Legal

31 01, 2019

Special Considerations for Educational Franchisees

By |2019-01-31T21:40:01+00:00January 31st, 2019|

Children in school

Special Considerations for Educational Franchisees

By Jonathan Barber

Educational franchises are hot right now. Day-care centers, sports leagues, music, art, and tech concepts are taking over. You can walk through a strip mall in any suburban area and count the children-focused franchises. And there’s something else you’ll notice—they’re packed! Our firm has worked with many franchisees who bought into educational franchises, and I recently franchised a long-standing children’s art studio.  But if you are looking into an educational or child-focused franchise, then there’s a few unique points to keep in mind.

State Daycare Laws

I had never known about state day-care laws until I was drafting a franchise disclosure document for a new educational concept. In every state, there are laws that regulate daycares. Each of these laws defines “daycare” differently, too. Some states base the definition of daycare on the number of hours a child is present at the business. For instance, if a child spends at least three hours at the business, then that business is considered a daycare. Initially, this doesn’t sound too important, but the ramifications of being classified as a daycare are huge.  In every state, daycares are subject to heavy regulation. Typically, the Department of Social Services (“DSS”) or the Department of Human Services (“DHS”) regulate daycares. Immediately upon being classified as a daycare, the business will have to obtain a daycare license, which can be an expensive and grueling process. If anything at the business fails an examination, the business will be subject to heavy fines and, potentially, closure.

Safety

Safety is an obvious concern any time children are involved. You will use common sense to figure out if a particular franchise model is safe for children. However, there are some additional concerns you should keep in mind. For instance, is this business a drop-off model where children are dropped off for a class or session and then picked up by their parents or guardians afterward? Are the parents or guardians present while the children are there? You will want to make sure the franchise has solid systems and procedures for ensuring the children are safely dropped off and picked up. For example, if a mother brings her child to a class, you will want to know who, if not the mother, is authorized to take that child home. If the family is going through a domestic issue and an unauthorized person like an estranged parent picks up the child, you could face serious liability for letting the child go with someone unauthorized.

Competition

On a less scary note, consider the competition in the educational and children-focused franchise space. Are you going to drop a children’s art studio right between a children’s dance studio and a children’s swimming franchise? Essentially, your competition encompasses all extracurricular activities, not just art. Talk with the franchisor about which other children-focused franchises might compliment your own. In the adult-space, it makes sense to drop a juice bar next to a fitness franchise. Children’s concepts will have their own synergies, but you have to take the time to find them.nged parent picks up the child, you could face serious liability for letting the child go with someone unauthorized.

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

Children in school

Special Considerations for Educational Franchisees

By Jonathan Barber

Educational franchises are hot right now. Day-care centers, sports leagues, music, art, and tech concepts are taking over. You can walk through a strip mall in any suburban area and count the children-focused franchises. And there’s something else you’ll notice—they’re packed! Our firm has worked with many franchisees who bought into educational franchises, and I recently franchised a long-standing children’s art studio. But if you are looking into an educational or child-focused franchise, then there’s a few unique points to keep in mind.

State Daycare Laws

I had never known about state day-care laws until I was drafting a franchise disclosure document for a new educational concept. In every state, there are laws that regulate daycares. Each of these laws defines “daycare” differently, too. Some states base the definition of daycare on the number of hours a child is present at the business. For instance, if a child spends at least three hours at the business, then that business is considered a daycare. Initially, this doesn’t sound too important, but the ramifications of being classified as a daycare are huge. In every state, daycares are subject to heavy regulation. Typically, the Department of Social Services (“DSS”) or the Department of Human Services (“DHS”) regulate daycares. Immediately upon being classified as a daycare, the business will have to obtain a daycare license, which can be an expensive and grueling process. If anything at the business fails an examination, the business will be subject to heavy fines and, potentially, closure.

Safety

Safety is an obvious concern any time children are involved. You will use common sense to figure out if a particular franchise model is safe for children. However, there are some additional concerns you should keep in mind. For instance, is this business a drop-off model where children are dropped off for a class or session and then picked up by their parents or guardians afterward? Are the parents or guardians present while the children are there? You will want to make sure the franchise has solid systems and procedures for ensuring the children are safely dropped off and picked up. For example, if a mother brings her child to a class, you will want to know who, if not the mother, is authorized to take that child home. If the family is going through a domestic issue and an unauthorized person like an estranged parent picks up the child, you could face serious liability for letting the child go with someone unauthorized.

Competition

On a less scary note, consider the competition in the educational and children-focused franchise space. Are you going to drop a children’s art studio right between a children’s dance studio and a children’s swimming franchise? Essentially, your competition encompasses all extracurricular activities, not just art. Talk with the franchisor about which other children-focused franchises might compliment your own. In the adult-space, it makes sense to drop a juice bar next to a fitness franchise. Children’s concepts will have their own synergies, but you have to take the time to find them.nged parent picks up the child, you could face serious liability for letting the child go with someone unauthorized.

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

1 01, 2019

Part 6: Breaking Down the FDD

By |2019-01-01T02:29:34+00:00January 1st, 2019|

Man drawing graph

SPECIAL SECTION: PART 6

Breaking Down the FDD

Item 19: Financial Performance Representations

by Nicole Micklich

All prospective franchisees want to be sure they can make money if they buy a franchise. Items 19 and 21 of the franchise disclosure document (FDD) can help prospective franchisees assess the likelihood that they will reach financial success in a system.

Franchisors are permitted, but not required, to include financial performance representations in their FDDs. A financial performance representation is any oral, written, or visual representation to a prospective franchisee that states expressly or impliedly a level or range of actual or potential sales, income, or profits. This includes statements made in the media. Financial performance representations can take the form of charts or tables, or calculations of possible results.

Most often, a financial performance representation simply states a level or range of potential earnings. Such a representation might say, “During 2015 and 2016, 2,020 stores were in continual operation. These 2,020 stores had an average sales of $403,937 for the entire year 2016. A total of 848 stores had sales above this average, and 1,172 stores had sales lower than the average. The median sales for these 2,020 stores was $378,231.” Some financial performance representations use words like “sales volume,” “profit,” and “income.”

Statements from which a prospective franchisee can infer a level of income or profits are also financial performance representations. For example, “earn enough money to buy a new Lamborghini” qualifies as a financial performance representation. On the other hand, puffery is sometimes not a financial performance representation. If a franchisor tells a prospective franchisee that the franchise provides an opportunity to “make a lot of money,” the statement may be considered puffery, and not a financial performance representation. Providing cost data is also not the same as making a financial performance representation. Listing expenses in Item 7 alone does not constitute a financial performance representation.

