Understanding Earnings Information and Franchisor Obligations Under the Code

Earnings information is a particularly fiddly area under the Franchising Code of Conduct (the “Code”), and one we see many franchisors getting wrong. While prospective franchisees often seek insight into the potential profitability of a franchise, the provision of earnings information carries significant legal risk for franchisors and specific disclosure obligation. Failure to comply with the strict disclosure requirements set out in the Code render a franchisor liable to penalties, while the provision of inaccurate or overreaching financial information can lead to claims of misleading and deceptive conduct, which have been at the centre of numerous franchise disputes. This article explores the concept of earnings information, the obligations imposed on franchisors when disclosing such information, and the legal risks involved.

What Is Earnings Information?

Section 20(2) of the Code defines earnings information broadly to include:

• Historical earnings data for the specific franchised business or another franchise within the franchise system;
• Projected earnings for the franchised business, including the assumptions on which such projections are based;
• Any other information from which historical or future earnings of the franchised business can be assessed.

This definition captures a wide range of financial disclosures, from past performance metrics of existing franchise locations to estimates of future profitability. The key takeaway for franchisors is that any financial performance representation—whether explicit data, financial projections, or indirect indicators of expected earnings—may fall within the definition of earnings information under the Code.

Disclosure Requirements When Providing Earnings Information

The Code imposes strict requirements on franchisors that choose to provide earnings information. Specifically:

1. Earnings Information Must Be Included in the Disclosure Document
   • Item 20(1) of the disclosure document mandates that any earnings information given by a franchisor must be included in the disclosure document or attached as a separate document to the disclosure document.
   • If a franchisor provides earnings information to a prospective franchisee before delivering the disclosure document, they must also provide the same earnings information in the disclosure document or an attachment (item 20(1A)).
2. Mandatory Accuracy Statement
   • If earnings information is provided, the disclosure document must include a statement confirming that, to the best of the franchisor’s knowledge, the information is accurate—except where specific earnings information is identified as inaccurate (item 20(2A)).
3. Required Disclosures for Projections and Forecasts
   • If earnings information includes projections or forecasts, item 20(4) requires franchisors to disclose:
     • The facts and assumptions underlying the projection;
     • The extent of research and analysis undertaken;
     • The period covered by the forecast and the rationale for choosing that period;
     • Whether the projection includes depreciation, franchisee salary, and loan servicing costs;
     • Assumptions regarding interest and tax.
4. Obligation to Disclose If No Earnings Information Is Provided
   • If a franchisor does not provide earnings information, they must include a prescribed statement in the disclosure document stating that they do not provide earnings information and that earnings may vary between franchises (item 20(3)).

Risks of Providing Earnings Information

While franchisees frequently request earnings information to assess the financial viability of a franchise, franchisors must tread carefully. Earnings representations are fertile ground for disputes, particularly under misleading and deceptive conduct provisions of consumer law. Courts have ruled against franchisors in cases where earnings projections were overly optimistic, lacked reasonable basis, or failed to disclose critical assumptions.

Key risks include:

• Misleading and deceptive conduct claims: If earnings information is inaccurate, misleading, or not backed by sufficient research, franchisees may claim they were misled into making an investment decision.
• Failure to meet disclosure obligations: Inadvertently omitting required statements or assumptions can render a disclosure document non-compliant with the Code.
• Reliance on selective data: Providing historical earnings data from high-performing locations while omitting underperforming ones may be deemed misleading.

The 14-Day Consideration Period and Subsequent Earnings Information

A crucial provision under the Code is Section 6(c). This states that the 14-day disclosure period is reset if the franchisor provides any subsequent earnings information. Accordingly, if a franchisor provides additional financial performance data after initially delivering the disclosure document, the prospective franchisee must be given another full 14 days to consider the updated information before entering into the franchise agreement.

This rule serves as a safeguard, ensuring that franchisees have adequate time to assess new financial disclosures before committing. However, for franchisors, it underscores the importance of careful planning—providing piecemeal earnings data can create unnecessary delays and regulatory risks.

Conclusion: Proceed With Caution and Seek Independent Advice

Given the legal complexities and risks involved, franchisors should exercise extreme caution when providing earnings information. While transparency can be beneficial for prospective franchisees, even well-intentioned financial disclosures can lead to legal exposure if not carefully prepared.

To mitigate risks, franchisors should:

• Ensure all earnings information is properly documented and included in the disclosure document as required by the Code;
• Provide clear and accurate assumptions when presenting financial projections;
• Avoid selective or misleading representations about franchise earnings;
• Be mindful of the 14-day reset period when providing any subsequent earnings information;
• Seek independent legal advice to ensure compliance and mitigate potential liabilities.

Ultimately, the safest approach for franchisors is to either provide earnings information with absolute confidence in its accuracy and compliance with the Code or refrain from providing it altogether. Navigating this area incorrectly can result in serious legal consequences, making professional guidance essential.