Disputes will always arise in the course of running a business, whether your best friend or sibling is your business partner. Business disputes occur because humans analyze and perceive things differently. A dispute can arise when transferring your interests to another party, risking your interests.
Did you know that an unresolved dispute can bring a thriving business to a grinding halt? Consequently, it’s important to involve an international franchise mediation service when transferring your rights to another party, whether through assignments or novation. But what do assignments and novations refer to in franchising? What’s the difference?
Assignment and Novation in Franchising
The difference between assignment and novation agreements is that the former (assignment agreement) allows a franchisee (assignor) to transfer their interests to another party (assignee) while the later (novation agreement) allows a franchisee to transfer their interests to a third party with the consent of the franchisor.
- Assignment Agreements
Assigning refers to the process of transferring the interest of a franchisee to another party. It should be noted that an assignment agreement can only transfer benefits– not obligations or liabilities of the seller. The assignor is answerable to the assignee and can be sued for breach of contract if they fail to fulfill their obligations under the contract. Indemnity clauses protect franchisors from arising or future liabilities and the terms of the original contract remain enforceable.
Assignment contracts do not require authorization from all the parties in an agreement. However, the assignor must notify the non-assigning party, depending on the terms of the contract. Also, a court ruling stated that a contract is assignable if the contract is silent on the subject except for personal service contracts that require consent. Evaluating the agreement early enough helps prevent future complications and disputes.
Personal service contracts are created for original parties based on their uniquely identifiable characteristics, such as skills, competencies, or confidence. Courts do not need to intervene to determine if your agreement is a personal service contract in this case. The transacting parties should carefully consider various factors, including the applicable terms, liabilities, and technical challenges of transferring interests through assignment and novation. Considerations should specifically focus on:
- The notification process and means, when required;
- Terms of future approvals;
- Enforcement and execution;
- Surrender of the old franchise agreement on novation; and
- Executing mutual releases.
- Novation
Novation agreements facilitate the transfer of the franchisee’s interests to a third party–but with the consent of the franchisor. A novate voids the initial contract and the exiting franchisee is freed from their benefits and obligations. In other words, the incoming franchisor inherits both the benefits and liabilities of the outgoing franchisee under novation agreements–unlike assignment agreements that only transfer the benefits of the outgoing franchisee.
Novation agreements must be approved by all the parties– the original parties and the joining party. Also, consideration must be given to facilitate novation, unless the contract allows novation to be executed without consideration. Consideration can be anything as long as it’s valuable to the recipient–it’s not limited to monetary consideration.
Novation typically occurs when the franchisor wants to replace the original franchisee in the contract. A replaced franchisee is released from their obligations under the original contract after novation is implemented. Novation can only be implemented if the asserting party can prove that:
- The new investor accepts the liabilities of the outgoing franchisee;
- The creditors accept the buyer to become the official debtor, guarantor, or an agent of the franchisor;
- The creditors under the original contract accept the new contract to replace the old one.
Novation can’t be implemented without a new agreement except on special occasions–subject to a court ruling.
Example of a Novation
Supposing A owes B $500 while B owes C $500. The debts or obligations can be simplified by implementing a novation. The three parties can agree that A should pay C–meaning B will receive and pay nothing.
Under Novations, payment terms can be revised provided all the parties involved agree. In the above example, C can decide to accept anything from A provided its value is equivalent to the owed amount. The transfer of property, in this case, constitutes novation and effectively voids the obligations of all parties.
Assignment vs. Novation–Which is better?
For Franchisees
An assignment is more convenient than novation for assignors because they do not require authorization or the approval of a third party when transferring their interests under an existing contract. The assignor should understand the likely consequences that can arise if the buyer fails to fulfill their obligations. On the other hand Novations free the outgoing franchisee from future obligations.
For Buyers
Buyers benefit more from Agreements than Novations, particularly if the seller had obligations and debts under the original contract.
Assignments and Novations are used to transfer the interests of a franchisee to a third party but in different ways–that’s why you should seek legal counsel before settling for an interest transfer option.