What is Good Faith in Franchising?

The Franchising Code of Conduct (the Franchising Code) requires franchisors and franchisees to deal with each other in good faith. This means they must act honestly and fairly in all their interactions. The duty to act in good faith extends to every stage of the franchising relationship, from initial discussions to signing the franchise agreement to expiry or termination. But it’s not just about being nice,  good faith in franchising is a legal requirement that ensures fairness and transparency. This article explores what good faith is in franchising, examining some cases that have considered precisely what the obligation of good faith in franchising actually entails.

What does the Franchising Code say about good faith? 

Clause 6(1) of the Franchising Code provides that

Each party to a franchise agreement must act towards another party with good faith, within the meaning of the unwritten law from time to time, in respect of any matter arising under or in relation to:

(a) the agreement; and

(b) the Code.

The Franchising Code does not define good faith. Instead, pursuant to the above provision, it refers to the ‘unwritten law from time to time’. This is a reference to the common law and law developed through binding court decisions. 

When does the obligation to act in good faith apply in franchising? 

The obligation to act in good faith contained in the Franchising Code extends to negotiations and discussions that occur before the franchise agreement is signed. It also applies to parties conduct during the operation of the franchise, and even on termination or expiration of the franchising agreement. 

Clause 6(2) of the Franchising Code provides that:

The obligation to act in good faith also applies to a person who proposes to become a party to a franchise agreement in respect of:

(a) any dealing or dispute relating to the proposed agreement; and

(b) the negotiation of the proposed agreement; and

(c) the Code.

This means franchisors and prospective franchisees need to oblige with the obligation to act in good faith in pre-contract discussions and communications.

A franchisor also has a duty to act in good faith in selecting their franchisees, and offering franchises to prospective franchisees. 

What does good faith mean in franchising?

While the Franchising Code does not define “good faith,” it states that when evaluating whether a party has acted in good faith, a court may consider whether:

  • The party acted honestly and not arbitrarily; and
  • The party cooperated to achieve the purpose of the franchise agreement.

While a party must consider the interests of the other party, the obligation to act in good faith does not prohibit a party from pursuing its own legitimate commercial interests.

As a result, a party is not obligated to prioritize the interests of the other party over its own interests.

Is good faith akin to a fiduciary duty?

In considering the obligation of good faith, its important to distinguish between two key concepts: good faith obligation and fiduciary obligation.

A fiduciary relationship entails the obligation to act in the best interests of another person. An example is a trustee’s duty to a beneficiary or partners’ responsibilities to each other.

In legal terms, individuals in a fiduciary relationship are prohibited from benefiting personally at the expense of the party to whom they owe a fiduciary duty or from allowing their personal interests to conflict with their duties. The obligation to act in good faith is not a fiduciary obligation. 

Franchising cases where good faith has been considered 

More generally, the High Court of Australia has held that good faith involves “fairness in dealings between contracting parties” (Commonwealth Bank of Australia v Barker [2014] HCA 32).

Case Study 1 – Pizza Hut (Diab Pty Ltd v YUM! Restaurants Australia Pty Ltd [2016] FCA 43)

In mid-2014, YUM! made a strategic decision that affected all franchisees. They mandated a reduction in pizza options from 4 to 2 and a significant decrease in prices.

This decision was enforced by the Franchisor and was based on a successful model used in New Zealand. Before rolling out nationally, the strategy was tested in the Australian Capital Territory.

Despite a similar campaign by Domino’s launched shortly before Pizza Hut’s anticipated launch, the strategy was still implemented. This resulted in Pizza Hut losing its “first to market” advantage.

Ultimately, the Court held in favour of the franchisor, stating:

“Yum had an obligation to act honestly and with fidelity to the bargain but that does not mean that Yum was under a strict liability to make decisions that only resulted in success and more profits for the Franchisees. That does not mean that a decision made in good faith and on reasonable grounds that proved to be unsuccessful in realising profits, and in fact realised losses, renders Yum liable for any Franchisee losses. It also does not mean that hindsight is applied to a decision, importing facts known subsequently but not at the time that the decision is made.”

What can be taken from this case is that the obligation of good faith will not be breached simply because an individual franchisee’s circumstances were not considered, and will not require a party to a franchise agreement to subordinate their interests to the other.

Case study 2 – Ultratune (Australian Competition and Consumer Commission v Ultra Tune Australia Pty Ltd [2019] FCA 12)

Here, the ACCC brought proceedings against the franchisor alleging they breached the obligation to act in good faith. The Federal Court agreed with the ACCC, and found the Franchisor liable for breaching the obligation. The court found the franchisor liable for;

  • Not being upfront about the history of a franchise site
  • Misleading the franchisee about the franchise’s duration, rent, and purchase price
  • Pressuring the franchisee to pay a deposit before providing necessary documentation
  • Treating the deposit as non-refundable without clear communication
  • Hastily spending the deposit on signage and equipment without a valid reason
  • Failing to refund the money or assist the franchisee in recovering it from the equipment beneficiary. 

This case highlights that conduct that is unfair and lacks transparency is more likely to be considered contrary to the obligation of good faith. The ACCC media release following the decision is available here.

Key Takeaways

  1. The franchising code contains a statutory obligation of good faith
  2. The obligation extends to pre-contract conduct, and extends beyond the term of the franchise agreement
  3. Good faith will require the parties to act fairly and honestly, but not subordinate their interests


Disclaimer: This article contains general information only and does not constitute legal advice. Magnolia Legal disclaims any liability arising from reliance on this article. Our terms of use apply