Unfair contracts law and the franchise buyer: what you need to know

Sarah Stowe

There’s a new legal element to consider in franchising as the Unfair Contracts Term comes into effect.

The Australian Consumer Law and the Australian Securities and Investments Commission Act 2001 contain provisions which protect individual consumers from unfair contract terms in a standard form contract.

The protections are available where one party to a contract for goods, services or land is an individual and the individual’s acquisition is for personal, domestic or household use. For example, a consumer entering into a contract with a telecommunications provider would be protected by the unfair contract terms provisions, if some of the terms in the contract are proven to be unfair.

The Bill extending the unfair contract terms protections to small businesses passed parliament on 20 October 2015. The Bill will come into force one year from the day the Bill receives Royal Assent.

So what does the Bill mean for franchisees?

The Bill gives courts the ability to declare terms contained in standard form contracts between businesses void, if they are deemed unfair. It is acknowledged that small businesses, like consumers, are vulnerable to unfair terms in standard form contracts.

When in force, these laws will extend to unfair terms in franchise agreements if the following requirements are met.

  1. the contract is a standard form
  2. the contract is a small business contract; and
  3. the term in the contract is unfair.

If the above requirements are satisfied the unfair contract terms provisions will also apply to a wide range of other contracts, such as supplier contracts, lease agreements and manufacturing contracts.

However this article focuses just on franchise agreements.

What is standard form?

Typically a standard form contract is not subject to negotiations between the parties, in this case the franchisee and franchisor, and is offered on a ‘take it or leave it’ basis. Other elements of a standard form contract can be if the contract is prepared by (in franchising) the franchisor, before any discussion with the franchise buyer or where the terms of the contract do not take into account any particular characteristics of the franchise buyer or the transaction itself

The meaning of a small business contract

A franchise agreement will be deemed a small business contract if:

  • at the time of entering the contract, at least one party to the franchise agreement is a business which employs fewer than 20 people; and
  • either the upfront price payable is less than $300,000 regardless of the term or, as is more likely in franchising, the contract is for more than a one year term and the upfront price is less than $1m.

Most franchise agreements are for a five or 10 year term and the upfront price payable to the franchisor is very often less than $1m. Once the new laws have taken effect, it is expected that many franchise agreements will fall within the definition of small business contracts.

In counting the persons employed by a business, casual employees are disregarded unless employed by the business on a regular or systematic basis. Again, this increases the likelihood of franchise agreements meeting the criteria, as many franchisees employ casual staff members, especially in the retail and hospitality industries.

What does unfair actually mean?

Whether or not the terms of a contract are unfair will depend on the particular circumstances of each contract. Australian Consumer Law states that a term of a consumer contract is unfair if it:

  1. would cause a significant imbalance in the rights and obligations arising from the contract;
  2. is not  required to protect the legitimate interests of the advantaged party; and
  3. would be detrimental (whether financial or otherwise) if it was applied or relied on.

All three of the above elements in the unfairness test must be proven for a court to decide that a term is unfair. The courts must also consider the contract as whole and whether the term in question is expressed in reasonably plain language, legible and presented clearly.

Potential terms that may be unfair include terms that permit only one of the signatories to:

  • vary the terms of the contract;
  • renew or not renew the contract at sole discretion; or
  • terminate the contract without reason.

Will these protections apply to current franchise agreements?

Provided that the above requirements are met, the unfair terms protections will apply to standard form, small business contracts signed after the date that the laws take effect. It is important for franchisees and franchisors to note that the laws will not only apply to new contracts, but renewals or variations to existing franchise agreements. It is important to note that if some of the terms in a contract are found to be unfair this will not invalidate the entire contract. To the full extent possible, the remaining terms will be enforceable.

What does this mean for franchising?

The new laws will not take effect until at least one year from now. However, franchisors should begin reviewing their franchise agreements as amendments may be required to ensure that vital terms of the franchise agreement are not at risk of being deemed unfair and unenforceable.

Existing franchisees may see amendments to their franchise agreements trickle through when the time comes to renew their franchise agreements. Alternatively, franchisors may choose to refrain from acting on potentially unfair terms across the franchise network, to maintain consistency in how franchisees are treated.

Other businesses that sell goods and services to franchisees using standard form contracts, such as suppliers of stock or equipment, may also be caught by the new laws. As a result, some terms of their standard terms and conditions may no longer be enforceable.

Where franchisors are seeking to establish supplier agreements to secure favourable terms, it will be necessary to check whether the agreements could be deemed as standard form, small business contracts. The inability to enforce terms with suppliers of the franchise system could have impacts to the franchise network, not just the franchisor.