New South Wales District Court CITATION: Civic Video Pty Ltd v Garfell Nominees Pty Ltd [2008] NSWDC 3 HEARING DATE(S): 4/2/08 - 5/2/08 JUDGMENT DATE: 5 February 2008 JURISDICTION: Civil JUDGMENT OF: Rolfe DCJ 1. On the Statement of Claim, Verdict and Judgment for the Defendants. DECISION: 2. On the Amended Cross-Claim, pursuant to Section 87 (2)(a) of the Trade Practices Act 1974 (Cth) declare the whole of the agreement pleaded in paragraph 30 (i) of the Statement of Claim void ab initio. 3. Direct the exhibits be returned forthwith to the parties. CATCHWORDS: Determination of Separate Issue - Franchise Agreements - Renewal or Extension - Application of Franchising Code of Conduct - Breach - Illegality - Consequences Trade Practices Act 1974 (Cth) LEGISLATION CITED: Uniform Civil Procedure Rules Trade Practices (Industry Codes - Franchising) Regulations 1998 (Cth) CASES CITED: Ketchell v Master of Education Services Pty Ltd (2007) NSW CA 161 Anderson Ltd v Daniel (1924) 1KB 138 Civic Video Pty Ltd (Plaintiff) PARTIES: Garfell Nominees Pty Ltd (1st Defendant) John & Joe Vambaca (2nd Defendants) FILE NUMBER(S): 1231/07 COUNSEL: J K Chippindall (Plaintiff) D L Williams SC with S W Balafoutis (1st & 2nd Defendants) JUDGMENT 1 On 27 March 2007 the plaintiff commenced proceedings against Garfell Nominees Pty Ltd as 1st defendant and John and Joe Vumbaca as 2nd defendants, claiming damages up to $750,000 plus interest and costs. 2 The plaintiff was the operator and franchisor of video stores which included the supply of videos, equipment and systems. 3 On 11 January 2001 the plaintiff entered into two franchise agreements with the 1st defendant. One agreement dealt with the video store at Venture Plaza, 19 Howard Avenue DeeWhy and the second agreement dealt with the video store at Corner More and Albert Roads Harbord. The 2nd defendants were parties to each agreement in their capacity as guarantors and indemnifiers of the 1st defendant's obligations to the plaintiff. 4 Both franchise agreements were for a term of five years commencing on 1 May 2000. They expired on 1 May 2005. 5 On or about 23 February 2005 a meeting took place between representatives of the parties. At the meeting there was discussion about whether the 1st defendant would enter into further franchise agreements in relation to both stores on amended terms. There is a factual dispute about what was said at the meeting and in subsequent telephone conversations. In this respect, however, the plaintiff alleges (para 21 of the Statement of Claim) as follows: "21. At the meeting the plaintiff offered and the 1st defendant accepted that the agreements be renewed provided that the plaintiff would agree to variations of them to which the plaintiff agreed." 6 The plaintiff prepared fresh agreements, but although none of these was signed by the defendants, the plaintiff alleges that the defendants agreed to a "continuation" of the old franchise agreements as amended. Specifically, in paragraph 30 of the Statement of Claim the plaintiff pleads its case as follows: "30. In the events that have happened the plaintiff says: (i) There is an agreement between itself and the First and Second Defendants that the terms of the franchise agreements as amended and described in paragraph 9 hereof would be continued; (ii) The First and the Second Defendants by their conduct have adopted the terms of such agreements; (iii) The First Defendant has breached each agreement with the concurrence of the Second Defendants; (iv) The Plaintiff has suffered damage which it has been unable to mitigate; (v) In the circumstances, the Second Defendant is liable to indemnify the Plaintiff in respect of such loss or damage." The franchise agreements described in paragraph 9 of the Statement of Claim were the original ones dated 11 January 2001. 7 The defendants, in answer to paragraph 30 of the Statement of Claim plead in each case, in para 30 of their Defence: "(a) … that the conduct alleged by the plaintiff constitutes a contravention by the plaintiff of s 51AD of the Trade Practices Act 1974 (Cth) and clause 11 of the Franchising Code of Conduct; (b) the whole of the agreement pleaded at paragraph 30 (i) of the Statement of Claim is rendered void and unenforceable by reason of illegality; and (c) otherwise deny the allegations set out in paragraph 30 of the Statement of Claim." 8 By reason of their plea of illegality the defendants as cross-claimants seek an order pursuant to s 87 (2)(a) of the Trade Practices Act 1974 (Cth) ("TPA") declaring the whole of the agreement pleaded at paragraph 30 (i) of the Statement of Claim void ab initio. 9 The parties agree that the Franchising Code of Conduct applies to the franchise arrangements made between them. 10 At the commencement of the hearing the defendants were granted leave to file in Court their Amended Defence and Amended Cross-Claim. Because of the defence of illegality pleaded in both the Amended Defence and the Amended Cross-Claim and upon being satisfied that it raised for determination a separate and discrete issue pursuant to Part 28 Rule 2 of the Uniform Civil Procedure Rules the Court ordered that there be a separate hearing on the issue of illegality in advance of the other issues at the hearing. The hearing of this separate issue proceeded on the agreed facts set out in the Schedule to this judgment. 