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IS FRANCHISE LAW A STEP CLOSER?

by Simon Lord,
last updated 29/07/2009

30 March 2008 - Franchise regulation is on the agenda after several high-profile problems. Simon Lord talks to the Commerce Minister and outlines franchisors' concerns

The news of the alleged fraud involving Green Acres ironing franchisees that hit the news just before Christmas caused great concern throughout the franchise sector. Other stories have since surfaced, prompting calls for regulation of franchising. After many years of debate among members, the Franchise Association has now promoted the idea that some sort of regulation would be beneficial and is involved in discussions with Lianne Dalziel, the Minister of Commerce.

Franchising is a hugely successful part of the economy of New Zealand, accounting for perhaps 10% of GDP - as much as our highly-prized tourism industry. That means any intervention could have a major impact upon small business in this country. So is the concept of regulation an over-reaction to current events or a necessary adjustment to restore public faith in franchising? Would the overall effect be positive or negative for franchisees and franchisors?

Lianne Dalziel herself has an open mind on the subject. ‘It's very common when something goes wrong for people to ask "What's the government doing about it,"' she says. ‘The Green Acres case attracted a lot of publicity over Christmas and dominated the headlines when the news was slow. I had to ask whether this was a case of one bad apple or indicative of greater systemic risk within franchising. I was aware of the problems with Du Magic a couple of years ago, an Australian company that came over and took a lot of money from New Zealanders, and of course Blue Chip is a crossover finance and franchise issue. I think regulation put itself on the agenda.'

However, she is keen to avoid accusations of a knee-jerk reaction. ‘You have to take a deep breath and then go through a four-stage process: define the problem, develop options, talk with stakeholders and assess the cost benefits of any action. I don't want to take a sledgehammer to crack a nut and nothing so far has suggested that the recent problems are systemic in franchising.

‘We're currently up to the problem definition stage. It's an advantage that Green Acres is a member of the Franchise Association and therefore subject to the Association's Code of Practice, which has many similarities to the mandatory Australian code. I've looked at the Australian law and I can't see anything there that would have prevented this particular problem. The Green Acres case involved a totally legitimately-appointed person, an area manager and master franchisee. People who contacted Green Acres were put on to him. But there seems to have been nothing that connected the allegedly illegitimate side of his business back to Green Acres. We are all, both Government and Franchise Association, looking to see what the gaps were and how they could be addressed, but you don't want to over-react and build legislation for an entire sector around one isolated case.

‘On the other hand, Du Magic were not an Association member so that raises the question of whether there should be a mandatory code. When you think about it, people have to make a significant investment to buy a franchise and should get advice, a disclosure document and proper dispute resolution provisions. It's actually very similar to what we are promoting for financial advisors.' The Financial Service Providers (Registration and Dispute Resolution) Bill is currently in Select Committee.

‘I thought the Financial Services Provider Bill might actually offer a passing train on which to add a carriage if we wanted to do anything about regulation in franchising, but my advice from parliamentary officials is that franchising is outside the scope of this legislation. Instead, we are working closely with the Franchise Association to develop a framework with them and I'm satisfied that we're making good progress.'

Association Comes Out In Favour

The early February announcement by the Franchise Association that it was supporting the idea of positive regulation took many people by surprise. The timing was, says Association chairman Miles Agmen-Smith, prompted by the Minister's request that FANZ should make a submission to the Select Committee considering the Financial Service Providers Bill within the next week. ‘Fortunately we were able to negotiate an extension to that and having considered the matter further, consulted our members and taken advice, we have agreed that the Bill is not an appropriate place for any form of franchise regulation to sit,' says Miles. ‘One thing that the announcement did do was demonstrate that there is considerable support among our membership for the idea of good franchise regulation. Our task now is to develop appropriate proposals for the Minister that will help to strengthen franchising, not weaken it.'

The task was debated at length at a meeting held in Auckland in March which attracted 40 members. Also present was Stephen Giles, who was on the board of the Franchise Council of Australia at the time legislation was introduced over there and later became chairman.

‘I have a real sense of déjà vu about this,' Stephen told the meeting. ‘The Australian legislation was prompted by some problems that attracted a lot of bad press, and then by the activities of some pressure groups. In hindsight, the board didn't make up its mind early enough on the regulation issue and left it too late to make its submissions. As a result, we got legislation that was perhaps more costly and more difficult to work with than was necessary. Lower-end Australian franchises certainly found the documentation required very onerous at first and that's only got worse in the latest review. It was all put in place too hastily. I therefore congratulate the New Zealand Association's board on taking such a pro-active stance.'

