Buying a Franchise? Review the FDD

Many people do not consult a lawyer before buying a franchise and signing a Franchise Disclosure Document (“FDD”).  Prospective franchisees are frequently told by the franchisor that the FDD is not negotiable. Financial Disclosure Documents are in fact somewhat negotiable and a good franchise lawyer can revise the language and obtain some concessions. More importantly, an experienced franchise lawyer can “read between the lines” of the FDD, evaluate the franchise and assess what exactly the franchisee is buying.

Very few franchisors provide any representations about their financial performance.  When they do, they
disclose the average gross sales of their existing franchisees. The prospective franchisee is often left to ascertain what net income they can expect to earn with the franchise. Reviewing the FDD involves an extensive analysis of the financials, requesting a copy of the franchise manual, due diligence on existing buying a franchise franchisees and the franchise system itself.  One of the primary things I look at in the Franchise Disclosure Document (FDD) is the language regarding the ability to sell the franchise and exit strategies. Many people buying a franchise don’t realize that even if they fail, they still must pay the franchisor the average monthly fee through the end of the agreement (the franchisor still wants to capture the “benefit of the bargain”).

Prospective franchisees frequently only see the advantages of owning a franchise such as brand awareness among consumers, proven methods of operation, major advertising campaigns, and business support. These advantages come with a trade-off. Franchisees looking for the autonomy that usually comes from being their own boss may be disappointed. When operating a franchise, franchisees are making the agreement to follow strict guidelines set by the franchisor governing advertising, clientele, pricing and the hiring of suppliers. The franchisees have to pay a portion of their gross sales regardless whether or not they are turning a profit.

FRANCHISEES MUST VERIFY FRANCHISOR’S PROMISES ON THEIR OWN 

Some prospective franchisees don’t conduct extensive due diligence because they think that because an FDD is filed with the State Attorney General’s office that the Franchisor has been fully investigated and the State has verified all its representations. In fact, franchising is not heavily regulated at all. Only a few states conduct due diligence on franchisors. The federal FTC Rule does not have “teeth.” Injured, defrauded franchisees have little recourse. For misrepresentations in the FDD, franchisees cannot sue privately, only the FTC can pursue an “enforcement action” Due to budget constraints, this is a very rare occurrence.

Entrepreneurs who are considering buying a franchise should always consult an experienced franchise lawyer.