Franchise Law Update: Warning Against Guaranteed Incomes for Franchisees

Some franchise agreements might promise guaranteed incomes for franchisees. This might be a promise regarding: 

• the minimum revenue of the franchised business; or 
• a salary that you pay to the franchisee. 

You should carefully consider the commercial and financial implications of agreeing to guarantee payment to your franchisees. You should be aware of the legal implications of:

• making representations to the franchisee regarding a guaranteed minimum income; and
• failing to make payments that they have agreed to make in the franchise agreement.

This article explains what a guaranteed income is and the risks associated with providing guaranteed incomes to franchisees, including a case study on the Megasave Courier franchise.

What is a Guaranteed Income?

An income guarantee provision is a term setting out the minimum income that a franchise business will earn for a specified period. The determined period is often within the first year of trading. 

The guarantee is essentially a promise that you will pay a certain level of income to prospective or existing franchisees. This means that you may need to top up your franchisees’ earnings if they have not generated sufficient revenue, which can be a big financial risk for your business.

New franchisees are often first time business owners and more familiar with earning a set salary. Providing an income guarantee is therefore particularly enticing for franchisees, as it allows them to easily forecast their income and manage their expenses. The predictability afforded by a guarantee gives prospective franchisees an added incentive to purchase the franchise.  

Risks of Providing Guarantees 

Advertising or including an income guarantee provision presents an array of risks to your franchise. The Australian Consumer Law (ACL) is a federal law aimed at protecting Australian consumers, including prospective franchisees. The ACL governs the way that a franchisor: 

• conducts its business; 
• advertises the franchise network; and 
• manages its franchisees. 

The ACL includes a general obligation on all those involved in trade and commerce to not engage in misleading or deceptive conduct.

Therefore, you should avoid providing new or existing franchisees with projected earnings or predictive financials, so as to not mislead or deceive prospective franchisees.

Buying a franchise is a big decision and requires significant financial investment. Prospective franchisees must be able to rely on the information that they are provided with by the franchisor. This means you must be careful about what promises you make in:

• promotional statements;
• franchise brochures;
• website information;
• operations manuals;
• franchise documents; and 
• any other communication across the franchise.

How Does This Apply to Franchisors?

You should take care when making any claims concerning the income or likelihood of success of a franchised business. Income guarantee clauses are risky in that they may mislead franchisees as to the true cash flow needs of the business. Even providing financial information, operating expenses and profit might infer an income guarantee. This may expose you to a legal claim from a franchisee if the information that you provided is inaccurate or misleading.

A number of cases have been brought to the attention of the Australian Competition and Consumer Commission (‘ACCC’) in recent years by franchisees in distress. This occurs when franchisors assure prospective franchisees that they will earn a certain amount of money to entice them to purchase the franchise. Then, after the franchisee signs the franchise agreement and begins operating the franchised business, they learn that they are unlikely to earn the amounts projected by the franchisor.  

Projected revenues and income guarantees published in marketing collateral provided by franchisors to franchisees are often viewed by the ACCC or the courts as a lure used to attract prospective franchisees to an otherwise less than appealing franchise network. Any franchisor that fails to make payments according to a minimum income guarantee will be held accountable.

Case Study: Megasave Courier Franchise

A recent case investigated by the ACCC in respect of guaranteed incomes for franchisees is the Megasave Courier franchise.

Background

In April 2019, Megasave and its sole director, Gary Bourne, began advertising Megasave franchises for sale. Franchisees bought specific territories within which they would deliver parcels as part of the Megasave network.

Megasave indicated to their franchisees that they would be paid a guaranteed minimum weekly amount for an initial period after purchasing the franchise. In most cases, the weekly earnings were $2,000 per week for the first six months. Megasave also promised a specific yearly income. The average guaranteed income promised to over 50 franchisees was $91,000 per annum.

Megasave published those representations on: 

• their website;
• the Seek Business website;
• a ‘franchise earnings’ document supplied to prospective franchisees;
• in conversation; and 
• via text message to potential franchisees. 

Megasave allegedly stopped paying the guaranteed weekly income while continuing to advertise the guarantee to new franchisees. Meanwhile, many did not earn enough to make the guaranteed annual income. In December 2019, Gary Bourne announced in a video distributed amongst the franchise network that most payments to franchisees would be suspended.

The ACCC alleges Megasave then directed franchisees to submit weekly sales leads to the franchisor in order to receive their minimum weekly payments. This condition was new and not disclosed to franchisees prior to their franchise purchase. 

Over 30 franchisees complained to the ACCC, some of whom have been advised by LegalVision.

Harm Caused

Franchisees were robbed of their guaranteed minimum weekly payments and guaranteed annual income. Franchisees lost their fee paid to join the Megasave network, usually in the amount of $27,500. 

 Often franchisees also: 

• purchased a vehicle; 
• took out or are liable to service loans; or 
• left other employment to start their Megasave franchise business. 

Legal Implications

By guaranteeing a minimum weekly payment and predicting an annual income, Megasave engaged in: 

• misleading or deceptive conduct; or 
• conduct which was likely to mislead or deceive in contravention of the ACL.  

This is because they made false or misleading statements about the:

• benefits of its franchises;
• potential earnings and profitability; and
• risk associated with being a franchisee.

These statements were made to motivate the interest, performance of work and investment of money by prospective franchisees, thereby violating the ACL.

The ACCC instituted proceedings against Megasave seeking: 

• pecuniary penalties;
• injunctions;
• disqualification orders against Gary Bourne; and 
• an order as to the findings of fact.  

Ideally, the ACCC will regain costs and necessary compensation for franchisees who have incurred financial hardship and stress as a result of the actions of Megasave and Gary Bourne.

On 19 June 2020, the ACCC secured a freezing order from the Federal Court against the assets of Megasave, Gary Bourne and related entities. This order has since been overruled by a separate order with Gary Bourne, promising the court not to touch his valuables.

I Am a Franchisee. Should I Be Wary of Guarantees?

While franchise businesses face the same difficulties as other small businesses, they often benefit from being part of an established brand that has tried-and-tested business processes. However, you should not assume success or profit is guaranteed. 

Even in a franchised business, there is a direct correlation between how hard you work and the sales or profit returned. The franchisor will provide training and support, but the success of the business will often depend on the work that you put in as the franchisee.

The key benefit of an income guarantee clause is the offer of financial stability in the early stages of building your franchised business. Income guarantees can be useful when comparing different franchise opportunities, to decide which business you want to pursue. 

It is important that if an income guarantee is provided by the franchisor, you carefully consider the terms and conditions that you must achieve in order for the franchisor to comply with the guarantee. There will often be certain criteria that you must satisfy, so you must ensure this is realistic and achievable.

Key Takeaways

The ACCC routinely assesses complaints made by franchisees in relation to franchisors misrepresenting costs, profits and expected income. Therefore, you should ensure that you do not make any misleading or inaccurate statements in your franchisee advertising material. You should refrain from offering guaranteed incomes for franchisees as a recruitment strategy, as it may open you up to significant financial and legal risk. Similarly, if you are looking to buy a franchise, be careful of guaranteed incomes for franchisees. Prospective franchisees should get legal advice from a franchise lawyer and speak with an accountant before committing to the business. If you are concerned about an income guarantee in your franchise agreement, contact LegalVision’s franchise lawyers on 1300 544 755 or fill out the form on this page.