Most Franchise systems require a Franchisee to pay a variety of fees. In addition to the Initial Franchise Fee and on-going royalties it is usual for a Franchisee to be required to pay a Marketing Levy or Marketing Fee. The Marketing Levy varies from a fixed amount to a levy based upon a percentage of turnover (up to 3% to 7% of turnover) depending upon the system.
As the Marketing Fund can be quite substantial (particularly for larger scale Franchise systems) the question arises what happens to the Marketing Fund in the event that the Franchisor goes into liquidation (being bankruptcy for companies). At its essence, the question is whether the Marketing Fund should be paid back to the Franchisees who have contributed the Marketing Levies or whether the Marketing Fund should be made available to all unsecured creditors as part of the liquidation process.
In RE: Stay In Bed Milk and Bread Pty Ltd (in Liquidation) (2019) VSC 181, this question was raised and determined by the Court. The Liquidators for the Franchisor (called “SIBMB) were seeking Orders from the Court as to whom the Marketing Fund could be distributed. The Liquidators viewed the Franchisees of the system as the most likely recipient. The motion was opposed by the Australian Government whose preferred the funds be paid to unsecured creditors. In effect, the money would be returned to the Australian Government who had already paid out unpaid employee entitlements of SIBMB.
The question before the Court was whether the Marketing Fund could be characterised as being held in Trust for the benefit of the Franchisees (either as an Express or Implied Trust or a as a Quist Close Trust). If the Marketing Fund was held in Trust, the funds would be paid back to the Franchisees.
In determining whether a trust relationship was created, the Court reviewed both the terms of the Franchise Agreement as well as a legislative context dealing with Marketing Funds (mainly the Franchising Code of Conduct). Relevantly, the Court observed that:-
- The Franchise Agreement did not expressly make the Marketing Funds as to be held in Trust;
- The Franchisor allowed the Franchisor to apply the Marketing Funds as their discretion for the system as a whole without needing or being required to attribute Marketing Funds to a specific Franchisee;
- The Franchise Agreement did not provide for a return of the Marketing Fund upon the termination of the Franchise Agreement;
- The new Franchising Code of Conduct (as commenced on the 1st January, 2015) introduced new rules and obligations in relation to the management of Marketing Funds. However, the new Code when adopted specifically refused to make Marketing Funds to be held in Trust.
The Court held that the facts did not support the finding of either an express or implied trust. In coming to this conclusion, the Court focused on the fact that contributions were not refundable under the Agreement, the discretion of SIBMB as the use of the Fund and the fact that SIBMB retained the fund as their asset.
A Quist Close Trust, is a special form of Trust where monies advanced for a specific purpose are deemed held in trust and returnable if that purpose can no longer be fulfilled. In this case, the question is whether the marketing levies should be deemed held in trust as they could no longer be applied to marketing due to the liquidation of SIMMB. Ultimately the Court held that it could not be established that the funds advanced to the Marketing Fund were held separately on trust. In essence, the discretions available to the Franchisor in terms of spending the funds, the fact that the funds were not to be returned to the Franchisees upon termination and the fact that the Marketing Fund was treated as an asset of the Franchisor all went against the proposition that a Quist Close Trust was created.
Implications of the Decision
Where a Franchisee contributes to a Marketing Fund they do so under a contractual duty. Unless the arrangement is unusual, the Marketing Levy will not be held for Franchisees on Trust. Accordingly, in the event that a Franchisor going into liquidation the Marketing Fund will not be returned specifically to the Franchisees in preference to other creditors.
An alternative for existing Franchise systems could be the establishment of a Marketing Fund through a special purpose company or explicitly requiring that the Marketing Fund Levies be held on Trust for the benefit of the Franchise system. Some Franchisors operating in the Australian market operate this structure so as to give protection to the Marketing Fund in the event of insolvency of the Franchisor.
From a Franchisor perspective the establish of a separate marketing company or Trust enhances both the transparency around the marketing process and also encourages engagement with the Franchisee within the system in relation to marketing decisions.
It is recommended that all Franchisees look at the current structure of the Marketing Fund in their Franchise system and look to agitate for a change to the current set-up if it is similar to that which was used by the Stay In Bed Milk and Bread company Franchise system.
For more information contact:
Heath Adams Director-Lawyer
(t) 9 635 3404 (e) firstname.lastname@example.org