Competition Commission turns spotlight on South Africa's franchise sector

Johannesburg-based competition law experts, Anthony Crane and Mark Thomas of Pinsent Masons, were commenting on the South African Competition Commission’s proposed franchise market inquiry, following the publication of draft terms of reference (18-page / 650KB PDF) on 26 June. The proposed inquiry signals heightened regulatory scrutiny of the franchising sector and reflects the Commission’s growing focus on whether market structures, commercial practices and ownership patterns may be impeding competition, transformation and  the participation of small to medium sized entities  (SMEs) and ‘historically disadvantaged persons’ (HDPs) in the South African economy. 

“Given the impact of previous Competition Commission market inquiries, businesses operating in the franchising sector should view this process as far more than a routine regulatory review as it is likely to shape the future regulatory and commercial landscape of the sector for years to come,” said Crane.

Franchising is a substantial component of the South African economy, with the Commission noting that the sector comprises more than 800 franchise brands, approximately 30,000 franchise outlets, 500,000 jobs, and an estimated annual turnover approaching R1 trillion (US$61.5 billion). Despite the sector’s scale, the Commission has expressed concern that ownership patterns remain insufficiently transformed and the Commission intends to examine whether current financing models create unnecessary barriers to entry for SMEs and HDPs.

Particular attention will be paid to franchising funding qualification criteria, upfront capital contribution requirements, financing application processes, conditions attached to franchise finance, and alternative funding models that could reduce capital barriers for prospective franchisees. The Commission specifically questions the common practice in which prospective franchisees are required to contribute approximately 50% of the investment value form their own unencumbered funds before financing will be considered.

The inquiry will also examine franchise agreements and related business practices, with particular focus on supply arrangements, rebate structures, pricing controls, franchise fees, royalties and the broader franchisor-franchisee relationship. Notably, the Commission refers to complaints alleging that some franchisees have been required to purchase stock on unfavourable terms or to participate in pricing promotions that adversely affect profitability.

A third area of focus relates to the information provided to prospective franchisees before they join a franchise network. The Commission has raised concerns regarding financial projections, business plans, forecasts, disclosure documents and the transparency regarding franchise performance including  potentially misleading or overly optimistic representations by franchisors.

The inquiry is intended to cover the sector broadly. While the inquiry is not directed at any individual company or franchise system, the Commission has identified a number of sub-sectors that are likely receive particular attention, including fast food and restaurant chains, grocery retail, automotive services, fuel retail, health and beauty franchises.  

The Commission has increasingly used market inquiries as a tool for a broad investigation, to reshape market conduct, remove barriers to entry and drive broader public interest outcomes. Previous inquiries in sectors such as grocery retail, healthcare, data services and online platforms have resulted in significant recommendations affecting commercial arrangements and business practices across entire industries. Unlike an enforcement investigation, a market inquiry is not aimed at determining whether a particular business has contravened the Competition Act. Instead, it enables the Commission to conduct a broad examination of an entire sector and, where appropriate, to recommend or implement measures aimed at improving competition and market outcomes.

Businesses and other interested parties have until 7 August to summit comments on the draft terms of reference. The Commission will then publish final terms before formally commencing with the inquiry, which may run for up to 18 months before it issues its final report. The inquiry process is expected to involve extensive stakeholder engagement. Franchisors, franchisees, industry associations, government bodies and members of the public may be invited to participate through written submissions, responses to information requests, pre-hearing consultations and oral presentations during hearings

Thomas said: “Franchisors should not wait for the inquiry to commence before examining their business practices. Reviewing franchise agreements, supplier relationships, pricing structures and disclosure processes now will help businesses identify potential areas of concern and prepare for meaningful engagement with the Commission”.