11 Part IVB (ss 51 ACA – 51 AEA) of the TPA deals with Industry Codes. Section 51 AE provides that regulations may prescribe an Industry Code and declare it to be mandatory. Industry Code is defined to mean a code regulating the conduct of participants in an industry towards other participants in the industry or towards consumers in the industry. 12 Section 51 AD of the Act provides: "A corporation must not, in trade or commerce, contravene an applicable Industry Code." 13 It follows that a breach of an Industry Code is a breach of the TPA. 14 Clause 3 of the Trade Practices (Industry Codes – Franchising) Regulations 1998 (Cth) prescribes the Franchising Code of Conduct (the "Code") and declares it to be a mandatory Industry Code. 15 With some exceptions which are not relevant to this case, the Code applies to a franchise agreement (defined in Clause 4 of the Code) entered into on or after 1 October 1998. As noted, the parties agreed that the Code applies here. The provision of the Code with which the Court is concerned is Clause 11 as follows: "(1) The franchisor must not: (a) enter into, renew or extend a franchise agreement; or (b) enter into an agreement to enter into, renew or extend a franchise agreement; or (c) receive a non-refundable payment (whether of money or of other valuable consideration) under a franchise agreement or an agreement to enter into a franchise agreement; unless the franchisor has received from the franchisee or prospective franchisee a written statement that the franchisee or prospective franchisee has received, read and had a reasonable opportunity to understand the disclosure document and this code." 16 The Court is not concerned with Clause 11 (2) of the Code which specifies some other documents that the franchisor must receive before entering into a franchise agreement with a prospective franchisee. Clause 11 (3) (a) of the Code stipulates that Clause 11 (2) does not apply to the renewal or extension of a franchise agreement. 17 As noted in paragraph 8 of the Schedule, the plaintiff did not receive from the defendants a written statement which complied with Clause 11 (1) before the agreement pleaded in paragraph 30 (i) of the Statement of Claim was allegedly entered into. 18 There is no doubt that a breach of Clause 11 of the Code is a contravention of s 51 AD of the Act. In Ketchell v Master of Education Services Pty Ltd (2007) NSW CA 161 the Court of Appeal had to consider whether a franchisor which entered into a franchise agreement in contravention of Clause 11 (1) of the Code was able to recover payments alleged to be owing to it under the franchise agreement. It was held in that case that a franchise agreement entered into in such circumstances was illegal and unenforceable. In particular, it was held that the disclosure requirements of the Code were clearly enacted for the protection of prospective licensees: Anderson Ltd v Daniel (1924) 1KB 138. The Court of Appeal rejected a submission that a distinction ought be drawn between a breach of the Code which was substantial and one which was merely minor, technical or procedural. At para 43, Mason, P said that this was a matter which needed to be taken up with the Parliament. Specifically, his Honour said: "One frequently encounters provisions that relieve against strict compliance …But s 51AD and Clause 11 of the Code are not qualified in this way." 19 Mr J K Chippindall of counsel appeared for the plaintiff. Mr D L Williams SC and Mr S W Balafoutis appeared for the defendants. Counsel provided the Court with written submissions dated 4 February and 3 February 2008 respectively. 20 Counsel for the plaintiff submitted that the plaintiff was entitled to rely on the acknowledgements made by the defendants set out in Clause 22.13 of each of the original agreements relating to both stores made on 11 January 2001 (Exhibits 1 & 2 respectively). In other words, it was unnecessary for the plaintiff to have received, after a meeting on or about 23 February 2005, the written statement required by Clause 11 (1) of the Code. As a matter of fact, the submission was inconsistent with the manner in which the plaintiff had conducted itself when it wrote to the defendants on 8 March 2005 in the following terms (omitting formal parts): "Thank you for applying to renew your Civic Video Franchise Agreement. I am pleased to advise that Civic Video agrees to extend your Civic Video franchise, on the condition that you enter into Civic Video's current form of Franchise Agreement. I therefore enclose: 1. The new Franchise Agreement together with your amendment document. 2. Our Franchise Disclosure Document. 3. A set ot detailed instructions for completion of each of the above. Please let me know if you have any queries regarding these documents or their completion. Please return the completed documents to us as soon as possible. Any trading by you under the "Civic Video" name after your current Franchise Agreement expires will be deemed to be on your acceptance of and will be on the terms of the enclosed new Franchise Agreement. Also note that the advertising fee referred to in Item 18 of the First Schedule will be waived for you as an existing franchisee until such time as 60% of all stores are contracted to contribute to an advertising fee. At such a point in time, you will be advised that the advertising fee component of your franchise agreement now applies. We look forward to continuing to assist your efforts to grow the success of your Civic Video business." 