WHAT’S REQUIRED

Franchisors are not required to make franchise performance representations. If a franchisor chooses to include financial performance representations, the franchisor must have a reasonable basis and written substantiation for the representation. The disclosure must include the bases and assumptions for the representation. Franchisors are prohibited from making representations that are false or unsubstantiated. If a franchisor does not make an Item 19 financial performance representation, the franchisor must not make any financial performance representations outside of the FDD, including in print and online.

Financial performance representations in Item 19 of the FDD can help potential franchisees understand whether a business can be profitable. Many franchisors include average gross sales for units and cost information in their FDDs. Prospective franchisees can also compare the Item 19 disclosures of different franchisors, because the methodology used to calculate the numbers in the disclosures should be consistent.

Item 21: Financial Statements

While franchisors have the option of providing financial performance representations, franchisors are required to include copies of their audited financial statements for the most recent three fiscal years in Item 21 of the FDD. This requirement exists so that prospective franchisees have enough information to analyze financial trends in the system.

Evaluating financial performance representations and financial statements can be daunting and confusing, so a prospective franchisee is wise to seek advice from a franchise lawyer and accountant.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Man drawing graph

SPECIAL SECTION: PART 6

Breaking Down the FDD

Item 19: Financial Performance Representations

by Nicole Micklich

All prospective franchisees want to be sure they can make money if they buy a franchise. Items 19 and 21 of the franchise disclosure document (FDD) can help prospective franchisees assess the likelihood that they will reach financial success in a system.

Franchisors are permitted, but not required, to include financial performance representations in their FDDs. A financial performance representation is any oral, written, or visual representation to a prospective franchisee that states expressly or impliedly a level or range of actual or potential sales, income, or profits. This includes statements made in the media. Financial performance representations can take the form of charts or tables, or calculations of possible results.

Most often, a financial performance representation simply states a level or range of potential earnings. Such a representation might say, “During 2015 and 2016, 2,020 stores were in continual operation. These 2,020 stores had an average sales of $403,937 for the entire year 2016. A total of 848 stores had sales above this average, and 1,172 stores had sales lower than the average. The median sales for these 2,020 stores was $378,231.” Some financial performance representations use words like “sales volume,” “profit,” and “income.”

Statements from which a prospective franchisee can infer a level of income or profits are also financial performance representations. For example, “earn enough money to buy a new Lamborghini” qualifies as a financial performance representation. On the other hand, puffery is sometimes not a financial performance representation. If a franchisor tells a prospective franchisee that the franchise provides an opportunity to “make a lot of money,” the statement may be considered puffery, and not a financial performance representation. Providing cost data is also not the same as making a financial performance representation. Listing expenses in Item 7 alone does not constitute a financial performance representation.

WHAT’S REQUIRED

Franchisors are not required to make franchise performance representations. If a franchisor chooses to include financial performance representations, the franchisor must have a reasonable basis and written substantiation for the representation. The disclosure must include the bases and assumptions for the representation. Franchisors are prohibited from making representations that are false or unsubstantiated. If a franchisor does not make an Item 19 financial performance representation, the franchisor must not make any financial performance representations outside of the FDD, including in print and online.

Financial performance representations in Item 19 of the FDD can help potential franchisees understand whether a business can be profitable. Many franchisors include average gross sales for units and cost information in their FDDs. Prospective franchisees can also compare the Item 19 disclosures of different franchisors, because the methodology used to calculate the numbers in the disclosures should be consistent.

Item 21: Financial Statements

While franchisors have the option of providing financial performance representations, franchisors are required to include copies of their audited financial statements for the most recent three fiscal years in Item 21 of the FDD. This requirement exists so that prospective franchisees have enough information to analyze financial trends in the system.

Evaluating financial performance representations and financial statements can be daunting and confusing, so a prospective franchisee is wise to seek advice from a franchise lawyer and accountant.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

1 01, 2019

Why do I Have to Sign a Receipt for an FDD?

By |2019-01-01T02:03:03+00:00January 1st, 2019|

Man Signing Document

Why do I Have to Sign a Receipt for an FDD?

By Jonathan Barber

If a franchisor sends you, a potential buyer, a 200-to-300 page document and asks you to sign a “receipt page,” don’t panic. You’re only helping the  franchisor to remain compliant with state and federal franchise laws. The receipt pages are not part of a contract, and you are not binding yourself to anything by signing them. They exist purely to show the date you were given or “disclosed” with the franchise disclosure document, commonly referred to as the “FDD.”

The Disclosure Rules

Why is that date so important? The Federal Trade Commission (FTC) requires franchisors to send each prospective franchisee a copy of its FDD, and the prospective franchisee cannot sign a franchise agreement or make payments to the franchisor until fourteen days after receiving the agreement. If a franchisee signs a franchise agreement or pays the franchisor prior to the 14 days he was disclosed with the FDD, the franchisor is in a world of trouble. Federal and state laws label this as an “unfair and deceptive trade practice,” which carries significant damages. Down the road, the franchisee could have serious claims against the franchisor, based solely on the timing of the disclosure.

There are certain exemptions to the 14-day disclosure rule. Primarily, the FTC exempts the transfer of a franchise by an existing franchisee, as long as the franchisor has not had “significant involvement” with the prospective franchisee. Therefore, technically, a franchisor doesn’t have to disclose you if you’re buying an existing location. However, if you will be required to sign the franchisor’s then-current form of franchise agreement as a condition of the resale, then you must be disclosed even though you’re buying an existing location. Similarly, if the franchisor directs you toward buying an existing location, he must disclose you with the FDD. At the end of the day, while there are certain exemptions, it’s best practice for franchisors to simply disclose every prospective franchisee whether that candidate is exploring a resale or a new franchise location. We represent about 65 franchisors, and we recommend this to all of them.

What to do if you’re not disclosed

If you’re in the process of buying into a franchise, and the franchisor has not provided the FDD, you should reach out immediately and ask for a copy. Most franchisors are fairly sophisticated and understand the basics of franchising enough to follow the disclosure rules. If you have already bought into a franchise and were never disclosed with the FDD, you should talk to an attorney to determine your options. If you have a great relationship with your franchisor, bring it up with them. However, if you weren’t disclosed, you are probably facing other issues with your franchised business. Franchisors are required to follow the federal and state franchise laws, which exist to protect the consumer—you!

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

Man Signing Document

Why do I Have to Sign a Receipt for an FDD?

By Jonathan Barber

If a franchisor sends you, a potential buyer, a 200-to-300 page document and asks you to sign a “receipt page,” don’t panic. You’re only helping the franchisor to remain compliant with state and federal franchise laws. The receipt pages are not part of a contract, and you are not binding yourself to anything by signing them. They exist purely to show the date you were given or “disclosed” with the franchise disclosure document, commonly referred to as the “FDD.”

