Reducing risk of Franchise Agreement misrepresentation Claims

Franchise Agreement

At a time when franchise networks are feeling the strain, this blog considers what steps a Franchisor can take to limit the Franchisee’s ability to end the franchise agreement on the grounds of misrepresentation.

The purpose of a franchise agreement is to regulate the relationship between the franchisor and franchisee.  The agreements are robust and drafted from a pro franchisor position. Typically, part of that robustness is reflected in the absence of any contractual right for the franchisee to terminate the franchise agreement on notice.  Once the franchisee has signed the agreement, they are locked in for the period of the term.

Early exit from franchise agreement

Without a contractual right to terminate the franchisee has limited options to exit the franchise before the end of the term.  One option is for the franchisee and franchisor to mutual agree to bring the franchise to an end. On occasions the franchisor may believe this will benefit the franchise network as a whole.  However, if the franchisor is prepared to agree to the early release of the franchisee, the franchisee will look for an alternative means of exiting the agreement.

The franchisor’s limited obligations under the agreement mean it is unlikely the franchisee will be able to rely on a serious breach of the contract by the franchisor to bring the agreement to an end.  For that reason a franchisee is likely to seek an exit from the agreement by arguing the franchisor has made a misrepresentation when selling the franchise.

What is misrepresentation?

A misrepresentation will arise where one party to a contract (usually the franchisor) makes an untrue statement that induced the other party (the franchisee) to enter into the contract.

The scope for a franchisee to argue there has been a misrepresentation is wide.  Comments made by the franchisor at the time of negotiating the sale of the franchise will inevitably induce the franchisee to enter into the franchise agreement.

Importantly where the franchisee is successful in proving there has been a misrepresentation, the effect will be to ‘rescind’ the franchise agreement.  This means the law will treat the agreement as having never existed.  Practically this has the same outcome as termination of the agreement. However the rescission of the contract means that those key clauses such as restrictive covenants and confidentiality will be unenforceable.  This will leave the franchised business exposed to the risk of competition and misuse of confidential information.

How reduce the risk of misrepresentation

Aside from taking care in what information is disclosed to the franchisee during the sale process, there are a number of key provisions to include within the franchise agreement to reduce that risk.

A key provision is the ‘entire agreement’ clause. This provision states the whole of the contractual relationship between the parties is governed exclusively by the clauses in the franchise agreement. Put simply, the clause says that everything which has been agreed between the franchisee and franchisor is recorded in the agreement.  This prevents a franchisee from later claiming the parties have agreed something which is not expressed within the agreement.

An entire agreement clause should also be drafted to exclude the franchisor’s liability for all representations, contractual promises (‘warranties’), agreements, or undertakings made prior to the parties entering into the franchise agreement. However, such wording within the clause does not automatically protect the franchisor from a misrepresentation claim.

Excluding claims for misrepresentations

To exclude liability for misrepresentation effectively the clause must include specific wording to prevent the franchisee from establishing the elements required to make a claim for misrepresentation. The Courts have ruled the wording must make it clear that misrepresentation claims are excluded.

As with most legal clauses, there is no bullet proof form of wording which can be used to ensure the franchisee can never bring a claim. However a well drafted clause will certainly go a long way to undermine a franchisee’s attempt to do so.

Typically, the clause should include the following provisions: –

  • A non-reliance statement (i.e. that the franchisee has not relied on any pre-contractual representations);
  • A statement that excludes liability for misrepresentation; and
  • A statement restricting the availability of remedies for the franchisee.

The provisions of the entire agreement clause would usually also be linked to the limitation of liability clause. The purpose of this clause is to reduce the liability of the franchisor should a claim be brought against it.  However, details of this are not within the scope of this blog.

Conclusion

Unfortunately, however well drafted your franchise agreement, franchisees will always look for a loophole to allow them to argue a misrepresentation has occurred.  That said, a well drafted entire agreement clause which clearly seeks to exclude claims for misrepresentation goes a long way to either heading off or disrupting such arguments.  At a time when some franchisees are looking for a way out of the agreement, a review of your entire agreement clause is probably in order.

Disclaimer: This document is for informational purposes only and does not constitute legal advice. It is recommended that specific professional advice is sought before acting on any of the information given. Click here to contact Rebian Solicitors for franchise advice.

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