13 September 2011 by

Franchise agreements and the Consumer Protection Act

With franchises becoming a common phenomenon worldwide, regulation of the industry has become inevitable. South Africa's legislature has initiated this regulation through the Consumer Protection Act, No 68 of 2008 (the CPA), which was signed into law on 24 April 2011.

Traditionally, franchisors had the strongest bargaining position when negotiating franchise agreements. A balance was sorely needed. Franchise agreements now have to comply with the requirements of the CPA. The terms and conditions of franchise agreements have been substantially altered resulting in a shift of some power to the franchisee.

The CPA defines franchisors as "suppliers" and franchisees as "consumers" (section 5(6)(b) - (e)). Franchisee rights are included in the definition of "services" (section 1).

A fundamental change affecting the industry is that every franchise agreement must contain a clause that a franchisee may cancel a franchise agreement without costs or penalty within 10 business days after signing such agreement, by giving written notice to the franchisor (section 7(2)).

When awarding a new franchise, the franchisor traditionally incurs some capital cost outlay before the new franchise starts up. Under the CPA, if the franchisee exercises its right to cancel the agreement, the franchisor appears to have no remedy to recover from the franchisee any loss suffered as a result of the cancellation of the franchise agreement. This could have an adverse effect on up and coming entrepreneurs as franchisors are likely to become more judicious in negotiating franchise agreements terms.

The CPA also governs the right of a franchisee to select suppliers (section 13). The only platform in which the franchisor can now dictate supply is in terms of those goods which are branded or reasonably related to the branded products or franchise service.

Section 21 also prohibits the supply of unsolicited goods. A franchisor will risk losing ownership of, and non payment for, any goods supplied or services performed that the franchisee has not specifically requested.

In addition to the specific sections of the CPA, the regulations will significantly alter the terms and conditions of franchise agreements and shift some power to the franchisee.

Sections 7 and 51 read with regulation 2 very specifically mark the parameters of clauses that must be included, as well as some that cannot be included, in a franchise agreement.

Regulation 2(e) provides that any provision of a franchise agreement to which the regulations apply which is in conflict with the regulations is void to the extent of such a conflict. This in itself creates its own complications. Franchise agreements cannot contain clauses which have the effect of waiving or depriving franchisees of their rights, or of franchisors avoiding their obligations or duties.

A major concern is the effect of the CPA on existing franchise agreements. Schedule 2 to the CPA provides that the CPA does not apply to any transaction concluded or agreement entered into before the general effective date.

Unfortunately the regulations contradict the provisions in this schedule. Regulation 2 (d) provides that paragraph 2 of item 3 of Schedule 2 of the CPA applies to any pre-existing franchise agreement. The effect of this is that sections of the CPA dealing with, among others, the franchisee's rights to choose or examine goods, to return goods and the right to information in plain and understandable language are applicable also to pre-existing franchise agreements. Having regard to the provisions of regulation 2 (e), it can therefore be argued that any provisions of a pre-existing franchise agreement that conflicts with the sections of the CPA made applicable to pre-existing franchise agreements will be void and the franchisor will have to enter into addendums with its franchisees (although not required in terms of the CPA) in order to regularise the relationship.

Regulation 4 further provides that a franchise agreement which is renewed after the general effective date is regarded to be a new franchise agreement for the purposes of sub regulations (2) and (3). This will have the practical effect that all existing franchise agreement will have to be amended upon renewal to ensure that the prescribed terms as set out in the regulations are contained in such franchise agreement.

The practical effects of franchisors not complying with the CPA when negotiating and concluding franchise agreements will only become apparent in years to come, when the National Consumer Tribunal, the Consumer Court and/or the National Consumer Commission has been called to make findings on this issue. One thing is certain though - the CPA has and is going to change the face of the franchise industry in South Africa. Whether it be for better or for worse, only time will tell.

Lucinde Rhoodie and Belinda Scriba

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