Renewing the franchise agreement

By Sarah Stowe | 11 Apr 2018 View comments

Inside Franchise Business: what to know about renewing a franchise agreementThe renewal or extension of a franchise agreement, is an important right and greatly impacts on the franchisor and franchisee in different ways.

For a franchisee, renewal or extension of their existing agreement will enable the franchisee to continue operating the business, maintain their goodwill and provide them an opportunity at the appropriate time, to sell their business and/or assign their rights hopefully for a reasonable return.

For a franchisor, renewal and/or extension of its franchise agreements ensures its ongoing revenue stream via royalties and margin on the supply of products and maintains the value of its franchise system as a whole.

Two things are obvious: a franchisee who is doing well will want to renew and a franchisor will want productive franchisees to continue on in the system.

Franchising Code of Conduct definitions

The definitions under the Franchising Code of Conduct (Clause 4) are important in understanding the renewal rights and obligations.

The terms “extension” and “renewal” are clearly defined.

“Extend” means a material change to the terms and conditions of the agreement , individual rights, or liabilities imposed.

So an extension of the term of a franchise agreement is a change made by the franchisor but not a renewal.“Renewal”occurs when the franchisee exercises an option to renew the agreement.

Renewal does not exclude a conditional renewal so the new franchise agreement does not have to be identical to the existing agreement.

The new franchise agreement can contain new provisions and conditions such as new sales targets or licensing requirements as a condition to the franchisee’s right to exercise its option.

A change in control of the franchise business with the consent of the franchisor, is deemed a transfer, not a new franchise agreement.

Can the franchisor refuse to renew?

Franchisors need to bear in mind the obligations at all times to act in good faith.

Clause 6(6) and (7) of the Codeclarifies that the obligations to act in good faith does not prevent a party from acting in their legitimate commercial interests. The franchisor is not necessarily acting in breach of its good faith obligation by not agreeing to renew the franchise or granting an extension.

So can a franchisor refuse to renew or extend a franchise agreement where the franchisee has exercised its option?

The Code does not specifically address the term a franchise can be granted or dictate any process for  renewal. It is a contractual right and subject to any terms and conditions set out in the franchise agreement.

The franchisor may be entitled to refuse a renewal or extension if the franchisee is in default of its obligations at the time or the agreement may impose conditions for the franchisee to refurbish as a condition of the renewal.

Franchisors obligations of disclosure

Where there is a renewal or an extension of a franchise agreement, the Code requires the franchisor to give the franchisee the latest version of its disclosure document updated within four months of the end of the financial year, at least 14 days before renewal or extension.

A franchisor who fails to provide an existing franchisee with a copy of the Code and disclosure documents at least 14 days before, renewal or extension, or payment of a non-refundable payment, is subject to a civil penalty of 700 penalty units (that is a fine of $54,000).

Franchisors might also consider requiring the franchisee to sign Clause 10- legal and independent business advice certificates at the time of renewal and extension although not a mandatory requirement under the Code so it can be shown that the franchisee read and understood  the revised documents as they may well be in a slightly different form to the original documents

This gives franchisors some degree of protection from allegations by franchisees that they were not aware of any updates or changes to the  new agreement.

End of term Issues

A franchisor must give a franchisee notice in writing whether it intends to extend the franchise agreement or enter into a new agreement at least six months before the end of the franchise term. If the franchisor intends to extend the agreement, it must also advise the franchisee that they can request an up to date disclosure document.

A failure to provide the notice in time or not advise the franchisee they can request a disclosure document, may leave the franchisor liable to a civil penalty of 300 penalty units.

Impact of not renewing on non compete clauses

If the franchisor does not agree to extend the existing agreement, or enter into a new agreement and fails to offer the franchisee “genuine compensation” for its good will, at expiry of the agreement, the franchisor will not be able to enforce any non-compete provisions against the franchisee.

Genuine compensation is not defined and will be no doubt be a matter of some contention. It needs to be determined on reasonable grounds .

Provisions in relation to non-solicitation and confidentiality remain enforceable by the franchisor.

This end of the term issue is an important one for franchisors to consider.

The lease

Don’t forget to diarise the date to exercise your option if you hold a lease. The lease and franchise agreement term often do not coincide and you need to ensure you secure your lease as well as your franchise renewal.

Tips for franchisees

Franchisees should keep a complete record of their signed documents, diarise key dates and ensure they give notice exercising their option or request for an extension of the term before expiry of the franchise agreement, to preserve their rights.

Make sure that you are up to date with all fees due and owing to the franchisor at the time you exercise your option or enter into discussions for an extension of your franchise term.

Franchise buyers should seek expert franchise advice on their rights and obligations before entering into a franchise and at each option as the new franchise agreement may be different to the original.

So just as franchise buyers plan to enter into a franchise agreement, so they must now plan before the term ends whether to stay or go.

There are tricks and traps and civil penalties now apply for a failure to comply with the Code so seeking specialist advice is vital.

The Code requires both parties to act in good faith, and this extends to negotiations going into the agreement, conduct during the term, and negotiations around, renewal and exit arrangements.