Have you ever wondered what you can do to stop rival franchise networks from poaching your best franchisees? A recent Federal Court of Australia case has highlighted one important strategy that will be available to most franchisors that enables them to significantly reduce the poaching activity of a rival franchisor.

BACKGROUND

TSG Franchise Management, trading as ‘Tobacco Station’ (TSG), and Cigarette & Gift Warehouse (Franchising) Pty Ltd, trading as ‘Freechoice Australia’ (Freechoice) are competitors in the market for the selling of tobacco and related products and both operate franchise business models. Around April 2014, Freechoice embarked on an aggressive expansion plan aimed at encouraging its competitors’ franchisees to enter into franchise arrangements with Freechoice. The strategy involved Freechoice actively targeting high-performing competitor franchisees and offering them various financial incentives to enter into new franchise agreements with Freechoice. The incentives on offer by Freechoice included ‘paying out’ the target’s existing franchise agreements with competitor franchisors.

In June 2014, Freechoice contacted Cheryl Walters, the franchisee of two TSG stores in the Armidale area under franchise agreements about the possibility of Ms Walters signing with Freechoice. Ms Walter’s franchise agreements had at least a year left to run in their initial terms and could not be terminated at will. Subsequently, on 1 July 2014, Freechoice’s Franchise Communications Manager, Ms Norvock, met with Ms Walters to discuss what Freechoice could offer her in exchange for signing as a Freechoice franchisee.

After that meeting, Ms Walters sent an email to her TSG relationship manager, told him that she would like to terminate her TSG franchise agreements and requested that he provide her with a ‘payout figure’ for the remainder of those agreements (which Freechoice had offered to pay for her). There followed an email chain involving TSG head office staff which included a request to remind Ms Walters that she did not have a right to terminate the franchise agreement at will. The email chain was then sent to Ms Walters who sent it to Ms Norvock of Freechoice. Subsequently, Ms Norvock forwarded the email chain to Freechoice’s General Manager, Mr Whelan.

On 8 September 2014, Freechoice subsequently made a formal offer of a new franchise to Ms Walters and, on about 19 September 2014, Ms Walters accepted that offer and entered into new Freechoice agreements for both her stores. She subsequently wrote a letter to TSG informing it that she was leaving the TSG group and that after 3 November 2014 she would no longer trade as TSG.

On 31 October 2014, TSG’s solicitor’s sent a letter to Ms Walters rejecting her purposed termination of the franchise agreements and requesting that she continue to perform her obligations under those agreements. Ms Walters subsequently sent a copy of that letter to Ms Norvock of Freechoice, who also forwarded it to Mr Whelan.

On 3 November 2014, Ms Walters rebranded her TSG franchises as Freechoice stores. Subsequently, TSG commenced proceedings against Freechoice, claiming that it wrongfully and intentionally procured and induced Ms Walters to breach the terms of those franchise agreements.

THE COURT’S DECISION

The Court found in TSG’s favour. At trial, Freechoice admitted that it:

  • sought to persuade TSG franchisees to terminate their contracts with TSG and enter into contracts with Freechoice
  • offered them financial incentives to do so
  • was aware that Ms Walters’ contracts with TSG were for fixed terms which had not expired and could not be terminated without the consent of TSG
  • induced Ms Walters to terminate her franchise agreements with TSG and enter into franchise agreements with Freechoice by offering her financial incentives.

Critically, the almost sole focus of the dispute was whether Freechoice intended to induce Ms Walters to breach her contracts with TSG by terminating those contracts early. The Court noted that the key issue was the extent of the knowledge of Mr Whelan and the key decision makers at Freechoice on the day the offer was made or when Ms Walters executed the new franchise agreements as to whether TSG had given, or would give, its consent to Ms Walters terminating her contracts. The Court found that:

  • by receiving the email chain and TSG’s October letter, Freechoice:
    • knew that TSG had not agreed to release Ms Walters from her contracts early and that TSG had not been paid out by Ms Walters
    • was on notice that Ms Walters would be in breach of her contracts if she terminated them early
  • despite this knowledge, at each critical juncture, Mr Whelan failed to take steps to stop Ms Walters from signing up with Freechoice and did not instruct Ms Norvock to cancel the Freechoice re-fit of Ms Walter’s TSG stores and take steps to delay the commencement of Ms Walters’ trading with Freechoice.

Accordingly, the Court found that Freechoice’s conduct was inconsistent with its claim that it did not intend to procure Ms Walters to breach her contracts and granted a permanent injunction against Freechoice from engaging in the conduct of poaching TSG’s franchisees without regard for their contractual obligations to TSG.

WHAT DOES IT MEAN?

In this case, the deciding factor for the Court was that Freechoice, at the relevant times, had full knowledge of the franchisee’s contractual obligations to TSG and TSG’s refusal to terminate the franchise agreements. This was the key factor in the Court determining that Freechoice intended to unlawfully procure the franchisee to breach the franchise agreements.

The case highlights that there are steps franchisors can take who wish to prevent a rival from poaching good franchisees. While maintaining good franchisee relations is always the best approach, franchisors can head off rival networks by immediately taking steps to communicate with the ‘decision makers’ of their rival and warning them (as will be the case for most franchise agreements) that:

  • a successful attempt by the rival network to poach a franchisee will require the franchisee to breach its franchise agreement
  • consequently, the rival will be potentially liable for interfering in the franchisor’s contractual relations – exposing the rival to an award of damages payable to the franchisor.