The Disclosure Rules

Why is that date so important? The Federal Trade Commission (FTC) requires franchisors to send each prospective franchisee a copy of its FDD, and the prospective franchisee cannot sign a franchise agreement or make payments to the franchisor until fourteen days after receiving the agreement. If a franchisee signs a franchise agreement or pays the franchisor prior to the 14 days he was disclosed with the FDD, the franchisor is in a world of trouble. Federal and state laws label this as an “unfair and deceptive trade practice,” which carries significant damages. Down the road, the franchisee could have serious claims against the franchisor, based solely on the timing of the disclosure.

There are certain exemptions to the 14-day disclosure rule. Primarily, the FTC exempts the transfer of a franchise by an existing franchisee, as long as the franchisor has not had “significant involvement” with the prospective franchisee. Therefore, technically, a franchisor doesn’t have to disclose you if you’re buying an existing location. However, if you will be required to sign the franchisor’s then-current form of franchise agreement as a condition of the resale, then you must be disclosed even though you’re buying an existing location. Similarly, if the franchisor directs you toward buying an existing location, he must disclose you with the FDD. At the end of the day, while there are certain exemptions, it’s best practice for franchisors to simply disclose every prospective franchisee whether that candidate is exploring a resale or a new franchise location. We represent about 65 franchisors, and we recommend this to all of them.

What to do if you’re not disclosed

If you’re in the process of buying into a franchise, and the franchisor has not provided the FDD, you should reach out immediately and ask for a copy. Most franchisors are fairly sophisticated and understand the basics of franchising enough to follow the disclosure rules. If you have already bought into a franchise and were never disclosed with the FDD, you should talk to an attorney to determine your options. If you have a great relationship with your franchisor, bring it up with them. However, if you weren’t disclosed, you are probably facing other issues with your franchised business. Franchisors are required to follow the federal and state franchise laws, which exist to protect the consumer—you!

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

1 12, 2018

Part 5: Breaking Down the FDD

By |2018-12-01T16:58:21+00:00December 1st, 2018|

Business owners

SPECIAL SECTION: PART 5

Breaking Down the FDD

Items 12 & 20: Territories and Units

by Nicole Micklich

Before you purchase a franchise, you should understand how much and what type of competition you might face from your franchisor and from other franchisees. The FDD provides information to help you investigate. You can find this information in Items 12 and 20 of the FDD.

Item 12: Territory

Under Item 12 of the FDD, the franchisor must disclose whether the franchisee is given an exclusive territory. An exclusive territory is a geographic area granted to a franchisee, within which the franchisor promises not to open itself or allow another franchisee to open a unit selling the same or similar goods or services.

If the franchisor is not offering the franchisee an exclusive territory, then Item 12 must issue the following warning: “You will not receive an exclusive territory. You may face competition from other franchisees, from outlets we own, or from other channels of distribution or competitive brands that we control.”

A franchisor that does not establish company-owned or franchised units within the franchisee’s territory does not have to include that warning, even if it reserves the right to make sales in the franchisee’s territory through alternate channels of distribution, like the Internet, or through competitive brands that it owns or controls. So whether or not the franchisor grants exclusive territories, the franchisor must provide detailed information about the territories it assigns and sales restrictions within the territories. That means that no matter what, Item 12 must disclose the franchisor’s rights to sell within the franchisee’s territory.

Item 12 should disclose:

  • Whether the franchisor can solicit or accept orders from customers within the franchisee’s territory
  • Whether the franchisor reserves the right to use alternate channels of distribution within the franchisee’s territory, like the Internet, telemarketing, or a catalog
  • Whether the franchisor will pay the franchisee for soliciting or accepting orders within the franchisee’s territory
  • Whether the franchisee is prohibited or restricted from soliciting or accepting orders from outside his or her territory, including whether the franchisee has the right to use alternate channels, like the Internet, telemarketing, or a catalog
  • Plans the franchisor has to operate a competing franchise system offering goods or services similar to those offered in the system described by the FDD

Item 20: Outlets and Franchisee Information

Item 20 tells you about the ownership of other units. This item must include five tables that are supposed to capture changes in the ownership of units. The first table is a summary of the units in the system and shows the net changes in the total number of outlets, franchisor- and franchisee-owned, over the preceding three-year period. You should understand whether the total number of units in the system is increasing or decreasing and at what rate. And then, you need to figure out why and what that means for your chances of success.

Check in with current and former franchisees. If you buy a franchise, your contact information may be disclosed to other buyers when you leave the franchise system. Item 20 of the FDD should include a list with the contact information of all current franchisees in the system—or, if there are 100 or more franchisees in the state, the current franchisees where the prospect will do business. Item 20 also must disclose limited contact information for every former franchisee who was terminated, not renewed, or otherwise stopped doing business as a franchisee, during the most recent fiscal year. You should not hesitate to contact franchisees and ask questions as part of your analysis.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Business owners

SPECIAL SECTION: PART 5

Breaking Down the FDD

Items 12 & 20: Territories and Units

by Nicole Micklich

Before you purchase a franchise, you should understand how much and what type of competition you might face from your franchisor and from other franchisees. The FDD provides information to help you investigate. You can find this information in Items 12 and 20 of the FDD.

Item 12: Territory

Under Item 12 of the FDD, the franchisor must disclose whether the franchisee is given an exclusive territory. An exclusive territory is a geographic area granted to a franchisee, within which the franchisor promises not to open itself or allow another franchisee to open a unit selling the same or similar goods or services.

If the franchisor is not offering the franchisee an exclusive territory, then Item 12 must issue the following warning: “You will not receive an exclusive territory. You may face competition from other franchisees, from outlets we own, or from other channels of distribution or competitive brands that we control.”

A franchisor that does not establish company-owned or franchised units within the franchisee’s territory does not have to include that warning, even if it reserves the right to make sales in the franchisee’s territory through alternate channels of distribution, like the Internet, or through competitive brands that it owns or controls. So whether or not the franchisor grants exclusive territories, the franchisor must provide detailed information about the territories it assigns and sales restrictions within the territories. That means that no matter what, Item 12 must disclose the franchisor’s rights to sell within the franchisee’s territory.

