December 20, 2017

Franchisors can now legally impose the use of specific products or services on their franchisees

On 6 November 2017, the Competition and Consumer Act 2010 (Cth) (‘the Act’) was amended to revoke the outright ban on third line forcing.

Third line forcing is a type of exclusive dealing that is commonly used by franchisors to impose certain duties and obligations on franchisees to purchase required goods or services from a third party supplier nominated by the franchisor. 

This may occur, for example, where the franchisor for a chain of gyms states in their franchise agreement that a condition of becoming a franchisee is that you agree to buy treadmills for your gym from a particular treadmill brand supplier.

Previously, franchisors (and all other businesses engaging in this conduct) could provide a notification to the Australian Competition and Consumer Commission (ACCC) of their intention to engage in third line forcing.  If the ACCC agreed that the conduct did not unfairly lessen competition, they would add the notification to a register which would provide immunity from prosecution under the Act. For the most part within franchise networks, the conduct did not raise competition concerns in the eyes of the ACCC.

Historically, the outright ban also meant that there have been numerous occasions where the ACCC has commenced court proceedings after alleged third line forcing contraventions.

As a result of the changes, third line forcing will now only be a breach of the Act if the arrangement has the “purpose, effect or likely effect of substantially lessening competition”. This is known as the ‘purpose or effect test’.

Franchisors will be in a position to take advantage of these relaxed rules, as it means they are at liberty to create supply arrangements that compel franchisees to buy products and services from third parties, creating cost-effective and simple supply arrangements.

Franchisors do not have to prove to franchisees that there is a quality or cost-benefit before compelling them to purchase particular goods or services from chosen suppliers. However, they must be careful to undertake an assessment of their conduct in light of the ‘purpose or effect’ test. If their conduct breaches the Act, civil penalties can apply up to $10,000,000.00, or the amount equal to the benefit obtained by the company by the act(s) of third line forcing, or 10% of the turnover of the company in the previous 12 months.

For franchisees, it is important to understand the obligation to purchase products or services from a third party, regardless of their quality, price, or other benefits. As such, it is important to undertake their due diligence and ensure that they are willing to use the products and services that will now be part of their supply chain, regardless of the comparative cost and quality of third-party suppliers.

If you are unsure whether your third line forcing model will satisfy the ACCC’s ‘purpose or effect test’, please contact the McInnes Wilson Lawyers Franchising team for further assistance. 

Header Photo: V_Minshull