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High Court Resolves Contentious Franchising Issue (1)

Thursday, September 21, 2017

The recent High Court decision of Master Education Services Pty Ltd v Ketchell [2008] HCA 38 has provided welcome certainty for the franchising industry, holding that a franchisor’s failure to comply with clause 11(1) of the Franchising Code does not render a franchise agreement void and unenforceable.

The statutory scheme

Section 51AD of the Trade Practices Act 1974 (Cth) (“the Act”) stipulates that corporations in trade and commerce must not contravene applicable industry codes. The Franchising Code (“the Code”) is one such code.

Clause 11(1) of the Code states that a franchisor must not enter into a franchise agreement unless the franchisor has received a written statement that the prospective franchisee has received, read and had a reasonable opportunity to understand the Franchising Code.

Prior to the decision, there was significant uncertainty in the franchising industry as to the effect of a franchisor’s failure to this written statement from the franchisee prior to entry into a franchising agreement.

History of the Ketchell case

The case had a long and complicated procedural history which ultimately led it to the New South Wales Court of Appeal. The Court of Appeal held that the effect of the franchisor’s non-compliance with clause 11(1) of the Code was to void the franchise agreement between the parties.

This decision was problematic as it effectively allowed a disgruntled franchisee who had received, read and had reasonable time to understand the Code, but who had not provided their written statement, to easily escape their contractual obligations under the franchise agreement.

Funded by the Franchise Council of Australia, the franchisor sought an appeal of the Court of Appeal’s decision to the High Court of Australia. The appeal was allowed.

The High Court’s decision

On 27 August 2008 the High Court delivered its joint and unanimous judgment in favour of the franchisor, upholding the validity of the franchise agreement despite non-compliance with clause 11(1).

The High Court considered the intention, language, scope and purpose of the statutory scheme as well as the consequences suffered by the innocent party.

The High Court said that clause 11(1) is not to be inferred as having the result that a contract entered into by a non-complying franchisor is to be void and unenforceable. Such a result, it said, would be “unusual” as it would strike down the franchise agreement in every case irrespective of the position in which it places the franchisee. Further, it said that it is not to be assumed in every case that a franchisee wishes to be relieved of their obligations under the franchise agreement.

Practical implications of the decision

There is no longer any room for parties to a franchise agreement to argue that the agreement is void and unenforceable as a result of non-compliance with clause 11(1) of the Code alone.

Although such non-compliance of itself is not enough to render the franchise agreement void, the court seemed to suggest that additional circumstances together with such non-compliance may result in the franchise agreement being void. In the present case the franchisee had in fact received, read and had reasonable time to understand the Code, however they had not provided a written statement to this effect.

How are franchisees protected?

Non-compliance with clause 11(1) may constitute a breach of the Act where such non-compliance constitutes unconscionable conduct. This may protect parties where the franchisor has not received the franchisee’s written statement where the franchisor has not provided the franchisee with the disclosure documents at all. Ultimately though, the franchisee’s relief lies in breaches of prohibitions in the Act rather than the mere non-compliance with clause 11(1) of the Code.

The High Court also pointed to Pt VI of the Act which allows franchisees remedies in respect of a franchisor’s breach of prohibitions under the Act. In this sense, the Ketchell decision does not limit the franchisee’s entitlement to relief and continues to protect the often inferior bargaining power of franchisees in franchise agreements.

What can franchisors and franchisees do to minimise the risk of the franchise agreement being void and unenforceable?

Although non-compliance with clause 11(1) of the Code will not necessarily be fatal to the franchise agreement, the parties should still take all precautions to ensure that the Act and Code are complied with.

Franchisors should be careful to ensure that the franchisee has had adequate time to consider the disclosure documents and obtain independent legal advice so as to avoid any allegations of unconscionable conduct that could result in the agreement being void. As the franchisor usually occupies a superior position of bargaining power and industry knowledge, the legislative scheme is designed primarily to protect the position of the franchisee. 

Franchisees should ensure that they understand their obligations under the agreement pursuant to the Code. Franchisees should be aware that most franchise agreements will be prepared by the franchisor and therefore cautionary steps should be taken to ensure that the agreement is not overly onerous upon the franchisee. Franchisees are therefore advised to obtain independent legal advice to clarify any uncertainties they may have regarding their obligations under the agreement.

Liability limited by a scheme approved under Professional Standards Legislation.

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