is now, with the political spotlight on it through the forthcoming inquiry, redoubling its efforts to achieve a balanced and fair industry for all players.

What needs be done and how will it occur?

I have no crystal ball but I am, through my recent intense focus on the franchising industry, able to suggest certain outcomes that should enhance the regulatory positives that I have outlined above.

  1. The interest taken by public companies in the franchise model has created a conflict between a corporations duty to act in the interests of its shareholders and the treatment of its franchisees. This duty need not mean only extracting the maximum profit but may need clarity and possibly express direction that the maintenance of a viable model (suggesting more modest returns) is the only way the stock market and what is otherwise small business can fairly intersect.
  2. There has been take up by the private equity (PE) industry of franchise systems. The PE model is potentially very difficult for the franchise industry being generally based on enhancing profitability for a short to medium disposal.  A methodology that can significantly change the culture and offering formerly integral to a franchise system.  PE too must re-assess its approach to such acquisitions and their future management, perhaps taking a longer term holding position with a return on investment offering that is more restrained but with a secure horizon.
  3. Reform of the Franchising Code need not be extensive. There have been many reviews and a number of significant redrafts since the Code was first introduced in 1998.  It has become more sophisticated and may only need minor modification.  I suggest:
  • The Information Statement that is delivered as part of the entry process has warnings within it that the franchise offering does not guarantee success. There is some value in expanding on the drafting of this document to enhance this message.
  • Entry into a franchise agreement requires the franchisee to be told to take independent legal, accounting or business advice. A certificate to verify the advice taken is provided and is to be returned to the franchisor.  This is a good system however there is no compulsion and some cost in getting that advice so the franchisee has an option to sign an alternate certificate waiving that advice.  I believe the independent advice should be made compulsory and the waiver certificate removed as an option.
  • Lastly, the regulator (the ACCC) needs to maintain a constant focus on the industry with a level playing field its primary objective. This requires direction from the Government and adequate additional resources.

Conclusion

There are answers to the problems facing franchising.  They need not involve overhauling the system but can be worked in with a minimum of disruption to what will continue to be a vibrant and very important industry in this country.

Peter Buberis

Principal

Peter heads up our franchise and commercial teams.

Peter has extensive experience acting for both national and international franchise systems with a strong skill set around the expansion of... Read More