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If you are starting a franchise, you should think carefully about how to supply the products your franchisees will sell. You will need to decide:

  • what products your franchisees will sell; and
  • where your franchisees will get these products.

Your decision will depend on the nature of your business and your own preferences. One approach is to restrict your franchisees to a set list of certain suppliers. This can ensure the consistency and quality of products across your franchise network. However, restricting which suppliers you permit franchisees to use may pose certain risks to your business. This article will explore some key considerations to think about before deciding how you will supply your franchisees with products.

What Are My Options?

There are three common approaches to the supply of products in a franchise. Each approach has different benefits and risks, and how you draft your Franchise Agreement is up to you as the franchisor. Generally, you can choose to:

  • supply or manufacture the product yourself. You can then sell the product directly to your franchisees. This is the most involved option but gives you the highest level of control;
  • provide your franchisees with a limited list of approved suppliers from which they may buy. This method requires less direct involvement and is popular amongst franchisors; or
  • suggest a list of preferred suppliers without strictly requiring franchisees to purchase from them. This method might be appropriate for generic products, but it provides the least control over quality.

What Type of Products Should I Supply To My Franchisees?

As the franchisor, you choose what products to supply and which suppliers to approve. The decisions you make will depend on what type of business your franchise is and what products it requires to operate.

For example, if you own a gym franchise, you may want certain equipment to be used in all franchises to ensure consistency and safety. You may also want to feature branded products in marketing campaigns from time to time.

What Are The Risks?

Fulfilling Your Good Faith Obligation

If you are approving suppliers or supplying products yourself, you have an obligation to act in good faith. This means that you must be upfront and honest when dealing with new franchisees.

For example, you should be clear about any obligations and costs your franchisee will face if they purchase the products directly from you or your approved supplier.

If you mislead or deceive your franchisees about the supply of products, you could face legal action from franchisees or the industry watchdog, the Australian Competition and Consumer Commission (ACCC).

Your Responsibility for Production and Quality

If you manufacture your own products, you have an obligation under Australian consumer law to ensure that the products you supply are not defective or faulty. Failing to do so may also breach your franchise agreement with franchisees.

As the franchisor, it is in your interest to provide your franchisees with good quality products. You should ensure that either you or your approved suppliers give franchisees the products they need to run a successful business.

If you are unable to provide a sufficient quality and quantity of products to your franchisees as your business grows, you may need to find another approach.

Impacting Competition Through Third Line Forcing

Requiring that your franchisees purchase some or all products from a list of approved suppliers is known as third line forcing. As mentioned above, this can be an effective means of growing a franchise and maintaining a high quality of products.

However, the ACCC monitors third line forcing closely in case it reduces competition between suppliers in your industry.

Typically, setting minimum prices for products is prohibited. You may need to seek ACCC approval if you make an arrangement with a supplier that sets minimum prices.

Stricter Disclosure Requirements

If you plan to receive a benefit or rebate from any suppliers in exchange for requiring that your franchisees purchase from them, you must disclose this.

The law currently requires you as the franchisor to disclose:

  • any suppliers that you have a rebate relationship with;
  • whether the rebates are shared with franchisees or not; and
  • whether franchisees must purchase products from the supplier.

It is important to note that the recent Parliamentary Inquiry into Franchising Code recommended the disclosure of additional information, including:

  • the percentage rates of any rebates;
  • any commission you earn; and
  • any other payments you receive.

Key Takeaways

Before deciding how to supply products to your franchisees, you should consider:

  • how responsible you want to be for the provision of quality products;
  • who the best supplier of products is, and if this will change as your business grows;
  • whether your arrangement will affect competition between suppliers; and
  • what information you will need to disclose honestly and accurately.

You should think about these considerations and the risks they may pose carefully. However, maintaining a high level of control over the source of your products may be worth the risks. Taking this approach can:

  • improve the quality and consistency of products across your franchise;
  • ensure an efficient and cost-effective supply chain; and
  • provide a clear structure for your business.

If you have any questions about supplying products to your franchisees, contact LegalVision’s Franchise lawyers on 1300 544 755 or fill out the form on this page.

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