Franchising seminar: to regulate or not to regulate?

Burns House

Dunedin

I'd like to begin by thanking the Chamber for allowing me this opportunity to update you on what the government is doing about the possible regulation of the franchise sector; and more importantly for enabling me to get direct feedback from you in the franchise sector about what you think will work or won't work. This is not a case where there has been an overwhelming case for reform driving us inevitably to a particular result. In fact this is an area where the government hasn't formed a view as to whether regulation is required; however we have had sufficient concerns raised to put out a discussion document in order to tease from the sector the solutions we are looking for.

As you will no doubt be aware, interest in the way franchising is regulated was triggered by cases of alleged fraud involving franchises earlier in the year, when a number of franchisees were left without the franchise business they thought they had purchased. It is disappointing that the Serious Fraud Office has not yet made a decision on prosecuting the case in question, because it leaves those affected in a state of limbo.

I should say that fraud is fraud and the fact that it involves a franchise does not make it any less so. There are already laws against fraud and no amount of franchise-specific regulation would change that. However these events have raised the question as to whether there are any other problems within the franchise sector that may make a case for franchise-specific regulation.

This is particularly so in relation to the need to provide protection to franchisees in general and vulnerable franchisees in particular. The government has initiated the Review of Franchising Regulation to consider this.

The "Review of the Regulation of Franchising" discussion document which you will find on the Ministry of Economic development website (www.med.govt.nz) enables what is a vital and growing sector of the New Zealand economy to have a say about whether government needs to tighten the rules around franchising. Can I make it clear that the government is not interested in regulation that constrains the innovation the sector is known for; but we are interested in knowing whether franchise-specific regulation is a cost-effective mechanism for enhancing confidence in the sector.

Unlike other jurisdictions, such as Australia, there are no franchise-specific rules in New Zealand. Instead franchises are subject to the standard laws that govern contracts and intellectual property.

A particular focus of the review is on whether those entering into franchise agreements have adequate information to make good business decisions, while ensuring that we don't impose unnecessary compliance costs on the sector that are disproportionate to the risks involved and which could affect the growth of the sector.

The discussion document identifies three aspects of the franchising relationship that may make a case for franchise-specific regulation:

The first is information asymmetry: franchisees need to undertake due diligence before entering into a franchise contract, but they may not have all the necessary information, or know the right questions to ask, in order to make a well-informed business decision. Should franchisees be required to get independent advice before entering into an agreement or should there be a 'cooling off' period to enable advice to be sought after the fact?

Second is the cost of resolving disputes: there are few options available, particularly to franchisees, to resolve disputes when they arise. Litigation is not only expensive, it can also be damaging to the franchise relationship, which relies on cooperation and collaboration. Should there be a requirement for mediation?

And third we have the issue of public perception: the public's confidence in the franchising sector is affected by high profile cases that see hard working men and women, mainly migrants to NZ, left significantly out of pocket, and asking why the government does not protect against such a situation. It is important that people do not over-state what the government can do in such circumstances, but this is a sector where reputation is everything and therefore confidence matters.

The discussion document also explores possible options, which are:

• Maintaining the status quo (generic legislation & voluntary self-regulation)
• Developing education initiatives to enhance franchisee knowledge; and
• Implementing franchise-specific regulation which could include:
  • information disclosure requirements;
  • obligations to obtain professional advice;
  • a cooling-off period;
  • mandatory mediation processes;
  • minimum contractual terms; and/or
  • obligations of ‘good faith' bargaining.

For each of the specific regulation options, alternative institutional arrangements are also considered for rule-making, enforcement and mediation.

The discussion document explores possible options to address these issues, ranging from the status quo, which is a self-regulation model, but which doesn't address the behaviour of those who do not choose to belong to the industry body, the Franchise Association of New Zealand, all the way through to a legislated regulatory framework that includes mandated codes and conditions, which may see the costs far outweigh the benefits.

I have taken the opportunity to consider the Australian Industry Code under their Trade Practices legislation and it is very similar to the matters covered by the NZ Franchise Association's code. So it wouldn't be difficult to find a middle ground that would strengthen protection for those who are outside the voluntary regime at what would be a minimal cost to those who already belong.

If it sounds as if I am at pains to emphasise the need for regulatory caution then the message I want to give is received and understood. Having led the Quality Regulation Review I am committed to proportionate regulatory frameworks that support the business environment not stifle it. I am not interested in locking the franchise sector down in red tape, but I am concerned that the rogue case like the one we experienced at the end of last year can cause long term or even irreparable damage to the individual franchise or franchising in general, and for an industry that relies on confidence that is an important issue.

Review process

The discussion document was released on 16 August. There is a three month consultation period, with submissions due 21 November. Please look at the discussion document which, as I said, is on the MED website, and provide some feedback. MED will report back to the government early in 2009 on the outcome of this consultation.

If regulatory options are seen as desirable, a further round of consultation on the design of that regulation is likely to be required.

I am aware that there are plans next year for an international franchise conference focused on understanding the different regulatory approaches adopted throughout the world. The timing of that should be ideal for the government to be able to consider its findings alongside recommendations arising from this review.

So on that note, thank you again for the opportunity to provide this update, and I am happy to take questions or feedback from the floor.