Recent changes to competition law could significantly impact the way franchisors determine and enforce their pricing systems and supply chains. In November 2017, franchise third line forcing and price fixing laws were updated to give franchisors more freedom to prescribe supply arrangements and on-sale prices charged by their franchisees to the end consumers. This article explains these changes and how franchisors can take advantage of the new laws.

How Third Line Forcing Works

Third line forcing occurs when a business only supplies its good or services on the proviso that the purchaser also purchases goods or services from another specific third-party supplier. For example, if I say “I’ll sell you these eggs, but only if you buy your bacon from John”. This would be an example of third line forcing.

This is a form of exclusive dealing that Australian competition law has mostly prohibited. However, the Australian Competition and Consumer Commission (ACCC) has, at times, exempted franchisors from this prohibition. The ACCC has permitted franchisors to require franchisees to purchase from specific suppliers as a condition of the franchise agreement.

Even so, this exemption has been limited. The ACCC required a franchisor to send them a formal notification outlining:

  • the proposed extent of the third line forcing;
  • its purpose; and
  • the public benefit.

A franchisor had to send this notice every time it wanted to engage in third line forcing.

Third Line Forcing After the 2017 Update

The update removed the general prohibition on third line forcing. Instead, section 47 of the Competition and Consumer Act 2010 (Cth) (the Act) now only prohibits third line forcing if it:

  • has the purpose of substantially lessening competition; or
  • has or is likely to have the effect of substantially lessening competition.

The courts have explained the concept of ‘substantially lessening competition’ to be an impact that is ‘meaningful’ or ‘relevant’ to the competitive process. A helpful guide on what this means is to apply a ‘with and without’ analysis of competition in the relevant market. To do this you look at the level of competition with the practice compared to the level of competition without the practice.

Judge Carr set this out in the case of ACCC v AMA(WA) [2003] FCA 686 where he said:

[The practice] only has the effect of lessening competition if it involves a reduction in the level of competition which would otherwise have existed in the market but for the conduct in question.

As such, a practice can only fall foul of the prohibition if it involves a reduction in the level of competition which would otherwise have existed in the market.

Since the update, it is now only necessary for businesses who could be in breach of the substantially lessening competition test to lodge a notification to the ACCC. Franchisors do not need to notify the ACCC of every possible incident of third line forcing. Instead, it is up to the franchisor to determine when to notify.

Impact for Franchisors

The change means a less restrictive landscape for franchisors looking to establish and maintain suitable and favourable approved supplier arrangements for their Australian networks. Franchisors are now able to more confidently set up supplier arrangements that will strengthen and benefit the brand without needing to consider various on-selling arrangements to avoid the old third line forcing prohibition.

Many franchisors also feel liberated by no longer having to notify the ACCC of each arrangement of third line forcing with a supplier. Franchisors may take advantage of the update by strengthening the obligation on their franchisees to comply with approved supplier lists and seek out beneficial supplier arrangements that offer incentives for the franchisor, such as financial rebates.

However, franchisors should still be mindful that the update does not permit the practice of third line forcing unconditionally. The practice can still violate competition law when likely to substantially lessen competition. Franchisors should carefully consider their supply arrangements against the new test and seek advice where unsure.

Franchisors should consider making an ACCC notification where, for example:

  • both the franchisor and supplier are sizeable players in the relevant industry;
  • the practice could noticeably diminish or lessen competition in the industry;
  • the practice could make it significantly harder for a new competitor to enter the market; or
  • the practice will provide the franchisor or supplier with a long-term increase in market power.

Serious penalties can apply to breaches of competition law and the ACCC are closely watching franchisor compliance.

How Resale Price Maintenance or Price Fixing Works

Resale price maintenance is also known as ‘price fixing’. It is different from third line forcing and is where a supplier sets a minimum price under which a reseller must not on-sell. For example, “I will sell you these pancakes for sale in your cafe, but you must charge at least $4 each for them”.

This practice had been generally prohibited under Australian competition law. When prohibited, it is an illegal practice regardless of the real impact it has on competition. The relevant legislative provision is section 48 of the Act which states that “a corporation or other person shall not engage in the practice of resale price maintenance.”

Resale Price Maintenance After the 2017 Update

While the November 2017 update does not alter the general prohibition on price fixing under competition law, it did introduce an alternate means of obtaining an exception. Franchisors can now lodge a ‘Resale Price Maintenance’ notification with the ACCC to receive some protection from legal action against price fixing. Section 48 of the Act now states that the prohibition does not apply if:

  1. the corporation or other person has given the Commission a notice; and
  2. the notice is in force.

A franchisor can lodge a notification by using the prescribed form available on the ACCC website with the payment of a notification fee. The notification must contain all information required for the ACCC to be able to assess the proposed price-fixing practice. This generally includes:

  • the purpose of the proposed conduct;
  • the area(s) of competition that will be affected;
  • likely public benefits;
  • likely public detriments; and
  • any other relevant information.

The ACCC will assess the notification against the public benefit test prescribed by the Act. This requires the ACCC to only accept the notification if satisfied that the likely public benefit of the practice outweighs any likely detriment to the public. The ACCC may also seek additional information from relevant parties in that area of competition to complete their assessment.

Impact for Franchisors

This change is quite significant for franchisors who have previously required explicit ACCC authorisation to engage in any price fixing. Again, it is a less restrictive landscape for franchisors as they look to implement price consistency across their respective networks.

Franchisors will be able to lodge a notification to ACCC. Conditional on ACCC acceptance, franchisors can then distribute a schedule of resale prices binding on the franchise network. Following ACCC approval of the notification, franchisors can then insert this schedule into the operations manual and monitor franchisee compliance.

However, it is important for franchisors who have not submitted the relevant ACCC notification to strictly avoid setting resale prices. The practice remains otherwise prohibited under competition law. The ACCC may impose significant penalties on franchisors engaging in such conduct without authorisation.

Key Takeaways

The November 2017 updates will provide a welcome sense of liberation for franchisors wanting to secure the most optimal supply arrangements with their networks while meeting their competition law obligations. We recommend that franchisors quickly take advantage of the legislative update and submit their notification to the ACCC.

If you need further advice on submitting notifications to ACCC to comply with competition law, including third line forcing and price fixing provisions, call LegalVision’s franchise lawyers on 1300 544 755 or fill out the form on this page.

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