M&A in franchising
A recent decision by the Botswana Competition Authority (BCA) has raised an interesting perspective on the considerations that may affect mergers and acquisitions in the franchise industry.
In December 2015, the BCA approved an acquisition by Callus (Pty) Limited, of a business, consisting of a number of "KFC" franchise stores in Botswana, and assets related to them, by VPB Propco (Pty) Limited.
In terms of section 59 of the Botswana Competition Act 17 of 2009 (the Botswana Act), the BCA, in assessing a proposed merger, must first determine whether the merger:
- would be likely to prevent or substantially lessen competition or to restrict trade or the provision of any service or to endanger the continuity of supplies or services; or
- would be likely to result in any enterprise, including an enterprise which is not involved as a party in the proposed merger, acquiring a dominant position in a market.
The BCA may, in addition, consider any factor it considers "bears upon the broader public interest in the proposed merger", including the extent to which:
- the proposed merger would be likely to result in a benefit to the public which would outweigh any detriment attributable to a substantial lessening of competition or to the acquisition or strengthening of a dominant position in a market;
- the merger may improve, or prevent a decline in the production or distribution of goods or the provision of services;
- the merger may promote technical or economic progress, having regard to Botswana’s development needs;
- the proposed merger would be likely to affect a particular industrial sector or region;
- the proposed merger would maintain or promote exports or employment;
- the merger may advance citizen empowerment initiatives or enhance the competitiveness of citizen-owned small and medium sized enterprises; or
- the merger may affect the ability of national industries to compete in international markets.
In terms of section 60 of the Act, the BCA, in making a determination in relation to a proposed merger, may approve the merger without conditions or subject to such conditions as it considers appropriate; or decline to approve the implementation of the merger to the extent that it relates to a market in Botswana.
In approving the transaction between Callus and VPB, the BCA imposed the following conditions, designed to protect the small and medium sized enterprises that supplied, and were dependent upon the "KFC" outlets operated by Callus and acquired by VPB:
- Callus was to continue sourcing supplies for the franchised outlets from the same suppliers that were engaged by VPB and were accredited by the franchisor, and was also to consider sourcing from any other franchisor accredited suppliers based in Botswana;
- Callus was to ensure that there would be no job losses as a result of the proposed transaction; and
- Callus was to attempt to facilitate that local suppliers penetrated or met the franchisor's standards of accreditation.
The decision of the BCA in this matter is instructive for South African franchisors on the acquisition trail, in view of the similarity between the relevant provisions of the Botswana Act and those of the South African Competition Act, 89 of 1998 (the SA Act) and in particular the public interest considerations taken into account when considering mergers. The SA Act provides that the following factors are to be considered:
- A notable difference between the Botswana and South African legislation is that, while the Botswana Act provides that the BCA "may" consider factors affecting the public interest, in terms of the SA Act, the South African Competition Commission or Tribunal, as the case may be, "must" consider the effect the merger will have on the public interest.
- In recent years, several of South Africa's leading franchise companies have invested financial and logistical resources in establishing or acquiring in-house manufacturing and distribution capabilities, for the purpose of supplying franchisees with some or all of their stocks and supplies.
- A recent South African example has been the acquisition, during late 2014, by Famous Brands Management Company (Pty) Ltd (FBMC), of control over the businesses of City Deep Cold Storage (Pty) Ltd (City Deep), a cold storage facility operator, and Cater Chain Food Services (Pty) Ltd (Cater Chain), a commercial butchery.
- The motivation behind these moves has often initially been to increase the efficiency of supplies to franchisees and, to maintain the reputation of the brand, to afford the franchisor greater control over the quality and content of the stocks and materials that franchisees are using. However, in a number of these cases, the manufacturing and supply chain management operations are established or acquired by the franchisors with a view to their becoming sources of income in their own right, or become significant contributors to their bottom lines, showing growth or even total turnover exceeding that derived from their franchising operations.
In approving the FBMC/City Deep/Cater Chain merger referred to above, the South African Competition Commission imposed conditions requiring FBMC to continue to source certain meat products from its existing suppliers, that it in turn supplied to the franchisees of its sister companies for a stipulated period of time. As in the case of the VPB/Callus transaction in Botswana, the conditions were imposed with a view to protecting the competitiveness of the small and medium-sized businesses that supplied the franchisees prior to the merger.
Having regard to the positions taken by the competition authorities in these matters, franchisor companies contemplating acquisitions of new brands or businesses, with a view to supplying them through a vertically integrated supply chain, are advised to take into account the public interest considerations that may arise from the acquisition. In particular, consider the effect on suppliers that are small businesses or are controlled by historically disadvantaged persons. In some instances, the acquiring franchisor may be able to argue that the merger will in fact serve, and not harm, the public interest, by providing franchisees with the efficiencies and economy afforded by an in-house supply chain. Following this line of thinking, it could be argued that franchisees are themselves small or medium enterprises, in many cases controlled by historically disadvantaged persons. Having access to an in house supply chain could in fact enable them to grow their businesses and create further employment.
This would certainly be the case where it can be argued that the efficiencies and economy afforded by the supply chain are the primary consideration motivating the acquisition. However, where the franchisor regards the manufacturing and distribution business primarily as a revenue generator in its own right, and not as a facility to serve the franchisees, the argument may be more difficult to sustain. In those cases, franchisors acquiring new brands or outlets are advised to consider whether the acquisition will adversely affect the existing suppliers of the acquired business and provide for the possibility that the competition authorities are likely to impose conditions to protect them.