Franchise probe could mean ‘big shift’

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The lucrative franchise industry, which generates R1-trillion in annual turnover, is facing its most sweeping regulatory investigation yet after the Competition Commission said it will launch a market inquiry into whether powerful franchisors are exploiting their dominance, squeezing franchisees and blocking meaningful economic transformation. The probe, announced in the Government Gazette, will examine whether structural features of the franchise sector are distorting competition, preventing the growth of small businesses and limiting opportunities for historically disadvantaged entrepreneurs in one of the country’s largest commercial sectors. The inquiry throws a spotlight on an industry that generated estimated turnover of nearly R1-trillion in 2023, accounting for about 15% of GDP, while supporting roughly 500,000 jobs. The sector comprises more than 800 franchisor brands, 3,500 franchisees and more than 30,000 outlets, spanning fast food, retail, automotive services, construction and health and beauty.But despite the sector’s scale and reputation as a relatively low-risk route into entrepreneurship, the Commission believes it has fallen short on transformation and may be characterised by deep power imbalances that leave franchisees vulnerable to abuse. “The low level of participation by Africans in ownership within the franchise sector attests to the reality that it remains highly untransformed,” the commission said. Industry figures cited by the regulator show white entrepreneurs own 57% of franchise outlets, compared with 18% for Africans, 17% for Indians and 8% for coloured owners. The inquiry will focus on three principal themes: funding and finance requirements; franchise agreements and commercial practices; and information asymmetries between franchisors and franchisees. Legal experts say the inquiry could mark a watershed moment for the sector. According to Werksmans Attorneys, franchise businesses should not underestimate the potential consequences of the investigation, given the far-reaching remedies that have flowed from previous Competition Commission market inquiries. “The market inquiry may herald a significant shift for the South African franchising landscape,” the firm’s legal experts said. Werksmans noted that the franchising industry has long been a site of contention for antitrust authorities worldwide, with franchisees frequently complaining to competition regulators about their treatment by franchisors. In South Africa, no such complaints have as yet resulted in finalised enforcement activity by the Competition Commission.The law firm said the commission’s inquiry is rooted in concerns that features of the franchise market may be impeding or distorting competition, while also limiting opportunities for SMEs and historically disadvantaged persons. The market inquiry may herald a significant shift for the South African franchising landscape— WerksmansThe commission is also concerned about the increased merger activity and concentration in established franchise sectors, particularly in grocery retail and food services.Between 2017 and 2024, the commission assessed 41 acquisitions involving grocery retail and food franchise businesses, with dealmaking accelerating after the Covid pandemic. At the heart of the inquiry is growing concern that franchisors wield excessive power over franchisees through contracts, procurement rules and pricing controls. The commission said it has received complaints over several years alleging that franchise agreements are routinely offered on a “take-it-or-leave-it” basis, leaving prospective franchisees with little room to negotiate equitable terms. “Several complaints filed with the commission by franchisees point to a power imbalance between franchisors and franchisees, as well as the challenges franchisees face in negotiating equitable terms,” the gazette notice states. The investigation will examine whether franchise agreements contain unfair provisions that undermine competition or compromise the long-term sustainability of franchise businesses. Among the practices under scrutiny are mandatory procurement arrangements requiring franchisees to purchase goods exclusively from approved suppliers, even where cheaper alternatives may be available. The commission is investigating allegations that some franchisors retain supplier rebates and discounts rather than passing those benefits to franchisees whose purchasing volumes help secure them. The regulator said it is aware of cases in which franchisees were allegedly compelled to sell products at or below cost while complying with nationally imposed promotions and pricing strategies that fail to account for local trading conditions. Such arrangements, the commission warned, could leave smaller operators financially exposed while benefiting franchisors seeking to expand market share. Freddy Makgato, CEO of the Franchise Association of South Africa (Fasa), said association members already abided by current legislation, including the Consumer Protection Act. But in some cases involving non-members, “we don’t know what they are doing and how they are practising their businesses, and I think this [inquiry] might help”. Unencumbered cash is an incentive for an entrepreneur to work for the business and on the business— Freddy MakgatoHe said Fasa has received complaints from franchisees of non-members regarding the lack of support from the franchisors. “It is difficult to investigate [such] complaints because those franchisors tell us they are not members, and therefore we cannot investigate. We often refer them to the National Consumer Commission or the consumer goods & services ombud.”Makgato said the association may propose reforms that would effectively require all franchise operators to become members of the organisation, allowing it to review franchise agreements and ensure compliance with industry codes and consumer protection regulations. On transformation, “we will not entirely say” it is slow, Makgato said. Fasa has embarked on a deliberate transformation strategy in 2020, supported by media campaigns, workshops and seminars aimed at exposing previously disadvantaged entrepreneurs to franchise opportunities“We have seen the uptake of those opportunities, and from 2019 to 2020 there was an uptake of investment opportunities by previously disadvantaged entrepreneurs. I think up to so far we are happy.” Makgato said transformation can occur through two channels: by helping black-owned businesses develop into franchise systems and by supporting black entrepreneurs to acquire existing franchise operations. One of the commission’s key concerns is that aspiring franchisees are often expected to provide large amounts of unencumbered capital before financiers will consider lending. The regulator noted that prospective franchisees are frequently required to contribute at least 50% of the total investment cost from their own resources, a condition it believes may exclude many historically disadvantaged entrepreneurs. “There may be alternative and less exclusionary ways to assess a prospective franchisee’s commitment,” the commission said. But Makgato rejects the idea that these requirements are inherently exclusionary. “We don’t think the unencumbered cash issue is a barrier,” he said. “Unencumbered cash is an incentive for an entrepreneur to work for the business and on the business. It is not easy to give somebody IP and know-how when they don’t invest their own money in the business.” He argued that franchisors entrust operators with valuable IP, systems and brand reputations, making financial commitment essential. Experience showed that businesses that were effectively handed over without sufficient owner investment often resulted in abandoned operations and damaged brands, he said. The inquiry will investigate whether franchisors exploit information asymmetries by presenting overly optimistic earnings projections or failing to disclose material risks before agreements are signed. Citing complaints and court judgments, the commission noted allegations that some franchisees were induced into investments based on forecasts that ultimately proved “grossly inaccurate”. The regulator is also examining claims that some franchisors failed to disclose the true financial performance of franchise outlets being marketed to prospective buyers. Makgato said disclosure requirements are already a central feature of Fasa’s membership standards. “Disclosure documents are part of our requirements ... and are reviewed by a panel of experts,” he said. While acknowledging that some franchisees fail, he argued that poor performance is not always attributable to the franchise model itself. “There will be those that fail, either because they don’t put in the hard work or they use franchising as a side hustle, and there is nothing we can do about that.”