Stephen said that, as he wrote in an article in Franchise New Zealand two years ago, the overall impact of legislation has been overwhelmingly positive for the franchise sector there. ‘Self-regulation has always had a poor reputation - think of the real estate industry or even the police. It makes it too easy for the media to have a crack. And, to be honest, we didn't realise at the time how many people in Australia wouldn't buy a franchise because of their poor perception of franchising. Regulation has changed that perception.'

The Issues

Any form of regulation would first require a definition of precisely what constitutes a franchise. There is no international agreement on this; in Australia, for an agreement to be classified as a franchise agreement it must contain all four of the following elements.

  1. An agreement - which may be written, oral or implied.
  2. An existing system or suggested marketing plan that is controlled by the franchisor or an associate.
  3. The business must be operating and be associated with a symbol or trade mark.
  4. A fee paid, or agreed to be paid, to the franchisor.

‘Australian franchisors wanted this definition to be as wide as possible,' Stephen Giles reported. ‘If they were operating proper franchises, they didn't want to see competitors wriggling out of compliance through claiming not to be part of the sector.'

An area of debate has been whether franchises should be required to be centrally registered, perhaps at the Companies Office. As Brian Sutton of Snap Printing pointed out, ‘If you don't have registration then the media will get hold of people and call them franchises when they are not.' But Peter McConnell of Civic Video disagrees. ‘Registration could give legitimacy to people who don't deserve it - people will assume that if a franchisor is registered they must be OK.' And Lianne Dalziel herself has concerns. ‘There are moral hazards around registration - it might look like some form of Government guarantee, which sends the wrong signals.'

According to Stephen Giles, the extreme options are either to say that you can't sell a franchise unless you are approved to do so (the registration option) or to say that anyone can sell a franchise - the current position. ‘In between is the requirement that if you sell a franchise, you must do this, this and this. Defining what should be disclosed, mandatory dispute resolution procedures and making it compulsory for franchise buyers to take professional advice could be included in such a regime.

‘The important thing is not to make the costs of compliance too onerous. Compliance costs essentially come down to preparing disclosure documents that comply with the regulations, updating them annually, good record-keeping and behaving in accordance with the Code. But keep it real: in Australia, the recent review means disclosure documents now have to list not all only all current but also past franchisees as well, including their contact details - an impossible task in many cases.'

And that, fears Peter McConnell, is where the danger of regulation lies. ‘I would rather see franchising self-regulated by FANZ than have a law that future politicians can manipulate.' While this is a common concern among all those involved, according to the Association's general manager, Peter Fergusson, the great majority of feedback received from members has been in favour of positive regulation. ‘We are now surveying the total membership to gather further input prior to our making a formal submission to Government on the issue.'

In addition to the registration of franchisors, the Association is also considering the possible registration of franchise advisors. ‘This would enable people to be excluded from acting as franchise advisors if they were ineligble on the same grounds as people are excluded from being directors under the Companies Act,' reported Miles Agmen-Smith. ‘We are also considering introducing some form of ongoing professional development for our members to help ensure that advisors are properly educated and distinguished from non-specialists.'

The other registration issue, of course, is that of sub-franchisees. Such a registration system might have prevented the problems faced by the ironing franchisees but could potentially be very hard to establish and maintain. ‘Rather then registration with the Government, there should perhaps be a requirement for registration and confirmation by the franchise system itself in some agreed fashion - possibly on-line,' Miles suggested. ‘This is an area that requires a lot of careful thought.'

What Next?

The Association has put in a submission to the Select Committee on the Financial Services Provider Bill saying that it does not believe that this Bill is an appropriate vehicle for introducing franchise regulation and is instead developing a full proposal for the minister's consideration. Lianne Dalziel says she is pleased with the way in which the talks with FANZ are developing.

‘Recent events have perhaps been a bit of a wake-up call for the franchise sector, but I have no preconceptions on what needs to be done - we're not far into the process yet. I am very supportive of franchising. I don't want to see anything we do reduce the capacity for people to grow their own businesses in a franchise framework and I don't want a regulatory framework that increases costs. It's not a party political issue. We recognise that there are a lot of small businesses - franchisees and franchisors - who would not thank us for making their lives more difficult.'

But the mood of franchisors seems to be changing inexorably in favour of some form of regulation. As Philip Horrocks of Provender put it, ‘As a franchisor I was originally totally opposed to legislation. I have changed my mind - good franchisors have more to fear from bad franchisors than they do from sensible regulation. Now is the time for us to be seen to be taking strong action to protect our industry.'

This article was first published in Franchise New Zealand magazine Volume 17 Issue 1 

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