Liability limits in franchise agreements: agree how risks are shared

When you turn your existing business into a franchise network, the support you promise becomes a contractual obligation between two independent businesses. What happens if an agreed service is not delivered and the franchisee suffers a loss? What if a franchisee’s failure to fulfil their obligations leaves you facing costs? Prepare your liability limitations before signing the first agreement. The aim is not to shift every risk onto the other party, but to make the financial consequences of working together understandable and manageable.

1. Distinguish business risk from the consequences of a breach of contract

A franchisee operates through their own business and bears its commercial risks. This does not, however, release the franchisor from agreed obligations. Poor sales at a franchisee’s business and a franchisor’s failure to deliver an expressly agreed service are separate issues.

Start with how your existing business operates in practice. Identify situations where one party’s performance directly affects the other’s costs or ability to trade. Consider, for example, preparations for opening, training, the right to use the franchise concept and ongoing support. Rather than drafting legal disclaimers at this stage, describe the sequence of events.

Prepare a short risk summary for each significant situation:

• What has each party committed to doing?
• What event could cause a loss?
• Which party can prevent the event or reduce its impact?
• What costs could arise from it?
• What documents could establish what happened and substantiate the costs?

For example, if the franchisor promises to deliver the materials needed for opening by an agreed date, distinguish its delivery obligation from the franchisee’s preparations. If, on the other hand, the opening is delayed because the franchisee has failed to place an order, the allocation of liability is different. Simply stating that the franchisee bears their own business risk does not resolve either case.

Also record any dependencies on external service providers. Establish which party has contracted with the provider and what the franchisor itself promises about the provider’s performance. Using an external provider does not, in itself, determine who is responsible for fulfilling a promise made to the franchisee.

2. Understand the limits under Finnish contract law

Finland has no specific franchising act, no compulsory registration of franchise agreements and no statutory requirement for a franchise disclosure document in a prescribed format. The parties have considerable freedom to agree how liability is allocated, but freedom of contract does not make every term acceptable or enforceable in every situation.

Franchise relationships are subject to, among other things, the Finnish Contracts Act and general principles of contract law. Section 36 of the Contracts Act allows an unreasonable term to be adjusted or set aside. Reasonableness is assessed in the round, so an individual limitation of liability cannot be considered in isolation from the fees, obligations and positions of the parties.

The Finnish Unfair Business Practices Act is also important: false or misleading statements about business activities are prohibited. Do not promise a prospective franchisee comprehensive protection and then seek to strip that promise of its substance through a broad disclaimer. The prospective franchisee must be able to understand how the promise and the contractual term work together.

Other legislation may also apply, including the Finnish Competition Act, the Trademarks Act and EU legislation. The Finnish Franchising Association’s Code of Ethics is a form of self-regulation, not legislation or official approval of contractual terms.

Nor does an allocation of liability between the parties, in itself, remove statutory responsibilities towards customers, employees or public authorities. Have a lawyer with franchising expertise review the limitations, particularly in relation to mandatory legislation and serious failures to fulfil obligations.

3. Define the scope of the limitation, not just the cap

A cap on liability for damages is only one part of the clause. Before choosing an amount or a basis for calculation, decide which liabilities the limitation covers. Does the clause address damages alone, or does it also attempt to cover matters such as refunds of fees? Grouping different liabilities under an unclear heading can lead to significant differences in interpretation.

If the liability cap is linked to franchise fees paid, define which fees count and the relevant calculation period. Test the early stages of the relationship separately: what does the formula mean when no ongoing fees have yet accrued? Also check whether the cap applies to a single event, events arising from the same cause, or all losses within a particular period.

Excluding indirect losses requires equally careful preparation. Do not assume that both parties understand the term in the same way. Discuss, for example, how lost sales, additional work and the cost of obtaining a replacement service would be treated. Examples should clarify the clause, not create a conflicting, parallel rule on liability.

Work with your lawyer to decide on any exceptions to the liability cap. Issues to consider include intentional misconduct, gross negligence and breaches involving confidentiality or intellectual property rights. Do not draft the clause on the assumption that all liability can always be excluded.

4. Test the clause in practice before signing

Test the limitation of liability against a few hypothetical loss scenarios that are plausible for your business. Calculate how the clause would work during the first month of operation and later, once the relationship is established. The aim is not to predict losses, but to identify unclear calculation rules and outcomes that appear unreasonable.

At the same time, review the process for handling a loss: who should be notified, what supporting information is needed and how further loss will be prevented. Define a reasonable procedure that enables a prompt response without unnecessary administration.

Check with an insurance specialist what your own policies actually cover. Liability assumed under a contract and losses covered by insurance do not necessarily match. Insurance is no substitute for a clearly documented division of responsibilities either.

Explain any significant limitation of liability to the prospective franchisee before they commit, and give them an opportunity to seek independent advice. Use the same examples in that discussion as you used when testing the agreement.

Practical takeaway: describe the obligations and potential loss scenarios first, then define the limits of liability. A good clause makes the franchise network’s risks visible rather than hiding them behind a general disclaimer.