Item 12 should disclose:

  • Whether the franchisor can solicit or accept orders from customers within the franchisee’s territory
  • Whether the franchisor reserves the right to use alternate channels of distribution within the franchisee’s territory, like the Internet, telemarketing, or a catalog
  • Whether the franchisor will pay the franchisee for soliciting or accepting orders within the franchisee’s territory
  • Whether the franchisee is prohibited or restricted from soliciting or accepting orders from outside his or her territory, including whether the franchisee has the right to use alternate channels, like the Internet, telemarketing, or a catalog
  • Plans the franchisor has to operate a competing franchise system offering goods or services similar to those offered in the system described by the FDD

Item 20: Outlets and Franchisee Information

Item 20 tells you about the ownership of other units. This item must include five tables that are supposed to capture changes in the ownership of units. The first table is a summary of the units in the system and shows the net changes in the total number of outlets, franchisor- and franchisee-owned, over the preceding three-year period. You should understand whether the total number of units in the system is increasing or decreasing and at what rate. And then, you need to figure out why and what that means for your chances of success.

Check in with current and former franchisees. If you buy a franchise, your contact information may be disclosed to other buyers when you leave the franchise system. Item 20 of the FDD should include a list with the contact information of all current franchisees in the system—or, if there are 100 or more franchisees in the state, the current franchisees where the prospect will do business. Item 20 also must disclose limited contact information for every former franchisee who was terminated, not renewed, or otherwise stopped doing business as a franchisee, during the most recent fiscal year. You should not hesitate to contact franchisees and ask questions as part of your analysis.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

1 12, 2018

How Game-Changer Franchises Handle Legal Issues

By |2018-12-01T16:33:03+00:00December 1st, 2018|

Casual business meeting

How Game-Changer Franchises Handle Legal Issues

By Jonathan Barber

Game-changer franchises are filling niches, raising the bar on service, helping communities, building cult followings, creating opportunities for others, and generally turning heads everywhere. Aside from growing their franchises, game changers are truly interested in their franchisees’ well-being, and so they’re also rethinking how they view—and handle—legal issues.

Instead of dropping the hammer and collecting, game-changer franchisors are electing to help franchisees get past hurdles. Here, we’ll show you a few ways franchisors are changing the game and looking out for their franchisees on the legal front. Incidentally, this strategy is great for business because when the system works together, the brand takes off.

The Franchisee-Friendly Franchise Disclosure Document

We all know that the franchise disclosure document (FDD) is flat-out hard to read. Even though the federal franchise rules require FDDs to be “written in plain English,” lawyers just have a field day typing up run-on sentences chock full of four-syllable words. At the end of the drafting process, the franchisor has a 200-to-300-page document that they don’t fully understand.

Fortunately, there is a growing movement, particularly among younger, more entrepreneurial franchisors, to keep FDDs short, sweet, and to the point. My firm has recently drafted a few that, including the franchise agreement and all exhibits and addendum, come in at (or under) 100 pages. While the FDD and franchise agreement are at the heart of the franchisor/franchisee relationship, there is so much more that goes into running a successful franchise. The FDD shouldn’t be something that scares away prospective franchisees. In fact, it’s the franchisor’s biggest sales piece, and it should be drafted and treated like that.

Handling Franchisee Problems

A “default” occurs when a franchisee breaches the terms of his franchise agreement. Traditionally, when a franchisor caught wind of a franchisee doing something wrong, the franchisor would send a Notice of Default and then, if warranted, terminate that franchisee’s franchise agreement. Now, however, there is a growing trend among newer, younger franchises, in which the franchisor is more willing to work with franchisees to fix things.

A great example of this is when a franchisee gives a franchisor notice that the franchisee will not be able to meet its financial obligations for one reason or another. The franchisee may have cash-flow issues, staffing problems, or even personal things going on that could lead to this problem.

At this point, a franchisor has two options. On one hand, the franchisor could put the franchisee in default and proceed with terminating their franchise agreement once the opportunity arises. Then the franchisor could legally go after the franchisee for past due royalties, liquidated damages, attorney’s fees, and other expenses through the franchisee’s personal guaranty. That could be devastating to an individual franchisee and his family. Nevertheless, this has happened many, many times in just about every franchise system out there.

On the other hand, the franchisor also has the option to work with the franchisee. The franchisor could waive, reduce, or defer royalties for a few months. He may even send some support staff to help the franchisee operate the business more efficiently. The franchisor could even facilitate the sale of the business to another franchisee or someone outside of the system. In certain cases, the franchisor may even opt to buy the business and take it on as a corporate or affiliate location. These options show that the franchisor puts the health of the overall franchise system and its individual franchisees above its own interests.

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

Casual business meeting

How Game-Changer Franchises Handle Legal Issues

By Jonathan Barber

Game-changer franchises are filling niches, raising the bar on service, helping communities, building cult followings, creating opportunities for others, and generally turning heads everywhere. Aside from growing their franchises, game changers are truly interested in their franchisees’ well-being, and so they’re also rethinking how they view—and handle—legal issues.

Instead of dropping the hammer and collecting, game-changer franchisors are electing to help franchisees get past hurdles. Here, we’ll show you a few ways franchisors are changing the game and looking out for their franchisees on the legal front. Incidentally, this strategy is great for business because when the system works together, the brand takes off.

The Franchisee-Friendly Franchise Disclosure Document

We all know that the franchise disclosure document (FDD) is flat-out hard to read. Even though the federal franchise rules require FDDs to be “written in plain English,” lawyers just have a field day typing up run-on sentences chock full of four-syllable words. At the end of the drafting process, the franchisor has a 200-to-300-page document that they don’t fully understand.

Fortunately, there is a growing movement, particularly among younger, more entrepreneurial franchisors, to keep FDDs short, sweet, and to the point. My firm has recently drafted a few that, including the franchise agreement and all exhibits and addendum, come in at (or under) 100 pages. While the FDD and franchise agreement are at the heart of the franchisor/franchisee relationship, there is so much more that goes into running a successful franchise. The FDD shouldn’t be something that scares away prospective franchisees. In fact, it’s the franchisor’s biggest sales piece, and it should be drafted and treated like that.

Handling Franchisee Problems

A “default” occurs when a franchisee breaches the terms of his franchise agreement. Traditionally, when a franchisor caught wind of a franchisee doing something wrong, the franchisor would send a Notice of Default and then, if warranted, terminate that franchisee’s franchise agreement. Now, however, there is a growing trend among newer, younger franchises, in which the franchisor is more willing to work with franchisees to fix things.

A great example of this is when a franchisee gives a franchisor notice that the franchisee will not be able to meet its financial obligations for one reason or another. The franchisee may have cash-flow issues, staffing problems, or even personal things going on that could lead to this problem.

At this point, a franchisor has two options. On one hand, the franchisor could put the franchisee in default and proceed with terminating their franchise agreement once the opportunity arises. Then the franchisor could legally go after the franchisee for past due royalties, liquidated damages, attorney’s fees, and other expenses through the franchisee’s personal guaranty. That could be devastating to an individual franchisee and his family. Nevertheless, this has happened many, many times in just about every franchise system out there.

