Consumer Protection Act

Developments around the Consumer Protection Act as they impact on franchising

The Consumer Protection Act (CPA) has been in the pipeline for years. It was signed into law late last year and will finally take effect on 24 October 2010. Every business entity will be affected by its provisions and franchisors are not exempt. On the contrary, the Act deals them a double-whammy. Not only are their core businesses affected but because the Act deems franchisees to be consumers, their franchise operations fall under its ambit as well.

Earlier this year, x2in5.com published an article written by franchise attorney Eugene Honey, a director of Bowman Gilfillan. It first appeared in the book How to franchise your business which is available from FASA and provides an excellent introduction to the CPA. Among other things, it points out that every franchise agreement must include prescribed information. Unfortunately, the exact nature of that information remains unclear because while the regulations were expected to be published during or about March 2010, this still hasn’t happened.

To make matters worse, nobody can tell us when the regulations will actually become available. This creates a bit of a problem for the franchise sector because with the implementation of the Act less than three months off, time is running out and there is widespread alarm. We know this because in our franchise practice, we receive many enquiries from concerned franchisors who want to stay on the right side of the law but don’t quite know what is expected of them.

In keeping with our resolve to promote franchising, we wanted to help but were unable to do so until the Regulations have been published. In the meantime, we decided to take a different approach.

We created some likely scenarios around the spectre of unhappy franchisees trying to use the CPA to settle scores, be they real or imaginary, with their franchisors. We then brainstormed ways of how franchisors should respond. To avoid repetition, we decided not to provide an introduction to the CPA within the framework of this article but advise readers who did not see Eugene Honey’s original article to refer to it before reading on. This will facilitate a better understanding of the material that follows.

What the future holds

Does the implementation of the CPA mean the end of franchising as we know it? We don’t think so. Subject to proper implementation and effective policing, the act will pose no threat to professional franchisors. All it really does is cement good franchise practice as set out in the FASA Code of Ethics.

But while adherence to FASA’s Code was largely voluntary, implementation of the CPA will place a greater degree of accountability upon franchisors’ shoulders. It follows that if, for example, a franchisee’s business fails, he or she may well succeed with a claim against the franchisor – unless of course the franchisor is properly prepared for this eventuality.

Stripping away some myths

Let’s get one thing straight: The CPA does not expect franchisors to guarantee a franchisee’s business success. All that’s expected of the franchisor is the delivery of fair value in exchange for the initial and ongoing fees franchisees pay. On the face of it, this does not sound unreasonable, and indeed it is not. It is important to remember, however, that if a franchisee brings a claim against the franchisor, the onus will be on the franchisor to prove that the franchisee’s contentions are unfounded.

With this in mind, we have brainstormed some scenarios that are likely to arise in a franchise situation. We then asked ourselves what steps a franchisor could take in response. Our findings are summarised in the following table.

Preparations for the implementation of the Consumer Protection Act
Possible allegation made by franchisee	Recommended pre-emptive measures
When I signed the franchise agreement, I had no idea what I would let myself in for. The franchisor representative made it all sound so attractive.	Train your contact staff. They need to be aware of the CPA and desist from making representations that cannot be proven. Select franchisees with care. Draft a comprehensive profile of the ideal franchisee and adhere to it.² Provide qualified prospects with a comprehensive disclosure document and a copy of the franchise agreement as prescribed in the CPA. Encourage qualified prospects to ask questions and to meet with established franchisees. This meetings should take place without a head office representative being present.
I received the disclosure document and the franchise agreement but I did not understand the fine print.	Avoid the proverbial “fine print” – ensure that all documentation is written in clear, unambiguous language. Explain the documentation to the prospect then encourage him or her to ask questions. Encourage prospects to seek independent professional advice. Ensure that the prescribed “cooling-off period” of 10 working days is strictly observed.
I purchased an existing franchise from the original franchisee. The franchisor approved the transaction but did not warn me that most of the equipment that formed part of the deal was hopelessly outdated.	Insert a clause into the franchise agreement to the effect that the actual sale of the business is a transaction conducted strictly between the original franchisee and the new franchisee, with the franchisor merely assessing the new franchisee in relation to the official franchisee profile. This notwithstanding, it is advisable to disclose all material facts about the resale to the prospect which you as the franchisor should reasonably be aware of.
The operations manual doesn’t tell me anything I need to know about operations.	Have an operations manual drawn up (or an existing one reviewed) and ensure that it is updated periodically in future. (Minimum recommended interval once a year, more often if necessary).²
The franchisor doesn’t have any idea what’s really going on within the network	Arrange periodic franchise audits.²
The equipment the franchisor advised me to purchase is not fit for purpose.	Prepare a written assessment of equipment and other capex items used in your business sector and explain your rationale for recommendations made. On an ongoing basis, scan the market for new developments in your industry sector.
My business is failing because the site the franchisor selected for me (or approved) does not have the expected trading potential	Select sites with care. Draft a comprehensive profile of the ideal site and adhere to it when evaluating a new site. Undertake an extensive site survey.²
Initial projections provided by the franchisor overstated the business’s earnings potential by a considerable margin.	Explain that any projections provided are examples only and do not suggest that the prospect may achieve similar results. Stress that actual trading results achieved by the prospect will depend on the prospect’s skills as well as the effort expended.
My business is failing because the initial training I received turned out to be totally inadequate.	Develop a formal training plan and insist that every new franchisee must attend training until competent. Insist on the new franchisee undergoing an initial assessment to establish his or her skills level and attend remedial training in areas of weakness before attending the core training. Have the new franchisee and the trainer(s) involved sign off on each training module. Conclude training with a formal assessment/graduation.
I am unable to generate the expected ROI because the franchisor forces me to purchase goods from prescribed sources at inflated prices.	Limit the range of products to be purchased from prescribed sources to essentials. Negotiate favourable prices for the network and share the resulting benefits with franchisees. Disclose rebates and other benefits received from suppliers.
My business is failing because the franchisor does not provide sufficient ongoing support. The Field Service Consultant hasn’t got a clue and overall, the extent of support I receive is not good value taking the Rand amounts I pay in franchise fees into account.	Create a support hotline and ensure that it is staffed by a competent person during your sector’s business hours. Draw up a formal franchisee support programme. Draw up a support programme for franchisees in distress. Train your Field Service Consultants, then train them again. Arrange regular training sessions for franchisees and key staff. Arrange periodic regional and national get-togethers during which problems tabled by franchisees are addressed and the way forward is jointly developed. Keep detailed records of times, places and the nature of any and all support interventions you give. (Tip: rather than asking franchisees to sign for this each time [too bureaucratic] it is better to summarise each intervention in an email which can double up as a checklist for follow-up.)
¹ Keep detailed notes of every step complete with date, place and the individuals involved; file them away safely. ² Input by a recognised professional advisor will enhance the work; should the CPA Commissioner become involved, it will also strengthen the franchisor’s case immeasurably.

