Australia: What you need to know about: Competition issues in Franchising Supplier Arrangements

Last Updated: 15 February 2014
Article by Anna Trist

The ACCC recently released a guide entitled What You Need to Know About: Competition Issues in Franchising Supplier Arrangements (Guide). A link to the full version of the Guide can be found here.

The Guide is aimed at assisting franchisors and franchisees to understand the ACCC's role in reviewing arrangements where franchisees are required to purchase goods or services from particular suppliers. It warns against third line forcing, which breaches the Competition and Consumer Act 2010 (Cth) (Act) even if the conduct does not harm competition.

Third Line Forcing

The Guide sets out a definition of third line forcing. It provides that third line forcing occurs where a supplier (eg a franchisor) supplies goods or services (eg franchising services or the right to become a franchisee) on the condition that the customer also acquires goods or services from another person or business (unrelated to the supplier).

The Guide acknowledges that franchisors:

  • set objective quality standards and allow individual franchisees to source goods or services from any supplier that meets those standards
  • require franchisees to purchase goods or services from the franchisor or a related company.

Concerns arise under the Act with these kinds of arrangements only where the arrangement has the purpose or likely effect of substantially lessening competition. The ACCC has commented that competition is unlikely to be substantially affected where the franchisee's market and other suppliers' markets include a number of competing businesses. Specific legal advice should be sought regarding whether an arrangement has the purpose or likely effect of substantially lessening competition.

Notification

The guides sets out the notification process, which will provide franchisors with protection from legal action under the Act (after a notification is validly lodged with the ACCC, the franchisor has statutory protection to engage in the third line forcing conduct which protection commences after 14 days unless the ACCC takes steps to prevent this).

A notification should be lodged by franchisors:

  • who intend to require franchisees to purchase goods or services from nominated suppliers
  • whose supplier arrangements may have the purpose or likely effect of substantially lessening competition.

The ACCC may remove the protection from legal action provided by a notification at any time if it is satisfied that the likely public benefits will not outweigh the likely public detriments from the conduct. This action is known as 'revoking' the notification and in relation to third line forcing notifications for franchising supplier arrangements, such action is rarely taken.

What Will the ACCC Consider

The guide outlines that the ACCC will consider the public benefits and public detriments including the impact of the conduct on the entire community and not just the impact on individual franchisees.

In considering the public benefits, the ACCC looks at factors such as:

  • whether there is consistency across the franchise system, which may benefit customers and increase the value of the franchise system as a whole
  • more efficient operation and management of the franchise system where all franchisees operate compatible equipment and purchase the same goods
  • more efficient and effective bargaining between the franchise group and its suppliers, which may result in:
    • improved non price terms of the supply contract (eg specific service levels or changes to the supplier's usual method of delivery)
    • cost and time savings as franchisees will not need to individually search for and negotiate deals with suppliers.

In considering the public detriments, the ACCC looks at factors such as:

  • supplier arrangements which do not benefit the franchise group as a whole and are less efficient than if the franchisee were not subject to those restrictions
  • less competition in a relevant market, such as the markets in which franchisees operate or the markets in which suppliers of goods or services to the franchisee compete.

Rebates

Often, franchisors receive a rebate from suppliers as a result of their supply arrangement.

The existence of the rebate, the ACCC has advised, does not automatically constitute a public detriment in the ACCC's assessment of a notification. In fact, the Guide provides that "there is no outright prohibition against rebate arrangements".

Under the Franchising Code of Conduct however, franchisors are obliged to disclose to franchisees:

  • whether they will receive a rebate or financial benefit from the supply of goods or services to franchisees
  • the name of the business providing the rebate or financial benefit
  • whether the rebate is shared directly or indirectly with franchisees.

Franchisors are not obliged to disclose the value of the financial benefit.

Franchisors are not obliged to distribute amongst franchisees the financial benefit they receive.

The ACCC may consider the matter of rebates as part of its broader assessment of public benefits and public detriments. The ACCC does not however, consider it to be their role to reach a conclusion regarding whether a supplier arrangement offers the best value for franchisees (that is a matter for franchisees to consider when conduct their due diligence in respect to the franchise system).

Conclusion

In the Guide, the ACCC encourages:

  • franchisees (and prospective franchisees) to discuss with franchisor any concerns they have regarding supplier arrangements
  • franchisors to consult with franchisees:
    • when putting in place supplier arrangements which restrict how franchisees purchase goods and services or change the way in which the supplier arrangements operate
    • to consider the costs and benefits for the franchise group as a whole when selecting nominated suppliers
    • and to explain to franchisees the process that the franchisor has undertaken in selecting suppliers and the reasons for any changes
    • and to monitor nominated suppliers to ensure that arrangements continue to deliver value either through lower prices or increased quality to the franchise group as a whole.
  • franchisors to make supplier arrangements transparent to both prospective and existing franchisees (beyond the minimum requirements set out in the Franchising Code of Conduct).

The Guide provides a useful summary of the law in relation to supplier arrangements in franchise systems, but franchisors should seek specific legal advice in relation to their particular supplier arrangement.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

K&L Gates has been awarded a 2012 EOWA Employer of Choice for Women citation acknowledging our commitment to workplace diversity.

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