On the other hand, the franchisor also has the option to work with the franchisee. The franchisor could waive, reduce, or defer royalties for a few months. He may even send some support staff to help the franchisee operate the business more efficiently. The franchisor could even facilitate the sale of the business to another franchisee or someone outside of the system. In certain cases, the franchisor may even opt to buy the business and take it on as a corporate or affiliate location. These options show that the franchisor puts the health of the overall franchise system and its individual franchisees above its own interests.

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of clients world-wide with their FDDs and franchise purchases. Barber also represents emerging and established franchisors. Contact Barber at 980-202-5679 or JBarber@barberpowerlaw.com. Visit www.barberpowerlaw.com.

31 10, 2018

Part 4: Breaking Down the FDD

By |2018-10-31T23:45:30+00:00October 31st, 2018|

Smiling man with tablet

SPECIAL SECTION: PART 4

Breaking Down the FDD

Items 11: Franchisor’s Assistance, Advertising, Computer Systems, and Training

by Nicole Micklich

Item 11 is intended to provide an understanding of the franchisor’s obligations to his franchisees. For every one of the franchisor’s obligations disclosed in Item 11, the franchisor must include a citation to the specific section of the franchise agreement where the franchisor agrees to the obligation. Item 11 can be lengthy and complicated. This piece breaks down the topics Item 11 must cover: preopening assistance, post-opening assistance, optional assistance, advertising, computer requirements, and operating manuals.

One thing to keep in mind is that the franchisor is only bound by obligations set forth in Item 11—so if a potential obligation isn’t mentioned in Item 11, the franchisor doesn’t have to act on it. In fact, the FTC requires franchisors to begin their Item 11 disclosure with the following statement, in bold print: “Except as listed below, [franchisor] is not required to provide you with any assistance.”

Pre-Opening Assistance

Pre-opening assistance might include site location assistance, site requirements, and lease negotiation. In some systems, pre-opening assistance includes initial training

Post-Opening Assistance

Training: Franchisors are required to disclose information about their training programs including information about the staff who provide the training. Some training disclosures must be summarized in a table that must include:

  • a list of the subject matter of the training
  • the hours of classroom training on each subject
  • the hours of on-the-job training
  • the location of the training

In addition to the table, franchisors must also disclose who is required to attend training, for example, whether a franchisee’s store manager must undergo certain training, as well as who pays for travel and living expenses during training, and whether refresher training is required.

Advertising: The franchisor is required to disclose information regarding advertising assistance including:

  • whether the franchisor is required to conduct advertising
  • the media used for advertising, such as radio, television, Internet
  • the source of the advertising
  • the geographic scope of the advertising
  • whether or not franchisees must contribute to an advertising fund
  • whether and how much franchisees are required to spend on local advertising
  • whether and how advertising councils or co-ops operate in the franchise system

Advertising Funds: If franchisees are required to contribute to an advertising fund, the FTC rule requires franchisors to disclose:

  • who contributes to the fund
  • whether other franchisees and franchisor-owned units contribute on the same basis
  • who administers the fund
  • whether the fund is audited
  • whether the financial statements of the fund are available for review
  • whether the franchisees receive periodic accountings of fund expenditures
  • the percentage of the fund used primarily to solicit new franchise sales

Optional Assistance

If a franchisor provides pre- or post-opening assistance other than what the franchise agreement requires, it can disclose that optional assistance in Item 11. The franchisor should list the optional assistance separately and clearly identify that it is not required by the franchise agreement.

Computer Requirements

In Item 11, franchisors are also required to generally describe computer requirements for franchisees. These might include the franchisor’s requirement that franchisees purchase specific software, from specific approved suppliers. The disclosure should also explain whether the franchisor will have independent access to the franchisee’s computer system or electronic cash register and whether the franchisor has the right to conduct audits of accounting records maintained electronically.

Operating Manual

Franchisees will receive a system’s operating manual after the purchase is complete. Here, Item 11 requires that franchisors disclose the manual’s table of contents, unless the franchisor offers prospective franchisees the opportunity to review the operating manual prior to buying the franchise.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Smiling man with tablet

SPECIAL SECTION: PART 4

Breaking Down the FDD

Items 11: Franchisor’s Assistance, Advertising, Computer Systems, and Training

by Nicole Micklich

Item 11 is intended to provide an understanding of the franchisor’s obligations to his franchisees. For every one of the franchisor’s obligations disclosed in Item 11, the franchisor must include a citation to the specific section of the franchise agreement where the franchisor agrees to the obligation. Item 11 can be lengthy and complicated. This piece breaks down the topics Item 11 must cover: preopening assistance, post-opening assistance, optional assistance, advertising, computer requirements, and operating manuals.

One thing to keep in mind is that the franchisor is only bound by obligations set forth in Item 11—so if a potential obligation isn’t mentioned in Item 11, the franchisor doesn’t have to act on it. In fact, the FTC requires franchisors to begin their Item 11 disclosure with the following statement, in bold print: “Except as listed below, [franchisor] is not required to provide you with any assistance.”

Pre-Opening Assistance

Pre-opening assistance might include site location assistance, site requirements, and lease negotiation. In some systems, pre-opening assistance includes initial training

Post-Opening Assistance

Training: Franchisors are required to disclose information about their training programs including information about the staff who provide the training. Some training disclosures must be summarized in a table that must include:

  • a list of the subject matter of the training
  • the hours of classroom training on each subject
  • the hours of on-the-job training
  • the location of the training

In addition to the table, franchisors must also disclose who is required to attend training, for example, whether a franchisee’s store manager must undergo certain training, as well as who pays for travel and living expenses during training, and whether refresher training is required.

Advertising: The franchisor is required to disclose information regarding advertising assistance including:

  • whether the franchisor is required to conduct advertising
  • the media used for advertising, such as radio, television, Internet
  • the source of the advertising
  • the geographic scope of the advertising
  • whether or not franchisees must contribute to an advertising fund
  • whether and how much franchisees are required to spend on local advertising
  • whether and how advertising councils or co-ops operate in the franchise system

Advertising Funds: If franchisees are required to contribute to an advertising fund, the FTC rule requires franchisors to disclose:

  • who contributes to the fund
  • whether other franchisees and franchisor-owned units contribute on the same basis
  • who administers the fund
  • whether the fund is audited
  • whether the financial statements of the fund are available for review
  • whether the franchisees receive periodic accountings of fund expenditures
  • the percentage of the fund used primarily to solicit new franchise sales

Optional Assistance

If a franchisor provides pre- or post-opening assistance other than what the franchise agreement requires, it can disclose that optional assistance in Item 11. The franchisor should list the optional assistance separately and clearly identify that it is not required by the franchise agreement.

