Inspections, audits and termination: budget specs to go to trial

According to Dibbs Abbot Stillman 's Franchising Update for November 2005 two franchisees of spectacles and lenses retailer "Budget Specs" have obtained injunctions to prevent Budget terminating their franchise agreements following the inspection and audit of their books of account and business records, until their dispute can be heard at trial.

Representatives of Budget along with members of an accounting firm inspected and audited the franchisees' premises without notice, purportedly in accordance with their franchise agreements which allowed for:

Budget and its agents "at all times" to inspect and copy books of account, and for franchisees to make the same available for inspection at a place nominated by Budget. Budget also claimed to be "at any time" able to nominate an independent auditor to examine the books and records

One franchisee, which tried unsuccessfully to contact its solicitor for advice, was allegedly told that if the franchisee did not cooperate, Budget would close down the shop immediately. The other franchisee claims that the inspection was unnecessarily assertive, unreasonable and "like something out of a gangster movie".

Budget discovered evidence of several breaches and accordingly issued termination notices including for deliberate failure to record all sales, and therefore understating income and royalties, submitting false claims to health funds, which could affect the commercial reputation of Budget, and failure to keep copies of original invoices and receipts, as required by law.

Greenwood J of the Federal Court of Australia queried whether the inspection and audit were in accordance with the franchise agreement, ordering that there were several serious questions that needed to be tried:

Could the accounting firm be appointed to both inspect (on behalf of Budget) and audit (as an independent auditor) the franchisees' books, or were these roles conflicting, thereby invalidating the opinions provided?

Must an "audit" under the franchise agreement be consistent with the accounting standards governing traditional audits? (The method used here was more like an investigation than an audit).

Is there an implied term that Budget must exercise its powers under the franchise agreement in good faith, fairly and reasonably? Is there an implied obligation to provide reasonable notice of inspection and/or audit?

Were the proposed breaches factually correct and sufficient grounds for termination?

The matter has been set down for trial in mid March 2006 and given the interesting and very practical subject matter, Dibbs Abbott Stillman will be awaiting the outcome.