In brief

  • It is common for franchise agreements to incorporate other documents into the contract, such as operations manuals. 
  • Due to the risk that terms in documents incorporated into the main agreement may not be regarded as relevant to the construction of that agreement, important terms, such as those defining the scope of a franchise right, are best dealt with in the main agreement.
  • In this case, the text of an operations manual was held in any event not to affect the interpretation of the obligations of the parties under the main agreement.

Summary

In Australian Maintenance and Cleaning Pty Ltd v AMC Commercial Cleaning NSW Pty Ltd [2011] NSWCA 1031, the court found that a clause in a Master Franchise Agreement (MFA) requiring a party to not unreasonably withhold its consent to entering into further franchise agreements did not apply to Sub-Master Franchise Agreements (SMFAs).

The court also considered the effect of a subsequent introduction of an Operations Mmanual (Manual), which was explicitly incorporated into the MFA, on this clause but ultimately found that it did not alter the construction of the relevant clause.

Implications from the decision

This decision has significance for parties entering into agreements that expressly incorporate other documents into such contracts. The parties should carefully consider the effect of any such documents subsequently introduced or amended on their obligations under the main agreement, and whether they may be better incorporated through a variation to that agreement. 

Background

On 5 March 2003, Australian Maintenance and Cleaning Pty Ltd (National) and AMC Commercial Cleaning (NSW) Pty Ltd (NSW or master franchisee) entered into a MFA. The MFA was effectively a franchise to grant franchises, in that it granted NSW the right to use National’s ‘systems, procedures and intellectual property to grant franchises’ in New South Wales and the ACT. The franchises granted by NSW were for operating a cleaning business using National’s intellectual property.

Clause 7.5 of the MFA provided that NSW must not enter into any Franchise Agreement with any person, or ‘grant any rights to carry on business using’ National’s trade marks, systems or intellectual property ‘in any circumstances’ without National’s prior consent, which may be withheld in its ‘reasonable discretion’.

Clause 1 of the MFA contained a number of relevant definitions, including:

  • Client, as a client ‘to whom a franchisee provides cleaning services’
  • Franchise Agreement, as ‘a franchise agreement to be entered into’ by National, NSW and franchisees ‘in the form provided by’ National
  • Franchisee, as ‘a franchisee of the master franchisee under a franchise agreement’, and
  • Master Franchise, as the business of managing franchisees and ‘seeking, recruiting, supplying, motivating, training, supervising and supporting’ franchisees within NSW and the ACT.

Clause 17 of the MFA incorporated National’s operations manuals and other relevant material, as amended from time to time for certain purposes, into the MFA and provided that a breach of its terms constituted a breach of the MFA. In 2009, National released its Manual which dealt with—amongst other matters—engaging Franchisees, including a section on ‘Fees and Royalties’ which made reference to ‘Submaster Franchisees’ and the fees owed by them to the ‘State Master Franchisee’.

Prior to the introduction of the Manual, NSW had requested and received National’s consent to SMFAs regarding the New South Wales South Coast and the Newcastle/Central Coast regions. At some point after its introduction, NSW requested National’s consent to a SMFA that it had agreed to enter into with Ultimate Facility Services Pty Ltd (Ultimate), allowing Ultimate to use National’s systems, procedures and IP to grant franchises in the ACT. National refused to consent to, or execute, the SMFA.

In 2009, NSW commenced proceedings against National in relation to a number of issues arising out of the MFA. On appeal, only the issue of National’s refusal to consent to the SMFA remained outstanding.

Issues

At issue was the appropriate construction of clause 7.5 of the MFA and whether the term ‘Franchise Agreement’ as used in that clause applied to SMFAs. NSW argued that, by reason of this clause, National was obliged to give its consent to and execute the requested SMFA, and its refusal to consent was not reasonable. It further argued that the introduction of the Manual had the effect of varying the MFA to include SMFAs within the scope of franchise agreements in clause 7.5. National argued that this clause did not apply to SMFAs as ‘Franchise Agreements’ either before or after the introduction of the manual.

Decision

What was the proper construction of the MFA?

The court held that the MFA clearly distinguished between a franchise to grant franchises, defined and referred to as a ‘Master Franchise’, and a franchise to operate a cleaning business, defined and referred to as a ‘Franchise Agreement’. A SMFA, as a type of franchise to grant franchises, was more akin to the former and the combined operation of:

  • the recitals, outlining the role of NSW as a Master Franchisee
  • other parts of the MFA outlining the role of NSW’s Franchisees as providing cleaning services to clients (including the definitions of Client and Franchisee, and other clauses explicitly providing for such a role), and 
  • the absence of any contemplation of an additional role for Franchisees of granting franchises clearly excluded sub-master franchises from the definition of ‘Franchise Agreement’ and therefore from the purview of clause 7.5.

Justice of Appeal Macfarlan also noted that clause 7.5 did not only impose an obligation on National to consent to a Franchise Agreement, but also to execute it, given that the definition of Franchise Agreement includes National as a party to such agreement.

Did the Manual have the effect of varying the construction of the MFA?

At first instance, Justice Rein held that the Manual’s contemplation of SMFAs indicated National’s view of such agreements as a ‘legitimate form of franchise agreement’ and led to their recognition as a ‘species of franchise’ covered by the MFA2.

On appeal, however, this view was rejected. Justice of Appeal Macfarlan first noted that the part of the Manual in question did not purport to amend or alter the operation of clause 7.5. Further, clause 7.5 did not affect the right of National to consent and enter into SMFAs irrespective of any clause requiring or authorising it to do so, or such action being governed by the MFA, as had been the case with previous NSW SMFAs in relation to regions of New South Wales.

The court also noted that there was no indication that the relevant parts of the Manual were intended to signal National’s assumption of an obligation to consent to SMFAs under clause 7.5, given that the Manual maintained separate headings for ‘Franchisee’ and ‘Sub-Master Franchisee’. It appeared that this section merely specified any fees payable in the event that National consented to the grant of further sub-master franchises as it had in the past.

What role might the Franchising Code of Conduct play?

NSW argued that clause 30 of the MFA, which provided that the MFA should be ‘construed as far as possible in a way that would ensure that it did not contravene’ the Franchising Code of Conduct (the Code), assisted in its interpretation of clause 7.5.

NSW noted that definitions in the Code of ‘franchise’, ‘franchisee’, ‘franchisor’ and ‘master franchise’ all included references to sub-franchises. However, the court held that these definitions did not indicate any right or authority of franchisees to grant sub-franchises, but merely indicated that any sub-franchises are to be covered by the Code. Furthermore, NSW’s MFA did not fit within the Code’s definition of ‘franchise agreement’, as it was not granted the ‘right to carry on the business of offering, supplying, or distributing goods or services’ but rather was given the right to ‘recruit, train and supervise’ franchisees.

Conclusion and consequences

As a result of the court’s decision, National was under no obligation to consent to or execute the requested SMFA under the terms of the MFA. In practice, NSW had previously requested and received the right to grant a sub-master franchise, but this right had been agreed to by the parties outside of the MFA. The right to grant sub-master franchises was not one that was governed or contemplated by the MFA, despite its existence in practice, and as a result clause 7.5 did not govern National’s response to a SMFA request.