Franchising: check the penalty clauses before you sign

Joining a franchise network means sharing standards and commitments, but also understanding what happens when they are not met. A contractual penalty can turn a delay or an operational mistake into a significant cost. Before choosing a brand, therefore, it is not enough to compare the initial investment and ongoing fees: you need to read the clauses setting out how much you will pay if you breach the agreement and how you can dispute a charge.

What the law says about contractual penalties

In Italy, franchising is governed by Law No. 129 of 6 May 2004. The agreement must be in writing to be valid. Article 4 requires the franchisor to give the prospective franchisee a complete copy of the agreement and the supporting documents required by law at least thirty days before signing, subject to expressly permitted exceptions for specific confidentiality needs.

This period also gives you time to review the penalty clauses with a lawyer. However, Italy’s franchising law does not set a tariff for contractual penalties or a general cap on their amount.

The Italian Civil Code provisions on penalty clauses, Articles 1382 onwards, apply. In essence, the parties can agree in advance what will be due in the event of a breach or delay. The penalty is payable without the party owed it having to prove a loss, provided the conditions for contractual liability are met. As a rule, it limits compensation to the agreed amount, unless the parties have agreed that further losses may also be recovered.

Article 1384 allows a court to reduce a penalty on equitable grounds where the main obligation has been partly performed or the amount is manifestly excessive, taking into account the other party’s interest in performance. This is not an automatic discount, however, and you should not base your investment plans on it.

Identify every event that could trigger a charge

Do not just look for the word “penalty”. Read the provisions on standards, inspections, delays and charges for non-compliance too. An item labelled a “non-compliance management fee” still deserves scrutiny: its legal classification depends on the substance of the clause, not simply its heading.

Prepare a table with four columns: obligation, alleged breach, amount and reference document. Events to check may include:

• delays in submitting information requested by the franchisor;
• failure to keep to agreed opening hours;
• use of unauthorised promotional materials;
• failure to follow specific service procedures;
• failure to correct an issue identified during an inspection.

For each item, ask whether compliance with the obligation can be measured objectively. “Submit the report by a specified date” is different from “co-operate adequately”: vague wording makes it harder to predict when a breach might be alleged.

Also check references to supporting documents. If the agreement refers to a schedule of penalties, ask for a copy and check which version applies. Do not accept purely verbal explanations of your potential financial exposure.

Calculate your exposure, not just the individual penalty

An apparently manageable amount can become costly when it applies per day, per outlet or per incident. Ask how breaches are counted and when any accumulating charges stop.

As a hypothetical example, a late report could trigger either a one-off charge or a daily charge until it is submitted. The two approaches create very different risks, even if the headline amount is the same.

Check three points in particular:

• Multiple penalties: can the same conduct trigger more than one penalty?
• Caps: is there a limit per incident or per period?
• Further losses: does the agreement allow the franchisor to claim compensation for other proven losses in addition to the penalty?

Ask your accountant to model the impact of a prolonged problem and of several mistakes occurring close together. The aim is not to budget for breaching the agreement, but to understand whether an otherwise manageable incident could threaten the business’s ability to keep operating.

Negotiate a clear procedure for handling alleged breaches

A franchise network has an interest in resolving problems, not merely collecting money from them. It is therefore worth asking for the agreement to distinguish between serious breaches and issues that can be put right.

Propose a written procedure specifying who carries out inspections, what evidence documents a breach, how you will be notified of an alleged breach and how long you have to respond. For mistakes that can be corrected, consider negotiating a period in which to put things right before a penalty applies. These are terms to negotiate, not rights automatically guaranteed under every agreement.

Also clarify how the agreement treats circumstances preventing compliance that are not attributable to the franchisee, and problems caused by systems managed by the franchisor. Finally, ask whether the amount can be charged directly and what procedure you should follow if you dispute it. Do not assume that raising a dispute suspends payment.

Practical tip: before signing, summarise all penalties on one page. If you cannot identify the triggering event, the amount, how long charges can accumulate and how to dispute them, ask for written clarification and have a lawyer review the clause.