In 2020, following considerable public scrutiny of Retail Food Group, the Australian Competition and Consumer Commission (ACCC) commenced proceedings against various Retail Food Group entities (together referred to as RFG) alleging breaches of the Australian Consumer Law (ACL), the Franchising Code of Conduct (Code) and the Competition and Consumer Act (CCA).
The parties settled the matter in December 2022. In this article we consider the ACCC’s claims, how RFG has agreed to address those claims and learnings for other franchisors.
The ACCC’s claims
The ACCC commenced proceedings against various RFG entities alleging breaches of the ACL, the Code and the CCA by virtue of the RFG entities engaging in certain conduct in the sale of 42 RFG corporate stores to franchisees and by making certain payments from marketing funds into which RFG franchisees had made payments.
Corporate store conduct
During a 4-year period, various RFG entities sold or licensed under a manage to own agreement, a number of corporate stores. The ACCC alleged that:
- RFG knew that the applicable stores had operated at a loss but did not disclose that information to the franchisees who purchased or licensed the corporate stores; and
- RFG represented that the relevant corporate stores were not and had not been operating at a loss and/or that RFG did not have the financial information in its possession which would enable the franchisee to understand the true financial performance of the relevant store when this was not the case.
In the ACCC’s pleadings lodged with the Federal Court in December 20201 (Pleadings), the ACCC noted that most incoming franchisees were provided with:
- sales information for the individual store, which was generally comprised of details such as weekly sales, customer count, rent and utility costs for a certain period;
- a disclosure document for the applicable brand (which provided average outgoings expressed as a percentage of sales, based on averages reported by various stores); and
- some limited information in response to specific requests by incoming franchisees.
However, the incoming franchisees were not provided with profit and loss information for the relevant corporate store nor the terms of applicable management agreements nor other information which, the ACCC suggested, would have been sufficient for them to have a true understanding of the financial performance of the store.
The ACCC further noted that:
- in the documentation provided to the incoming franchisees, the applicable RFG entity expressly stated to all, or substantially all, incoming franchisees that it “cannot estimate earnings for a particular franchise”. The ACCC alleged that contrary to this statement, RFG knew the earnings of each corporate store; and
- RFG had made representations to franchisees that the information that was provided to franchisees was all the information available to RFG and/or was sufficient to allow the franchisee to make a properly informed decision as to whether to proceed with the purchase, when in fact, RFG had additional, relevant information about the financial position of the stores.
The ACCC alleged, among other things, that by withholding financial information (and making applicable representations about that information), RFG created an “asymmetry of information” between RFG and the incoming franchisees, putting the incoming franchisees at a “significant disadvantage” and that RFG exploited that asymmetry. Further, when incoming franchisees sought information, the ACCC alleged that RFG sought to deter them from obtaining such information, in order to maintain its advantage.
By virtue of the representations made by applicable RFG entities (whether by act or omission), and information withheld, the ACCC alleged that RFG had made false or misleading representations, engaged in unconscionable conduct and did not act in good faith.
Marketing fund conduct
During the period 1 July 2012 – 20 June 2017 (5 financial years), franchisees in various RGF brands were required to pay a weekly marketing and promotion fund fee (marketing levies) to their applicable franchisor.
In the Pleadings, the ACCC alleged that the marketing fund statements that were prepared for each of Michel’s Patisserie, Brumby’s and Donut King (during FY2015 – FY2018) and Gloria Jean’s (FY2016 – FY2017) adopted a uniform format in describing the marketing and operating expenses and were of such a high level of generality that the statements did not give meaningful information about items of expenditure from the marketing funds.
The ACCC further alleged that:
- payments made during FY16 and FY17 were used to pay personnel costs of employees according to a shared services staffing model which allocated a proportion of personnel costs to marketing without adequate reference to the activities performed by individual employees. In particular, in the Pleadings the ACCC noted that such costs were “for personnel costs for RFG executives and employees who were not performing marketing or advertising roles at all or not to the extent of the proportion of costs paid from the Marketing Funds” 2; and
- from FY13 to FY17 payments were made from the Michel’s Patisserie marketing fund for expenses which were not legitimate marketing expenses and had not been adequately disclosed or agreed by a majority of franchises. These expenses covered the cost of implementing a business model change from fresh cakes to frozen in franchise stores, and also covered part of the losses from some Michel’s Patisserie corporate stores operated by RFG.
