What are some of the key provisions of the franchise documents that every franchisee should know?
Every prospective franchisee should read through all 23 items of the franchise disclosure document (FDD), but pay particular attention to the following items:
Item 1 of the FDD discusses the background of the company, its parents and affiliates. It also is the area that discloses the competition and regulations in the industry.
Item 3 of the FDD discloses the material litigation in which the franchisor is involved. A prospective franchisee should be wary if there are many suits against the franchisor by the franchisees or many suits by the franchisor against its franchisees.
Items 5, 6 & 7 of the FDD are the financial disclosures that every prospective franchisee should read carefully, including the footnotes to each item. These items disclose the obligations of the franchisee for the upfront fees (Item 5), on-going fees (Item 6) and the likely costs the prospective franchisee can expect to open the business (Item 7 chart).
Item 20 of the FDD are charts that show how many corporate and franchised locations there are and the growth that the franchisor anticipates. The prospective franchisee should know this information to understand how many franchisees a franchisor intends to add in their state.
In addition, the prospective franchisee should have an experienced business/franchise accountant review the audited financial statements of the FDD in light of the system and growth that is reflected in Item 20 to ensure that the franchisor is financially strong enough to support the system and growth.
Lastly, and most importantly, a prospective franchisee should have the franchise agreement evaluated by an experienced franchisee attorney.
Even when the franchise agreement is not negotiable, this review is important so that a prospective franchisee can have a clear understanding of the obligations and expectations with the franchisor.
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Once a prospective franchisee has narrowed their target franchises the Franchise Disclosure Documents are front and center on their research and due diligence.