Computer Requirements

In Item 11, franchisors are also required to generally describe computer requirements for franchisees. These might include the franchisor’s requirement that franchisees purchase specific software, from specific approved suppliers. The disclosure should also explain whether the franchisor will have independent access to the franchisee’s computer system or electronic cash register and whether the franchisor has the right to conduct audits of accounting records maintained electronically.

Operating Manual

Franchisees will receive a system’s operating manual after the purchase is complete. Here, Item 11 requires that franchisors disclose the manual’s table of contents, unless the franchisor offers prospective franchisees the opportunity to review the operating manual prior to buying the franchise.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

31 10, 2018

Tips for Buying a Franchise Resale

By |2018-10-31T23:01:45+00:00October 31st, 2018|

Business Handshake

Tips for buying a franchise resale

By Jason Power

Purchasing an existing franchised business, instead of starting one from the ground up, can be a great way to walk into an existing income stream and avoid the high costs of build-outs and training. But purchasing an existing franchise requires a slightly different analysis than purchasing a new one, and there are specific points that need to be addressed. Here are a few key considerations:

Read the franchise disclosure document (FDD) and franchise agreement.

When you buy a franchise resale, you will be required to sign a franchise agreement. You will be as obligated to your franchise agreement, just as the previous owner was to his. Take the time to read and understand your rights, duties, and obligations as a franchisee, because you will be subject to these terms for the next 10 (or more) years.

Review the asset purchase agreement.

When you and the seller agree on the terms of the sale, the seller’s attorney will draft an asset purchase agreement. This agreement —sometimes simply called a buy-sell agreement—spells out the terms of the sale: when the purchase price is due, the closing date, what assets are included and excluded from the sale, and what liabilities you are assuming, like debts of the seller. Review your asset purchase agreement with an attorney to ensure you are properly protected.

Make sure the franchisor approves of the transfer.

Every franchise agreement gives the franchisor the authority to approve of a transfer and of you as the buyer. If the franchisor does not consent to the transfer—or to you as the new owner—then the entire transaction could be dead in the water.

Have a valuation of the business performed.

When you purchase any business, you should know and understand the actual value of the business. Many times this is different than the asking price and can provide room for negotiations. Value can include a variety of things such as the business goodwill, the current inventory, and equipment, etc. The best way to determine the value of a business is to hire a company that focuses on business valuation services.

Obtain and review financial statements.

Purchasing a business that is not profitable is not a smart move. Request that the seller provide financial statements from the last three years (at least) and review them with your accountant to determine profitability and trends. You should also ask the franchisor to provide you with financial information about the seller’s business to make sure the information matches up.

Determine why the existing owner is selling.

People sell their franchises for many reasons. Maybe an owner is ready to retire, or maybe he’s dealing with personal issues that require him to step away from the business. Determine if the seller is selling for personal reasons or if he is jumping ship on a sinking business. Also, study the industry to make sure that it’s sustainable.

Talk to other franchisees and the franchisor about the seller.

Learn about the seller, his reputation, and the business’s reputation in the system, too. If you are buying into a business with a bad reputation, you may have an uphill battle ahead of you.

Paying the transfer fee.

Most franchisors require a transfer fee to cover their costs in evaluating the transfer and the buyer. Either you or the seller must make sure this fee is paid. This transfer fee can be a flat rate or a percentage of the franchise fee. Before you finalize your purchase agreement, make sure you’ve accounted for the transfer fee.

Analyze the franchisor.

Once you purchase the franchise, you will become a franchisee and subject to rules and responsibilities imposed by the franchisor. Just like if you were buying a new franchise, conduct your own investigation of the franchisor to determine whether she has systems and procedures in place to support the system as a whole. There are franchisors that do not have the infrastructure, systems, procedures, or vendors in place to support the system, which hurts franchisees.

Will the staff stay?

If the business you are purchasing has staff or a management team, determine early on if they will stay with the business or if they plan to leave with the seller. Also, if the franchise was run by the seller with little or no staff, as is often the case with a small home-based business, request that the seller agree to be a consultant for a set period of time to introduce you to customers, referral sources, and vendors.

Have a franchise attorney review the agreements.

Purchasing a franchise, even an existing one, involves various areas of law that many attorneys who are not familiar with franchise law may miss or deem absurd. Have a franchise attorney review all the franchise agreements and purchase agreements before you sign.

Jason Power exclusively practices franchise law as a partner at Barber Power Law Group in Charlotte, North Carolina. He has assisted hundreds of franchisees with their FDDs and buying into franchises all over the country. Power also represents emerging and established franchisors. Contact Power at jpower@barberpowerlaw.com or by calling 980-202-5679. Visit www.barberpowerlaw.com.

Business Handshake

Tips for buying a franchise resale

By Jason Power

Purchasing an existing franchised business, instead of starting one from the ground up, can be a great way to walk into an existing income stream and avoid the high costs of build-outs and training. But purchasing an existing franchise requires a slightly different analysis than purchasing a new one, and there are specific points that need to be addressed. Here are a few key considerations:

Read the franchise disclosure document (FDD) and franchise agreement.

When you buy a franchise resale, you will be required to sign a franchise agreement. You will be as obligated to your franchise agreement, just as the previous owner was to his. Take the time to read and understand your rights, duties, and obligations as a franchisee, because you will be subject to these terms for the next 10 (or more) years.

Review the asset purchase agreement.

When you and the seller agree on the terms of the sale, the seller’s attorney will draft an asset purchase agreement. This agreement —sometimes simply called a buy-sell agreement—spells out the terms of the sale: when the purchase price is due, the closing date, what assets are included and excluded from the sale, and what liabilities you are assuming, like debts of the seller. Review your asset purchase agreement with an attorney to ensure you are properly protected.

Make sure the franchisor approves of the transfer.

Every franchise agreement gives the franchisor the authority to approve of a transfer and of you as the buyer. If the franchisor does not consent to the transfer—or to you as the new owner—then the entire transaction could be dead in the water.

Have a valuation of the business performed.

When you purchase any business, you should know and understand the actual value of the business. Many times this is different than the asking price and can provide room for negotiations. Value can include a variety of things such as the business goodwill, the current inventory, and equipment, etc. The best way to determine the value of a business is to hire a company that focuses on business valuation services.

Obtain and review financial statements.

Purchasing a business that is not profitable is not a smart move. Request that the seller provide financial statements from the last three years (at least) and review them with your accountant to determine profitability and trends. You should also ask the franchisor to provide you with financial information about the seller’s business to make sure the information matches up.

Determine why the existing owner is selling.

People sell their franchises for many reasons. Maybe an owner is ready to retire, or maybe he’s dealing with personal issues that require him to step away from the business. Determine if the seller is selling for personal reasons or if he is jumping ship on a sinking business. Also, study the industry to make sure that it’s sustainable.

