Readers may recall that in January 2019, Ultra Tune Australia was hit by the Federal Court with a massive penalty of $2.6 million for breaches of the Franchising Code of Conduct - with this penalty including $1.1 million for breaches of disclosure obligations. Holman Webb previously reported on this matter.

A point of significance for other Australian franchisors was that the Federal Court judge stated that the standard financial statements for the marketing fund were not sufficient for Code purposes, and that sending out the marketing fund audit statements outside the required time frames were additional breaches, each attracting a penalty.

Further to this, the fact that Ultra Tune had 5 marketing funds (and a large number of franchisees) cumulatively meant there was a multiplier effect, which subsequently lead to an increase in the penalty.

Ultra Tune appealed this part of the decision, and in a decision handed down by the appeal court on Friday 20 September 2019, the company won a significant reduction in its penalty.

The important factors seen by the court as justification of the reduction were:

1. Clause 15(1) of the Code creates a single obligation to prepare, have audited and give to franchisees a compliant marketing fund financial statement - meaning that there is one contravention and one penalty applying each time. It is important to note that there is not one contravention for late preparation, another contravention for insufficient detail, another for delivering it late to the franchisees and so on (as stated by the trial judge).
    
2. While the appeal court agreed that the marketing fund statements did not have the sufficient detail required by the Code, Ultra Tune's conduct did not involve any wilful failure or deliberate action - but rather was a result of its "egregious inadvertence". The reality is that the company thought that the documents had complied with the Code, and that it had some reasonable grounds for this belief.
    
3. The reason that the disclosure document was late was because the annual financial statement required to be included was late coming from the external auditors. Therefore the two different breaches were partly the result of the same failure - although blaming the auditors did not excuse Ultra Tune from its obligations, the interrelated nature of the two breaches was taken into account.
    
4. While it was Ultra Tune's choice to have 5 marketing regions and funds, to impose a penalty on a per franchisee basis (as suggested by the ACCC) would involve a substantial element of double punishment. Therefore, it is more appropriate to impose an overall total for all contraventions.

With the above factors taken into account, the appeal court came to the conclusion that Ultra Tune's conduct could not be placed within the 'worst category', and that a penalty equal to 60% of the maximum penalty should reflect the seriousness of the contraventions. As a result, the overall penalty for Ultra Tune was reduced by $590,000.

There are two key lessons that franchisors can learn from this matter:

1. Ensuring that your marketing fund financial statements are detailed enough provide meaningful information regarding the expenses continues to be of the utmost importance. In fact, now that we have this judgement, there are no excuses for not doing this;
    
2. Organisations don't have the ability to blame auditors for being late with their disclosure document financials, nor the marketing fund statements (if applicable). It is crucial that organisations get their financials to auditors early enough to meet the strict deadlines.
    

Upcoming deadlines

For marketing funds if you conduct a vote of franchisees by 30 September and at least 75% of them agree to forgo an audit, you can skip the audit.

It is important to note that if you conduct a franchisee vote with respect to whether your marketing fund is to be audited by 30 September, and at least 75% of your franchisees agree to forgo an audit, you may skip the audit.

Please also be aware that you must distribute the marketing fund financial statements to the franchisees within 30 days of preparing them.

Similarly, where applicable, you must provide franchisees with a copy of the auditor's report within 30 days of its preparation.

Finally, remember to have your disclosure document updated with last financial year company financials by 31 October. All audits of company marketing funds must also be completed by 31 October.

Click here to read through Holman Webb's 10 Steps to Franchise Disclosure Compliance guide.

If you have a query relating to any of the information in this article, or you would like to speak with somebody in relation to your organisation's disclosure compliance, please don't hesitate to get in touch with Holman Webb's Franchising and Retail Team.