How franchisors can get a fix on price-fixing

Given price-fixing can result in fines in the millions and even prison sentences, it's important to make sure franchisors and franchisees understand their obligations

How franchisors can get a fix on price-fixing

We all know that in the franchise industry, the franchisor will seek to control almost every aspect of the franchisee’s business. But when it comes to pricing, there are important legislative restrictions that prevent franchisors from controlling the prices charged by franchisees to the extent they might like.

The basic principle of ensuring all franchisees in a network are operating in the same way and on the same terms is fundamental to a successful franchise. This principle is central to ensuring consistency across the network and, consequently, to growing and safeguarding the reputation of the brand. On the face of it, there’s no reason why this shouldn’t extend to pricing and ensuring all customers receive the same value for money, whether they buy from a franchisee in Liverpool or Luton.

Price point is often one of the key identifiers of a brand. In some industries there is a direct correlation between price and perceived quality and brands want to avoid their products being sold too cheaply for fear that people will believe low price equates to poor quality. Conversely, some business models are based around high volume, low price and even a small increase in the latter could significantly impact volume and overall turnover. For these reasons, it’s easy to see why franchisors would like to control the prices at which franchisees sell goods and services to customers.

On the other hand any attempts to try to fix or influence prices within an industry is generally against the public interest. An agreement to keep prices high has an obvious impact on buyers but equally an agreement to keep prices artificially low, even on a temporary basis, could force some businesses out of the market or make it impossible for new entrants to gain a foothold. Either way, pricing agreements within an industry tend to distort free competition and ultimately mean consumers may be paying more than they should. For this reason, this type of action is prohibited by law.

Setting the ground rules

Pricing rules are mostly found in the Competition Act 1998, which prevents any arrangements that have the effect of restricting competition in the UK. This applies regardless of whether there is an express agreement or merely some discussions, sharing of information or other activity that has the effect of distorting competition. The act also prohibits any action that amounts to an abuse of a dominant position, whether this is one firm acting alone or a group of firms that collectively hold a dominant position between them. These rules are supplemented by the Enterprise Act 2002, which makes some pricing activities criminal. Further criminal offences may be committed not just by the business but by the individuals within them who made the decisions.

In short, this means that if a franchisor requires franchisees to sell at a particular price, then they both could be guilty of criminal and civil offences and the individuals within those businesses could face imprisonment. And this is no empty threat: there have been a number of high-profile price-fixing cases in the UK. For example, in 2012, the Office of Fair Trading (OFT) fined British Airways £121.5m – later reduced to £58.5m – for colluding with Virgin to fix fuel surcharges.

Casting a wide net

Arrangements that fall short of fixing the final selling price can still be caught. Arrangements designed to set a minimum price, a price range, individual components of a selling price or the rate of price increases are all examples of arrangements that are prohibited. Indirect price-fixing such as an agreement not to advertise prices is also prohibited. In 2015, the Competition and Markets Authority concluded that an agreement between lettings agents not to publish their fees in a local paper was illegal because it reduced price competition between agents and potential competitors.

Never out of reach

Generally, franchise networks can avoid the reach of competition law on the basis that they are too small to have any significant impact on the market as a whole. Sadly, this exemption doesn’t apply in the case of price-fixing, which even in a small, local market is still considered an offence.

And if companies are found guilty, the repercussions can be severe. In 2009, after an investigation into the construction sector, the OFT issued fines totalling £130m to 103 companies. In 2003, Littlewoods, Argos and Hasbro were fined for fixing the resale prices of Hasbro toys and games. Argos was fined £17m, Littlewoods was fined £5m, while Hasbro had previously been fined £15m for price-fixing agreements with its distributors. In 2011, Tesco was among four supermarkets and five dairy producers fined for exchanging information on their intended pricing, receiving a fine in excess of £10m. And if fines aren’t enough, a person found guilty under the Enterprise Act could face imprisonment: in 2007, three individuals were sentenced to up to three years.

So how far can a franchisor go in regulating prices without exposing themselves and their network to potential civil and criminal prosecution? Generally, issuing recommended prices is acceptable, provided that the ultimate choice of price is down to the individual franchisee. The franchisor would also usually be allowed to set a maximum price but giving a range of prices or setting a minimum price is unlawful. It’s also worth noting that if the object or effect of any pricing strategy is to distort competition, it will be illegal.

Whilst it can be tempting for franchisors to want to influence franchisee pricing decisions, the risks if they go too far could be catastrophic. As a result, care must be taken and legal advice should always be sought before sharing any form of pricing strategy, whether inside or outside the network.

Kate Legg
Kate Legg