Franchisor Approved Suppliers and the Impact on Competition

The franchising model typically has an established system of marketing, operation or organisation. For this reason, the franchisor often relies on their ability to restrict their franchisees from purchasing products from various suppliers. The rationale is understandable as consistency in suppliers will ensure that the franchise complies with the standards the franchisor has created.

For example, imagine if the fries sold at one McDonald’s were significantly thicker than the fries you can purchase from every other McDonald’s store in Australia. As an ordinary customer, you would wonder whether you were actually in McDonald’s at all. There are many circumstances where the franchisor requires their franchisee to purchase products from approved suppliers. Below, we run through a few important considerations a franchisor will need to make when drafting their franchise documents.

Impact on Competition

The governing body that has the power to enforce the Franchising Code of Conduct (Code) is the Australian Competition and Consumer Commission (ACCC). The ACCC recognises that the franchisor’s ability to restrict the franchisee purchasing unauthorised goods or services may effectively harm competition in the marketplace. The term used to describe this scenario is “third line forcing”. The definition of third line forcing focusses on Party A’s ability to enter into an agreement with Party B, only if Party B purchase goods or services from Party C. There will only be an issue with “third line forcing” if there will be the likely effect of reducing competition.

Compliance with the Code and Public Policy

There are several strategies that the franchisor may take to ensure that they are complying with the Code and do not harm public policy and general market competition. This may include:

1. Notification: A franchisor may notify the ACCC of the way they are engaging franchisees and suppliers and may lodge a ‘notification’. The ACCC will need to approve this notification where they consider the opportunity cost of the arrangement against the free market operation of competition. If a notification is successful, the franchisor receives statutory protection to engage in “third line forcing”.
2. Reduce Competition: It is important to understand that “third line forcing” is only an issue if competition is substantially affected. This is often not a problem in franchise businesses where multiple suppliers are competing already.
3. Disclosure: An important part of the Code is to ensure that the franchisor provides the franchisee with sufficient information about how the franchise operates. For this reason, disclosure is important. For example, if a franchisor receives rebates from a supplier, the franchisor is required to disclose that they received this rebate, the provider of the rebate and whether the rebate will be passed on to the franchisee.

Best Practice

Although your requirement that your franchisee purchase from a specific group of suppliers may not significantly reduce competition in the marketplace, it is nevertheless important to consider following some best practice tips. Many franchisors benefit from providing franchisees with the following:

• Insight on the standards that suppliers need to meet;
• Consulting franchisees about the franchisor’s suppliers; or
• Continuously monitoring the arrangements with the suppliers to ensure that the franchisor and franchisee receive a benefit in the form of quality goods or services or otherwise.

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If you have any questions about your franchise, let our franchise team know on 1300 544 755.