Disputes between franchise headquarters and franchisees have escalated into more than 10 lawsuits. Among them, the cases of Korea Pizza Hut and Mom's Touch are representative examples that have reached the Supreme Court. Pizza Hut lost, and Mom's Touch won.
The dividing line in the two cases was whether there was a "consultation" process over prices when supplying raw and subsidiary materials to franchisees. Another issue was Pizza Hut's additional franchise fee not specified in the franchise agreement, and the legitimacy of Mom's Touch's price hikes for raw and subsidiary materials. We looked at the differences between the two lawsuits.
◇ Difference franchise fees as distribution margins: "consideration exceeding an appropriate wholesale price"
Franchise headquarters provide franchisees with trade names, technology, and management know-how and receive a franchise fee and royalties that are a portion of sales. They also supply raw materials such as food ingredients and subsidiary materials such as packaging to franchisees and take distribution margins.
These distribution margins are the "difference franchise fees" at the center of lawsuits between more than 10 franchise companies and franchisees. Under the Enforcement Decree of the Fair Transactions in Franchise Business Act, when franchise headquarters supply raw and subsidiary materials to franchisees, "consideration exceeding an appropriate wholesale price" is defined as difference franchise fees.
Difference franchise fees themselves are not illegal, but the amounts and ratios must be stated in the disclosure document and must be premised on agreement with franchisees.
◇ Supreme Court: "Pizza Hut had no agreement on difference franchise fees"
Ninety-four Pizza Hut franchisees filed a lawsuit against Korea Pizza Hut headquarters seeking the return of unjust enrichment. When they signed franchise agreements with headquarters, they paid a franchise fee and paid 6% of monthly sales as a fee and 5% as advertising expenses. They also paid for goods supplied by headquarters.
When the revised Fair Transactions in Franchise Business Act took effect in 2019, Pizza Hut wrote in its disclosure document that there were no difference franchise fees for 2018. Then, in the 2020 disclosure document, it stated that there were difference franchise fees in 2019. The average ratio of difference franchise fees to franchisee sales rose every year: 3.78% in 2019, 4.5% in 2020, 4.73% in 2021, and 5.27% in 2022.
Based on this, franchisees filed suit to have Korea Pizza Hut return difference franchise fees unjustly collected without a contractual basis from 2016 to 2022. The scale of difference franchise fees for 2016–2018 was estimated by applying the 2019 ratio.
Pizza Hut headquarters argued that no agreement was needed to collect difference franchise fees and that it could be seen as having reached an agreement with franchisees.
The Supreme Court found that the franchise agreements between Pizza Hut and franchisees did not expressly provide for difference franchise fees and thus there was no agreement. It also found it hard to deem that franchisees intended to pay difference franchise fees, concluding there was no implied agreement either. Korea Pizza Hut, which lost, must return the difference franchise fees to franchisees.
◇ Franchisees: "Price hikes for raw and subsidiary materials require agreement" vs. Mom's Touch: "Consultation is enough"
The Mom's Touch case is different in nature. Seventeen franchisees filed a lawsuit for the return of unjust enrichment, arguing that it was improper for Mom's Touch headquarters to raise the supply prices of Brazilian thigh patties and domestic breast patties twice, on Oct. 1, 2020 (first) and Feb. 19, 2022 (second).
The franchisees argued that because the franchise agreement contains a clause stating "consult when raising prices of raw and subsidiary materials," it presupposes an "agreement" between the parties. Mom's Touch countered that consultation is merely a discussion process and does not necessarily have to result in agreement.
In practice, Mom's Touch employees met with franchisees to discuss the matter. At a meeting on Feb. 8, 2022, when the franchisees asked, "Why is the price of gangjeong sauce rising more?" a Mom's Touch employee explained, "Because the initial price setting was wrong, and that has been reflected."
The Supreme Court sided with Mom's Touch. For the first price increase in raw and subsidiary materials, it held that "franchisees can be seen as having consented ex post and implicitly." For the second increase, it found that "no other procedures in the franchise agreement were violated." In other words, Mom's Touch did not obtain unjust enrichment from franchisees.
However, this case is separate from distribution margins (difference franchise fees). Attorney Hyun Min-seok of Law Firm YK, who represented franchisees of Korea Pizza Hut and Mom's Touch, said, "The Mom's Touch ruling dealt only with the headquarters' 'authority to raise supply prices of goods,'" adding, "The court did not examine at all whether difference franchise fees were collected or the legitimacy of such collection."
He continued, "Whether there is authority to raise supply prices and whether it is legitimate to collect hidden margins within those prices without agreement are separate matters." Mom's Touch franchisees have also filed a lawsuit against the company seeking the return of difference franchise fees. The first hearing in the first trial has not yet been held.