With the recent amendment of the Franchising Code, the case of Australian Competition and Consumer Commission v South East Melbourne Cleaning Pty Ltd (in liq) serves as a reminder of the consequences of failing to comply with an industry code and act in compliance with legal requirements.

This month’s update looks at the consequences experienced by South East Melbourne Cleaning Pty Ltd.

What happened?

The Australian Competition and Consumer Commission (ACCC) commenced proceedings against South East Melbourne Cleaning Pty Ltd (in liq) (Coverall); Brett Jones, Coverall’s owner and sole director in the relevant period; and Astrid Haley, Coverall’s Sales Manager at the relevant time, for engaging in misleading and deceptive conduct, unconscionable conduct, misleading representations pursuant to the Australian Consumer Law (ACL) and breach of an industry code.

Coverall went into liquidation and the ACCC was granted leave to continue its proceedings against Coverall and Mr Jones and Ms Haley. The liquidators played no active part. Prior to trial a settlement was reached and orders were sought from the Court on the basis of a Statement of Agreed Facts.

The orders made were:

  • an undertaking that Mr Jones will not, for a period of two years, be directly or indirectly involved in the management and/or marketing of a franchise business;
  • a disqualification order prohibiting Mr Jones from managing corporations for a period of 2 years;
  • a compensation order providing that Mr Jones pay Mr Eliaser and Mr Patel’s loss or damage in the amounts of $17,713.19 and $5,604.65 respectively; and
  • a pecuniary penalty order in the amount of $30,000 to be paid by Mr Jones for the engagement in unconscionable conduct;
  • a pecuniary penalty order of $500,000 to be paid by Coverall;
  • a contribution towards the costs of the ACCC of $5,000 to be paid by Mr Jones by way of payment plan due to Mr Jones impecunious circumstances;
  • an undertaking from Ms Haley that she will not for a period of two years be directly or indirectly involved in the management and/or marketing of a franchise business;
  • a copy of the reasons for judgement with the seal of the Court be retained in the Court for purposes of section 137H of the CCA.

The conduct that lead to the commencement of action against Coverall largely concerned the representations and undertakings given to two franchisees: Mr Eliaser and Mr Patel (Franchisees).

This was alleged to include:

  • failing to comply with the prescribed disclosure requirements prior to entering into the franchise agreements pursuant to the then Franchising Code and thereby contravening the Competition and Consumer Act 2010 (Cth) (CCA).
  • assuring the Franchisees of specified monthly earnings, which allowed for gross billings of $4,000 (for Mr Eliaser) and $5,000 (for Mr Patel) per month;
  • withholding monies due to the Franchisees despite the fact that the customers had paid for the services undertaken and completed by the Franchisors; and
  • unconscionably relying on the franchise agreement in order to force the Franchisees to make a number of payments in respect of, for example, sales and marketing fees, and demanding payment of the balance of the franchise fees from Mr Patel in order to allow Mr Patel to terminate the franchise agreement.

The ACCC alleged that Coverall in effect deliberately exploited its greater bargaining power in relation to the Franchisees in order to gain an illegitimate advantage for itself. Coverall did this through showing the Franchisees at the time of entering into each franchise agreement the costs of each different franchise plan available and the amount of initial monthly income that would be provided to the Franchisees under each plan.

Coverall’s disclosure document asserted that Coverall did not provide “earnings information” about the franchise and that earnings may vary between franchises and, that Coverall could not estimate earning for a particular franchise. Coverall also described the information provided by way of a projection or forecast as “not applicable”.

However, the Court rejected these assertions and found that the information:

…provided them with the Franchise Schedule which set out the monthly earnings which would be generated for the franchisee under each of the different franchise plans offered by Coverall. This was “earnings information” as it indicated to Mr Eliaser and Mr Patel the monthly earnings under each available franchise plan from which they could assess the future financial details of the franchise.

Upon finding that the information was in fact “earnings information”, the Court concluded that:

(a) Coverall was required to provide further information to the Franchisees (including the facts and assumptions upon which the projected or forecasted monthly earnings figures were based)

(b)the forecasts were not premised on reasonable grounds and consequently, Coverall failed to comply with the Franchising Code and was in breach of the then Trade Practices Act;

(c)the representations made to the Franchisees in respect of the minimum monthly earnings and the anticipated volume of work amounted to misleading and deceptive conduct and misleading representations pursuant to the ACL.

(d)“Coverall … did not properly disclose the “earnings information“ in relation to the franchise, it misinformed them about the volume of cleaning work and amount of monthly earnings they could expect and about the risks and profitability of the franchise, and it entered into franchise agreements with them when it knew the matters set out above (as did its owner and sole director, Mr Jones). Coverall (or Mr Jones) took no steps to ameliorate the power imbalance … to make proper disclosure of the earnings information or to provide accurate information as to the risks and profitability of the franchise they were being encouraged to enter.

As such, Coverall’s conduct was unconscionable and in breach of good faith. The Court found that Mr Jones, being the owner and sole director of Coverall during the relevant period, was a party to Coverall’s contraventions.

The orders made by Justice Murphy, after consent by the parties, highlight the importance of the directors of franchisors ensuring disclosure statements are accurate, contain all the necessary information to comply with the Franchising Code, do not mislead franchisees and permit them to make informed decisions with all the relevant legislatively required information.

Those systems which presently indicate that they do not provide ‘earnings information’ may need to reconsider the accuracy of this statement in light of other information which they provide to potential franchises through representatives in conversations, on websites and in marketing material that is not the disclosure statement or franchise agreement.