By virtue of the above conduct, the ACCC alleged that RFG had breached the Code, had acted unconscionably and had also engaged in misleading and deceptive conduct.
Settlement and requirements of undertaking
The parties agreed to settle the proceedings, without any admission by RFG, on the basis of a court enforceable undertaking provided by RFG which was signed by all parties on 22 December 2022.
As part of the undertaking, RFG acknowledged, without admission, the ACCC’s allegations that RFG had engaged in conduct in breach of the ACL, the Code and the CCA.
As part of the remedy, RFG agreed, among other things, to the following:
- in relation to franchisees that purchased corporate stores the subject of the corporate store conduct, RFG was, effectively, required to make good the original purchase price/fees paid (less certain amounts) and waive certain debts. For those franchisees who purchased via a manage to own arrangement, RFG was also required to make an ex-gratia payment;
- in relation to marketing fund fees for Michel’s Patisserie, RFG is required to contact and repay $5 million to franchisees that were involved in the Michel’s Patisserie franchise system between 1 July 2012 and 30 June 2017;
- RFG must within 2 months implement a consumer law and franchising code of conduct compliance program with a particular focus on RFG’s and each brand’s obligations under the ACL and the Code when dealing with franchisees and prospective franchisees; and
- RFG must contribute $500,000 to the ACCC’s legal costs.
Learnings and recommendations
This settlement provides a number of learnings and points to consider.
In relation to the provision of financials:
- Franchisors are asked, in the disclosure document, whether they provide earnings information (including projections or forecasts of earnings) which includes historical earnings information and, if so, a copy of that information must be provided with the disclosure document.
- Historically, franchisors have avoided providing financial earnings information for fear of it being misinterpreted and the franchisor subsequently facing a misleading or deceptive conduct claim.
- However, in light of the RFG matter, franchisors will need to rethink this position, particularly where they are selling corporate stores for which they do have financial earnings information. Moving forward, we would expect that franchisors will need to provide financial earnings information, particularly where a store is not trading well, so that a potential purchaser has the capacity to do proper due diligence and make an informed decision as to whether they want to purchase the business. Consideration will also need to be given to how these issues are dealt with on a transaction-by-transaction basis, generally, in item 20 of the disclosure document (eg do responses need to be more nuanced when there is the possibility of corporate stores being sold).
In relation to use of funds in marketing funds:
- It is important to regularly check the wording in the franchise agreement and the disclosure document to make sure that funds in the marketing fund are being spent as permitted under those documents. If a franchisor wants to use the marketing fund for a purpose that has not been properly disclosed (for instance to address a new marketing opportunity that has only just arisen) then the franchisor should consider its rights under the franchise agreement and, if needed, seek the approval of a majority of franchisees before proceeding.
- It is important to ensure that details included in the annual marketing fund statement are not prepared at such “a high level of generality that the statements..[do]..not give meaningful information about the items of expenditure from the Marketing Funds”3. Statements must be detailed and provide meaningful information that can be readily understood by franchisees (noting that franchisees are unlikely to have marketing or accounting experience themselves).
- RFG used marketing funds to pay a proportion of shared services. This is common, however based on this matter, it is not going to be sufficient to simply apportion a percentage of marketing funds to cover those shared services, without including extra details – a more granular analysis of those shared services will be required. This may be less of an issue where the shared services are a specific marketing department with its own costs centre (ie all they do is provide marketing services, so all employees only provide marketing services) but it will be very important where those shared services cover a range of skills (eg an administrative assistant who also provides some marketing help from time to time). Further, currently Item 15.1(h) of the disclosure document requires a franchisor to give information about whether the franchisor, master franchisor or an associate of them supplies goods or services for which the marketing fund pays. If they do, then details should be provided of those goods or services (including shared services). Although none of the required remedies in the undertaking appeared to specifically address this issue, in light of this case, it would be prudent to take extra care to ensure marketing funds are not misused.
This article was written by Allison McLeod, Partner, Derek Sutherland, Partner, and Oliver Keats, Law Graduate.
2See paragraph 18 of the Pleadings
3See Pleadings, paragraph 17.