Franchising an Existing Business in Japan: A Guide to Joint and Several Guarantees and Security

When turning an existing business into a franchise, are you simply adopting the joint and several guarantee clause in a contract template? Guarantees help protect a franchisor against non-payment, but their terms can place a substantial burden on franchisees’ families and business owners personally. To build a franchise community in which independent businesses support one another, define why a guarantee is needed, what it covers, its limit and when it ends before you start recruiting franchisees.

1. Break down the risk of non-payment before requesting a guarantee

Your first task is not to draft a guarantee, but to list what might go unpaid, when and by how much. Separate royalties, payments for goods, equipment hire charges and damages for breach of contract, and check when each liability arises and how long settlement takes. It is important not to treat recurring monthly debts in the same way as liabilities that arise only after an incident or when the agreement ends.

The accounts of company-owned outlets alone will not reveal the debts that could arise between the franchisor and its franchisees. Model the process from invoicing to receipt of payment, treating the franchisee as an independent company. Include scenarios involving falling sales and late payments.

Then compare alternative safeguards in the following order:

• Bring forward invoicing and payment checks so that arrears are detected promptly.
• Set credit limits for goods supplied and monitor outstanding balances.
• Check for overlap with existing safeguards, such as security deposits.
• Consider what guarantees or security are needed for the remaining risk.

A guarantee does not ensure recovery. Guarantors have limits on their ability to pay, while security can present valuation and realisation difficulties. Rather than requiring a guarantee from everyone ‘just in case’, start by limiting your requirements to those whose necessity you can justify internally.

2. Understand Japan’s legal framework and personal continuing guarantees

Japan has neither a single, comprehensive law governing franchising as a whole nor a franchise-specific registration system that applies uniformly to all franchisors. That does not mean the sector is unregulated. The Civil Code governs contractual relationships, while the Antimonopoly Act applies to dealings between franchisors and franchisees.

Article 11 of the Small and Medium-sized Retail Business Promotion Act requires franchisors operating a ‘specified chain business’ under the Act to provide a written statement of prescribed matters and explain them before the agreement is signed. Whether a business falls within this category depends not merely on labels such as retail or food service, but on criteria including ongoing supplies of goods and management guidance, use of trade marks and collection of payments on joining. Guarantee terms should also form part of the pre-contract explanation, as they impose a significant burden relevant to the decision to join.

Under the Civil Code, a guarantee agreement generally has no effect unless made in writing; qualifying electronic records are also permitted. A ‘personal continuing guarantee’—under which an individual guarantees an unspecified set of future debts within a defined scope—is ineffective unless a maximum liability amount is specified. This requires particular attention where a guarantee is intended to cover ongoing royalties or payments for goods collectively.

The maximum amount caps the guarantor’s liability. State it clearly and check how it relates to the scope of liability, including not only principal but also interest, contractual penalties and damages. Guarantees given by companies are treated differently, so do not reuse the same form indiscriminately.

3. Decide who guarantees what, and to what extent

A representative of a franchisee company does not automatically give a personal guarantee simply by signing the agreement on the company’s behalf. Distinguish the parties to the franchise agreement from the parties to the guarantee agreement, and explicitly confirm the intention to guarantee and the applicable terms. Spouses and other relatives likewise do not become liable merely because they are family members.

Your schedule of guarantee terms should include at least the following:

• Guarantor: Is the guarantor an individual or a company, and what is their relationship to the franchisee?
• Debts covered: Which payment obligations under which agreements are included?
• Liability limit: What is the maximum amount for the personal continuing guarantee, and how was it calculated?
• Period covered: How will debts arising after renewal or the opening of additional outlets be treated?
• End conditions: At what point will new debts cease to be covered?

You must also distinguish an ordinary guarantee from a joint and several guarantee. A joint and several guarantor generally has no right to insist that the franchisor first demand payment from the franchisee or first enforce against the franchisee’s assets. Do not explain this distinction through terminology alone: use examples of how a payment demand would work.

For example, if a franchisee opens a second outlet, do not assume that the guarantee for the first automatically extends to the additional outlet. Check the agreements covered, the liability cap and the guarantor’s consent. If you require security over property, separately establish the owner, the ranking of the security, the costs of creating it and the procedure for its release.

4. Explain the terms to guarantors and ensure they receive the necessary information

Explaining the arrangement to a prospective franchisee does not complete your responsibilities towards the guarantor. Give the guarantor the draft guarantee agreement and schedule of terms, and allow them an opportunity to take these away, consider them and seek professional advice if needed. This is a practical procedure the franchisor should establish, not a reference to a universal statutory waiting period.

The Civil Code contains provisions requiring a principal debtor who asks an individual to guarantee business debts to provide that guarantor with information about assets, income and expenditure, other debts and their repayment status, and security being provided. Documents supplied by the franchisor do not automatically fulfil that obligation. Establish a process for checking whether the franchisee has provided the necessary information.

Guarantees of business loans may also require confirmation of the guarantor’s intention through a notarial deed, although exceptions apply. Do not confuse a guarantee of ordinary obligations under a franchise agreement with a guarantee of a loan made by the franchisor. Where lending is involved, obtain a separate legal review.

Keep a record of the versions of documents supplied, the date of the explanation, those present, and questions and answers. The aim should be more than simply obtaining a signature. Explaining what is not covered by the guarantee also helps prevent later misunderstandings.

5. Manage subsequent changes and the end of the guarantee

A guarantee agreement should not simply be filed away once signed. The franchisor needs a register recording the agreements covered, the guarantor, the liability cap, the signing date and the history of amendments. Assign responsibility for checking the effect on guarantees whenever the franchisee company changes its representative, adds an outlet, renews its agreement or transfers its business.

An existing personal guarantee does not necessarily end automatically when a company representative steps down. Equally, the new representative does not automatically become a guarantor. Deal separately with the release of the old guarantee, the creation of a new one and the treatment of debts already incurred.

When the franchise agreement ends, distinguish between excluding future debts from cover and extinguishing debts that have already arisen. Check outstanding amounts, claims yet to be finalised and any settlement against the security deposit. Document the conditions and procedures for releasing guarantees and cancelling registered security. Ensure that your accounting and contract administration teams can coordinate responses to statutory requests for information and similar matters.

Practical takeaway: Before recruiting franchisees, prepare a one-page schedule setting out the debts covered, why a guarantee is needed, the liability cap, how the terms will be explained and when the guarantee ends. Use it as the basis for reviewing your contracts with a professional adviser. A guarantee framework limited to what is genuinely necessary helps protect trust within your franchise community.