After years of operating a franchise model, the luxury German car manufacturer introduced a new agency model in January of this year. This change led to 38 of its 55 franchisees commencing proceedings against the car manufacturer, alleging that it has breached their good faith obligations per the Franchising Code of Conduct (‘the Code’) and the Australian Consumer Law (‘ACL’) by engaging in unconscionable conduct. This article will further explore why franchisees are suing Mercedes.
As a franchisor, you must not engage in misleading and deceptive conduct. We explain what it is and how to avoid it.
From Franchisees to Agents
Mercedes proposed significant changes to its previous franchise model. For instance, in this model:
- franchisees become “agents”;
- Mercedes will own all vehicles in the showroom;
- the vehicles will sell at fixed prices (i.e. there is no room for agents to negotiate with buyers); and
- the agents will receive a fixed commission.
This agency model is significantly different from a conventional franchising model. As a result, Mercedes’ franchisees have alleged that they were forced into this agency model, which has caused profit loss and damage to their goodwill with their existing customers. Furthermore, the franchisees claimed that the change to the franchise model breached the franchisor’s obligation of good faith under the Code and represented unconscionable conduct, in breach of the ACL.
Good Faith
As a reminder, the obligation of good faith under the Code is an overarching principle that all parties to a franchise agreement must act in good faith in carrying out that agreement and dealing with the other party. This obligation applies at all relationship stages, including pre-agreement negotiations and disputes following termination. Significantly, parties cannot ‘contract out’ the good faith obligation under the Code. Therefore, it is likely that Mercedes was required to comply with this obligation to change from a franchise to an agency model.
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Unconscionable Conduct
Furthermore, the ACL prevents Mercedes from engaging in conduct that is unconscionable. Unconscionable conduct is so harsh that it goes against good conscience. The courts determined the legal threshold for unconscionable conduct over time. Whether Mercedes has engaged in unconscionable conduct will depend on the particular facts of the case and the impact it has had upon the franchisees.
Was the Change in Breach of Good Faith and Unconscionable?
The franchisees claim that the introduction of the new model represented a breach of the unconscionable conduct provisions and a breach of the good faith obligations. Ultimately, the franchisees claim that the franchisor’s consultation process was a mere sham and enforced the agency model despite protests from most franchisees.
As such, the outcome of this case will have a significant impact on franchising within Australia. Indeed, the decision will shed light on what needs to be done by a franchisor when seeking to change its operations. For example, whether Mercedes should offer the franchisees compensation for loss of goodwill or an opportunity to exit the agreement may be considered.
Ramifications if the Court Finds the Car Manufacturer in Breach
If the Courts pass a judgment against Mercedes, they will face a significant claim of $650 million in damages. Additionally, they may face further penalties under the Code.
However, in addition to the hefty fines, Mercedes’ reputation could be severely damaged. Further, Mercedes must provide the current Federal Court proceeding details in the relevant disclosure document. Therefore, such a decision will cause significant damage to its overall brand and reputation as a car dealership.
Key Takeaways
In general, as a franchisor, it is crucial to remember that any decision that may affect your franchisees must be made in good faith. Additionally, if you think the decision could adversely affect your franchisees, you should:
- obtain legal advice; and
- carefully consider how to implement the change to reduce damage to franchisees.
If you are considering a change in your franchise model, our experienced franchise lawyers can assist as part of our LegalVision membership. You will have unlimited access to lawyers to answer your questions and draft and review your documents for a low monthly fee. Call us today on 1800 534 315 or visit our membership page.
Frequently Asked Questions
Unconscionable conduct is so harsh that it goes against good conscience. The courts determined the legal threshold for unconscionable conduct over time.
The obligation of good faith under the Code is an overarching principle that all parties to a franchise agreement must act in good faith in carrying out that agreement and dealing with the other party. This obligation applies at all relationship stages, including pre-agreement negotiations and disputes following termination.
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