21 As can be seen, the plaintiffs sent the defendants new documentation including new disclosure documents in accordance with Clause 11 (1) of the Code. Notwithstanding, their counsel submitted that the plaintiff could rely on the 2001 disclosure documentation. Counsel sought to persuade the Court that because the differences between the agreements made in 2001 and the documentation sent in March 2005 were not significant that, somehow or other, the plaintiff could avoid the obligation contained in Clause 11 (1) of the Code because there had been a "continuation" of the original franchise agreements entered into in January 2001. However, on any view, the "continuation" of the original franchise agreements involved a renewal or extension of each of them. For example, the original term was for five years but an extension of ten years was proposed in the case of each store. 22 Although counsel sought to distinguish the decision in Ketchell because the facts were slightly different, Ketchell has broad application. It matters not that in Ketchell the Court was dealing with circumstances arising out of the entry into of a franchise agreement in the first place. 23 Counsel for the defendants relied on the letter of 8 March 2005 set out above and submitted, additionally, that when an analysis of the draft documentation accompanying that letter was made and compared with the original franchise agreements (Exhibits 1 & 2 respectively), it can be seen that there are material differences. For example, when comparing Exhibit 2 with Exhibit 5, it can be seen that there are differences in Clause 22, Clause 5.1 and the first and second schedules. The same result pertains to a comparison of Exhibit 1 with Exhibit 4. Looking at it this way, it would have to be said that the plaintiff's offer was to enter into a new franchise agreement. I accept this submission. 24 However, and in any event, whichever way one looks at it, what happened in February 2005 either constituted the entry into of new franchise agreements or, as in effect pleaded by the plaintiff, the renewal or extension of the franchise agreements entered into in January 2001. In either case the failure of the plaintiff to receive the documents stipulated in Clause 11 (1) of the Code was clearly and demonstrably a breach of the Code. As a consequence, the Court is comfortably satisfied that the plaintiff contravened s 51 AD of the TPA. In the circumstances, therefore, the agreement pleaded by the plaintiff is illegal and unenforceable. 25 In the result, the Court makes the following orders: 1. On the Statement of Claim, Verdict and Judgment for the Defendants. 2. On the Amended Cross-Claim pursuant to Section 87 (2)(a) of the Trade Practices Act 1974 (Cth) declare the whole of the agreement pleaded in paragraph 30 (i) of the Statement of Claim void ab initio. 3. Direct the exhibits be returned forthwith to the parties. I will now hear the parties on costs. SCHEDULE OF AGREED FACTS 1. The Plaintiff and the 1st Defendant entered into two franchise agreements for the 1st Defendant's two stores in Dee Why and Harbord on 11 January 2001, for a term of 5 years from 1 May 2000. 2. The franchise agreements expired on 1 May 2005. 3. The Franchise Code of Conduct applies to the franchise arrangements between the parties. 4. A meeting took place on or about 23 February 2005 at which time a discussion took place as to whether the 1st Defendant would enter into further franchise agreements for the two stores on amended terms. 5. There are issues as to what was said at the meeting and in subsequent telephone conversations. The Plaintiff alleges that it agreed to renew and/or enter into new franchise agreements. The Defendants dispute this. 6. The Defendants did not sign any new franchise agreements. 7. The Plaintiff alleges that the Defendants agreed to a continuation of the old franchise agreements as amended and are bound by those agreements. 8. The Plaintiff did not receive from the Defendants a statement of the nature described in Clause 11(1) of the Franchise Code of Conduct prior to the alleged agreement referred to in paragraph 7 above. 9. The 1st Defendant received: (a) the documents acknowledged by it to have been received in Annexures C & D to each of Exhibit A1 and A2 to the affidavit of Rod Laycock sworn 10 September 2007. (b) Annexure CC to the affidavit of Rod Laycock (letter dated 8 March 2005) and the enclosures therewith. ********** DISCLAIMER - Every effort has been made to comply with suppression orders or statutory provisions prohibiting publication that may apply to this judgment or decision. The onus remains on any person using material in the judgment or decision to ensure that the intended use of that material does not breach any such order or provision. Further enquiries may be directed to the Registry of the Court or Tribunal in which it was generated.