Talk to other franchisees and the franchisor about the seller.

Learn about the seller, his reputation, and the business’s reputation in the system, too. If you are buying into a business with a bad reputation, you may have an uphill battle ahead of you.

Paying the transfer fee.

Most franchisors require a transfer fee to cover their costs in evaluating the transfer and the buyer. Either you or the seller must make sure this fee is paid. This transfer fee can be a flat rate or a percentage of the franchise fee. Before you finalize your purchase agreement, make sure you’ve accounted for the transfer fee.

Analyze the franchisor.

Once you purchase the franchise, you will become a franchisee and subject to rules and responsibilities imposed by the franchisor. Just like if you were buying a new franchise, conduct your own investigation of the franchisor to determine whether she has systems and procedures in place to support the system as a whole. There are franchisors that do not have the infrastructure, systems, procedures, or vendors in place to support the system, which hurts franchisees.

Will the staff stay?

If the business you are purchasing has staff or a management team, determine early on if they will stay with the business or if they plan to leave with the seller. Also, if the franchise was run by the seller with little or no staff, as is often the case with a small home-based business, request that the seller agree to be a consultant for a set period of time to introduce you to customers, referral sources, and vendors.

Have a franchise attorney review the agreements.

Purchasing a franchise, even an existing one, involves various areas of law that many attorneys who are not familiar with franchise law may miss or deem absurd. Have a franchise attorney review all the franchise agreements and purchase agreements before you sign.

Jason Power exclusively practices franchise law as a partner at Barber Power Law Group in Charlotte, North Carolina. He has assisted hundreds of franchisees with their FDDs and buying into franchises all over the country. Power also represents emerging and established franchisors. Contact Power at jpower@barberpowerlaw.com or by calling 980-202-5679. Visit www.barberpowerlaw.com.

29 09, 2018

Why do I have to sign a Personal Guaranty?!

By |2018-09-29T20:01:10+00:00September 29th, 2018|

Signing a guaranty

Why do I have to sign a Personal Guaranty?!

By Jonathan Barber

When you consider buying into a franchise, you receive hundreds of pages of disclosures and contracts. Most likely, there is a personal guaranty somewhere in that huge PDF. It’s important to understand what a personal guaranty is and why most franchisors require that you sign one.

A personal guaranty is a promise to pay the debt or fulfill the obligation of another if that person or entity fails to do so. In franchise deals, almost every franchisee signs a franchise agreement as an entity. John Doe creates John Doe, LLC and signs the franchise agreement on behalf of John Doe, LLC instead of in his individual capacity. However, the franchisor requires John Doe to sign a personal guaranty. By signing this, John Doe is saying that he will pay any debts or fulfill any  obligations that John Doe, LLC fails to pay or perform. Yes, this grants the franchisor access to John Doe’s personal assets in the event his franchise venture goes south. This concept is scary to most franchisees, but it’s important to think about this from the other side of the deal.

If a franchisor didn’t require a franchisee to sign a personal guaranty, that franchisee could virtually do whatever he wants and exit the system upon a whim. Imagine that John Doe, above, buys into and opens up a childcare franchise. Let’s say that the franchisor didn’t require him to sign a personal guaranty.

Everything’s going great in Year Three of John Doe’s term, but he thinks he could make a ton of money selling craft beer in his community. He decides to start  brewing beer in one of his classrooms and opens up a pub on the back patio of the daycare. John Doe quickly gets a notice of default from the franchisor, because that’s a breach of several portions of his franchise agreement. John Doe transfers all of the assets out of his LLC and sends the franchisor a notice of termination, and continues operating his daycare-brewery.

Now, the franchisor can get a judgment against John Doe, LLC that it can’t execute because John Doe, LLC has no assets! The franchisor can’t go after John Doe individually because he never signed a personal guaranty. Now, the franchisor is stuck with a damaged brand, a terminated franchisee, a host of administrative and legal fees, and probably the cost involved with getting a new franchisee in that territory.

If John Doe had signed a personal guaranty, his feet would be held to the fire. He would then be personally responsible for making sure that he, through John Doe, LLC does not breach the terms of their franchise agreement. It’s amazing how compliant someone can be when his personal assets are at stake

The bottom line: A personal guaranty is a tool for ensuring franchisees have skin in the game. Requiring a personal guaranty to be signed by individual owner of a franchisee entity and his spouse is the industry norm. In the 300+ FDDs I’ve reviewed for prospective franchisees, I’ve never not seen a personal guaranty in a
franchise deal. While it’s something every prospective franchisee needs to consider in his risk analysis, it should not be a surprise or a deal breaker.

And by the way, if anyone wants to start a daycare-brewery franchise, call me!

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of franchisees with their FDDs and buying into franchises all over the world. Barber also represents emerging and established franchisors. Contact Barber at
JBarber@barberpowerlaw.com or by calling 980-202-5679.

Signing a guaranty

Why do I have to sign a Personal Guaranty?!

By Jonathan Barber

When you consider buying into a franchise, you receive hundreds of pages of disclosures and contracts. Most likely, there is a personal guaranty somewhere in that huge PDF. It’s important to understand what a personal guaranty is and why most franchisors require that you sign one.

A personal guaranty is a promise to pay the debt or fulfill the obligation of another if that person or entity fails to do so. In franchise deals, almost every franchisee signs a franchise agreement as an entity. John Doe creates John Doe, LLC and signs the franchise agreement on behalf of John Doe, LLC instead of in his individual capacity. However, the franchisor requires John Doe to sign a personal guaranty. By signing this, John Doe is saying that he will pay any debts or fulfill any obligations that John Doe, LLC fails to pay or perform. Yes, this grants the franchisor access to John Doe’s personal assets in the event his franchise venture goes south. This concept is scary to most franchisees, but it’s important to think about this from the other side of the deal.

If a franchisor didn’t require a franchisee to sign a personal guaranty, that franchisee could virtually do whatever he wants and exit the system upon a whim. Imagine that John Doe, above, buys into and opens up a childcare franchise. Let’s say that the franchisor didn’t require him to sign a personal guaranty.

Everything’s going great in Year Three of John Doe’s term, but he thinks he could make a ton of money selling craft beer in his community. He decides to start brewing beer in one of his classrooms and opens up a pub on the back patio of the daycare. John Doe quickly gets a notice of default from the franchisor, because that’s a breach of several portions of his franchise agreement. John Doe transfers all of the assets out of his LLC and sends the franchisor a notice of termination, and continues operating his daycare-brewery.

