Franchising in Canada: limiting your personal guarantee

Buying a franchise through a company does not automatically protect your personal assets. A lender or franchisor may ask you to guarantee certain obligations of the business. Before joining a franchise network, examine your guarantee as carefully as the purchase price: this commitment may remain in force after your outlet closes or is sold.

1. Identify every personal commitment

A guarantee is a commitment to answer for another party’s debt or certain obligations — usually those of your company in this context. If the company fails to meet its obligations, the creditor may demand payment from the guarantor under the agreed terms and applicable law.

Do not look only for a document headed ‘personal guarantee’. The commitment may appear in a schedule to the franchise agreement, a credit agreement, a supply contract or an indemnity clause. These arrangements do not necessarily have the same legal effect: your lawyer should distinguish between them.

Prepare a table recording the following for each document:

• the creditor and the company whose obligations you are guaranteeing;
• the people required to sign in a personal capacity;
• the debts or obligations covered;
• any financial cap and any additional costs;
• the duration and conditions for release.

Also check the capacity in which you are signing. Signing as a company director and signing as a guarantor do not bind the same party. Ask for an explanation of every place where your signature is required.

2. Assess your actual exposure, not just the loan

A guarantee limited to a specific loan is different from a commitment covering all current and future obligations to a franchisor. Depending on its wording, the latter may cover unpaid royalties, purchases, interest or certain contractual indemnities.

Ask whether the stated amount is an overall cap or whether interest and recovery costs can be added. Also check whether a change to the financing, a further advance or an extension of the agreement could widen your commitment without requiring a new signature.

Where several business partners give guarantees, do not assume that each is liable only for their own share. A joint and several guarantee may allow the creditor to demand the full amount covered from a single guarantor. An internal agreement between the partners may govern their rights to recover money from one another without necessarily limiting the creditor’s rights.

Ask your accountant to model several scenarios: trading at a loss, early closure and a sale with outstanding debts. The aim is to estimate your total personal exposure, without treating the guaranteed amount as an inevitable loss.

Finally, distinguish a guarantee from security over an asset. Personally guaranteeing a debt and granting a mortgage over your home are two different commitments, although they may apply together.

3. Negotiate clearly defined limits

Negotiations should focus on written terms, not assurances that the guarantee is merely a formality. The creditor may refuse some changes; that refusal is still important information when deciding whether to buy.

Here are the main points to discuss with your lawyer:

• A fixed cap: specify which amounts are included and any exclusions.
• A limited scope: link the commitment to identified obligations rather than all future debts.
• A gradual reduction: provide for the guarantee to decrease after specified repayments or when objective conditions are met.
• A clear end date: distinguish between ending cover for new debts and continuing liability for earlier debts.
• A release procedure: define the conditions that apply on a sale, repayment or replacement of the guarantor.

Selling the shares in your company does not automatically release you. Nor does a business partner’s departure. When planning an exit, obtain a written release from the relevant creditor and have its scope confirmed before completing the transaction.

4. Have provincial protections checked

In Canada, franchise-specific rules are set at provincial level; there is no general federal franchise disclosure regime. The law governing the guarantee also requires separate analysis.

In Ontario, the Arthur Wishart Act (Franchise Disclosure), 2000 provides, among other things, for pre-contractual disclosure, a duty of fair dealing and franchisees’ right to associate. Subject to statutory exceptions, disclosure must be provided at least 14 days before a franchise-related agreement is signed or any consideration is paid. Ask your lawyer to check how this rule applies to the documents you are being asked to sign personally.

In Quebec, no franchise-specific legislation imposes an equivalent regime. The Civil Code of Québec governs matters including contracts, good faith and guarantees. Mandatory rules, formal requirements and available defences may vary depending on the province and the nature of the commitment. Protections for franchisees do not automatically release a guarantor.

Key takeaway: before signing in a personal capacity, insist on written answers to three questions: what are you guaranteeing, up to what amount, and how will you be released? Have an independent lawyer verify those answers.