Implementation

So, what does this mean in practical terms? The message is clear: Start getting your house in order, and start doing so NOW! More specifically, you need to pay attention to the areas listed below.

Franchise marketing material

Tell it like it is, don’t embroider. Above all, impress on those members of your franchise team who deal with enquiries from prospective franchisees not to promise – or even imply – anything that can’t be substantiated. It is good practice to prepare a script and rehearse.

Site selection criteria

Gut feel is good but don’t just rely on it alone. Given today’s exorbitant rentals, it is appropriate to develop a detailed profile of the ideal site and insist on applying it to every site under consideration. It would also be a good idea to get a professional site selection company involved.

Franchise documentation

Your franchise documentation must be in top shape. We advise you to:

Review your disclosure document; be generous with facts and careful with promises.
Have your franchise agreement reviewed by a competent attorney with proven background in franchising.
Review your operations manual to ensure that everything is spelled out in minute detail.

Franchisee selection criteria

That’s another area where gut feel alone won’t cut it anymore. We recommend that you create a detailed profile of the ideal franchisee, preferably with the help of an experienced professional. One word of caution: the franchisee profile won’t be worth the paper it is written on unless you apply it consistently to every applicant.

This means that you need to do away with “sweetheart deals” – rather insist that every applicant, including your favourite nephew, must go through the same formal approval process. It is advisable to get a professional company to carry out pre-selection before an internal franchisee selection panel make the final decision. It is equally important to ensure that members of the panel consistently ask the right questions. The best way to ensure that this actually happens is to prepare a standard questionnaire.

Franchisee Council

Far too many franchisors are uncomfortable with the thought of promoting the establishment of a Franchisee Council but this is short sighted. In reality, a properly functioning Franchisee Council can be the franchisor’s greatest ally but the emphasis is on properly functioning. The Franchisee Council should neither be an adversarial body nor should it be seen by the network’s franchisees as the franchisor’s lapdog. The purpose of the Franchisee Council is simple and straightforward. Its office bearers need to be committed towards helping to build the brand, nothing more and nothing less. They need to be sufficiently mature to accept that on occasion, this includes reigning in maverick fellow-franchisees who do damage to it.

For the Council to be effective, it needs to be formally constituted, its office bearers need to be democratically elected and it needs to meet in regular intervals, at least quarterly. Ideally, professional assistance should be sought to either create a Franchisee Council from scratch (recommended) or overhaul an existing structure (more difficult).

Conclusion

Those franchisors who are willing to address possible shortcomings in their franchise systems now can look forward to the implementation of the CPA with confidence. To comply with the requirements of the CPA simply requires that the network’s marketing materials, legal documentation, franchisee selection and support structures and associated reporting systems stand up to scrutiny. Sounds straightforward enough but it is not a task to be taken lightly and we recommend the involvement of a reputable consultancy with access to the various expert disciplines.

As we have said, should a disgruntled franchisee seek redress from the Consumer Protection Commission, the onus will be on the franchisor to prove that the network’s franchisees receive reasonable value in exchange for the payment of initial and ongoing franchise fees. We consider it prudent to caution franchisors who are content to adopt a wait-and-see attitude that they have a massive task ahead of them and time is running out.

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