Get your disclosure documents ready…or pay the price

Inside Franchise Business: franchisors need to update disclosure documentsForget to update your disclosure documents at your peril.

Franchisors must update their disclosure documents within four months of the end of their financial year. That means that most franchisors who operate on a standard financial year ending on 30 June must finalise their update by 31 October.

The annual update is an important part of running a franchise system and is mandatory under the Franchising Code of Conduct. It should never be viewed lightly.

What does the annual update involve?

You should consider the following:

1. Financial reports for the previous two financial years must be prepared in accordance with the Code’s guidelines. The disclosure document must include copies of these reports or an independent audit report of them.

2. All details within your disclosure document should be up-to-date, including:

  1. The list of current franchisees. Have there been any new franchisees, sales of existing businesses, franchise agreements which have terminated or franchisees who have ceased to operate?

  2. The list of franchisees who have left the system within the last three financial years, including a contact email and/or phone number.

  3. If you operate a marketing or advertising fund, then details of the fund’s expenses for the last financial year.

  4. Financial information and payments required under the franchise agreement. Have there been any fee increases?

  5. Changes to the intellectual property. Have you rebranded, introduced a new logo or registered any new trade marks?

  6. Major capital expenditure expected to be incurred by franchisees. Does your disclosure document sufficiently cover everything, for example, the expenses involved in a store upgrade? An upgrade can include a lot of different things including new software and point of sale systems, signage, furniture and fit-out.

3. Once updated, your disclosure document must be signed by a director or company officer, along with a statement confirming your solvency and ability to pay your debts.

What if you fail to update? Is there an exemption?

Failure to comply with disclosure obligations under the Code can attract penalties of up to $63,000 in each instance, and these breaches may lead to infringement notices issued by the ACCC for $10,500 per breach.

The exemption to the annual update requirement is:

  1. no franchise agreements were entered into during the previous financial year (which includes new franchise grants, renewals, transfers or variations to existing franchise agreements); and
  2. in your reasonable opinion, you will not be entering into any new franchise agreements, renewals, transfers or variations within the next 12 months.

Ok, the update is complete, now what?

The updated disclosure document won’t sit in a draw untouched until the next annual update. It will need to be provided to franchisees in the following situations:

  1. To a prospective franchisee on the grant of a new franchise.

  2. To a buyer on the sale of an existing franchisee’s business.

  3. To a franchisee who desires to renew their franchise agreement.

  4. To a franchisee varying, extending or extending the scope of their franchise agreement (for example, extending the term, changing the territory or any other material provision of the franchise agreement).

  5. To an existing franchisee who has requested a copy of your current disclosure document. The right to make this request is limited to once every 12 months. You must provide a copy within 14 days of the request. However, if you have not undertaken your annual update (per the exemption discussed above), you must then update your disclosure document and provide it to the franchisee within two months of the request.

Is the update only required once per year?

While the update is only required once per year, you are still obliged to notify all your current franchisees within 14 days of the occurrence of any ‘materially relevant’ facts, which can be found under section 17 of the Code and include:

  1. Investigations by a public agency (e.g. ASIC) or judgments against you.

  2. Legal proceedings instituted against you by at least 10 per cent or 10 franchisees (whichever is lower).

  3. Change of ownership or control of the franchisor, your intellectual property or the franchise system.

  4. The franchisor becoming externally administered.

This doesn’t mean you are automatically required to provide a copy of your current disclosure document to all franchisees. You are only required to provide details of the ‘materially relevant’ facts.

However, if any of these ‘materially relevant’ facts occur between your annual updates, and you become required to provide a current disclosure document to a franchisee (for example upon request or the other situations discussed above), then details of the ‘materially relevant’ facts must be provided to the franchisee in a separate annexure to the disclosure document.

Disclosure of these ‘materially relevant’ facts is essential. The courts have set aside franchise agreements and awarded compensation to franchisees in some situations where franchisors have failed to provide adequate and up-to-date disclosure. This is when the franchisee can establish they would not have entered into the franchise agreement had they received adequate disclosure.

Finally, don’t forget to audit your marketing fund

If you operate a marketing or advertising fund, unless 75 per cent of your franchisees who contribute to the fund vote otherwise, the fund must also be audited within the same timeframe to update your disclosure document. This will be an audit of the fund’s receipts and expenses for that financial year. The audited statement and audit report must be provided to franchisees within 30 days of its preparation.