Now, the franchisor can get a judgment against John Doe, LLC that it can’t execute because John Doe, LLC has no assets! The franchisor can’t go after John Doe individually because he never signed a personal guaranty. Now, the franchisor is stuck with a damaged brand, a terminated franchisee, a host of administrative and legal fees, and probably the cost involved with getting a new franchisee in that territory.

If John Doe had signed a personal guaranty, his feet would be held to the fire. He would then be personally responsible for making sure that he, through John Doe, LLC does not breach the terms of their franchise agreement. It’s amazing how compliant someone can be when his personal assets are at stake

The bottom line: A personal guaranty is a tool for ensuring franchisees have skin in the game. Requiring a personal guaranty to be signed by individual owner of a franchisee entity and his spouse is the industry norm. In the 300+ FDDs I’ve reviewed for prospective franchisees, I’ve never not seen a personal guaranty in a
franchise deal. While it’s something every prospective franchisee needs to consider in his risk analysis, it should not be a surprise or a deal breaker.

And by the way, if anyone wants to start a daycare-brewery franchise, call me!

Jonathan Barber exclusively practices franchise law as a partner at Barber Power Law Group, in Charlotte, North Carolina. He has assisted hundreds of franchisees with their FDDs and buying into franchises all over the world. Barber also represents emerging and established franchisors. Contact Barber at
JBarber@barberpowerlaw.com or by calling 980-202-5679.

29 09, 2018

Part 3: Breaking Down the FDD

By |2018-09-29T21:01:43+00:00September 29th, 2018|

Woman in Doorway of Shop

SPECIAL SECTION: PART 3

Breaking Down the FDD

Items 9 & 15: Franchisee’s Obligations

by Nicole Micklich

Last month’s edition opened with the idea that buying into a franchise system means accepting the notion that if you play by the rules, you get the benefits of brand awareness and franchisor support. Those rules are set out in the FDD and the franchise agreement. They become binding obligations of the franchisee when the franchise agreement is signed.

Item 9 of the FDD should contain a disclosure of all the “principal obligations of the franchisee under the franchise and other agreements” once the franchise agreement is executed. Item 15 must describe how much direct involvement the franchisee is required to have in the operation of the franchise business.

Item 9: Franchisee’s Obligations

Item 9 must provide prospective franchisees with detailed directions toward where to find the franchisee’s obligations in the franchise agreement. Franchisors must follow the FTC Rule and create a detailed table that refers to the sections in the franchise agreement that the franchisee should read to understand the franchisee’s specific obligations. The table should lead the franchisee to detailed information about the franchisee’s obligations.

If an obligation is contained in an ancillary agreement, the franchisor should direct prospects to the specific provision of the ancillary agreement. An ancillary agreement might be a covenant not to compete, an obligation that should be included in the table. Obligations imposed on the franchisee that are not listed in the FTC Rule must be included, as well, under the heading “Other”.

The table should include where to find requirements about transfers and renewals. Even though at the start of a relationship it might be hard to think about the end, prospective franchisees are about to make an enormous investment, they must consider exit options to protect that investment.

Prospective franchisees should use the table and review the contract provisions detailing the franchisee’s obligations. If a prospective franchisee does not understand those provisions, it is important to develop that understanding before signing the franchise agreement. To learn more, ask a franchise attorney.

Item 15: Obligation to Participate in the Actual Operation of the Franchise Business

Item 15 explains the role that the franchisee must have in the business operation. For example, some franchisors allow the franchisee to be an absentee owner, someone who owns the franchise without taking an active role in its management. Most though require the franchisee to have some active role in the franchised business. Item 15 should explain how much involvement the franchisor requires, and whether the franchisor requires the franchisee to provide on-site supervision of the business. Item 15 is especially important for prospective franchisees who intend to continue to work in a current job while starting-up their new franchised business.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Franchisors must follow the FTC Rule and create a detailed table that refers to the sections in the franchise agreement that the franchisee should read to understand the franchisee’s specific obligations. The table should lead the franchisee to detailed information about the franchisee’s obligations. The table must list 25 obligations in a form mandated by the FTC Rule. The top of it may look something like this:

FDD Chart
Woman in Doorway of Shop

SPECIAL SECTION: PART 3

Breaking Down the FDD

Items 9 & 15: Franchisee’s Obligations

by Nicole Micklich

Last month’s edition opened with the idea that buying into a franchise system means accepting the notion that if you play by the rules, you get the benefits of brand awareness and franchisor support. Those rules are set out in the FDD and the franchise agreement. They become binding obligations of the franchisee when the franchise agreement is signed.

Item 9 of the FDD should contain a disclosure of all the “principal obligations of the franchisee under the franchise and other agreements” once the franchise agreement is executed. Item 15 must describe how much direct involvement the franchisee is required to have in the operation of the franchise business.

Item 9: Franchisee’s Obligations

Item 9 must provide prospective franchisees with detailed directions toward where to find the franchisee’s obligations in the franchise agreement. Franchisors must follow the FTC Rule and create a detailed table that refers to the sections in the franchise agreement that the franchisee should read to understand the franchisee’s specific obligations. The table should lead the franchisee to detailed information about the franchisee’s obligations.

If an obligation is contained in an ancillary agreement, the franchisor should direct prospects to the specific provision of the ancillary agreement. An ancillary agreement might be a covenant not to compete, an obligation that should be included in the table. Obligations imposed on the franchisee that are not listed in the FTC Rule must be included, as well, under the heading “Other”.

The table should include where to find requirements about transfers and renewals. Even though at the start of a relationship it might be hard to think about the end, prospective franchisees are about to make an enormous investment, they must consider exit options to protect that investment.

Prospective franchisees should use the table and review the contract provisions detailing the franchisee’s obligations. If a prospective franchisee does not understand those provisions, it is important to develop that understanding before signing the franchise agreement. To learn more, ask a franchise attorney.

Item 15: Obligation to Participate in the Actual Operation of the Franchise Business

Item 15 explains the role that the franchisee must have in the business operation. For example, some franchisors allow the franchisee to be an absentee owner, someone who owns the franchise without taking an active role in its management. Most though require the franchisee to have some active role in the franchised business. Item 15 should explain how much involvement the franchisor requires, and whether the franchisor requires the franchisee to provide on-site supervision of the business. Item 15 is especially important for prospective franchisees who intend to continue to work in a current job while starting-up their new franchised business.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Franchisors must follow the FTC Rule and create a detailed table that refers to the sections in the franchise agreement that the franchisee should read to understand the franchisee’s specific obligations. The table should lead the franchisee to detailed information about the franchisee’s obligations. The table must list 25 obligations in a form mandated by the FTC Rule. The top of it may look something like this:

30 08, 2018

Part 2: Breaking Down the FDD

By |2018-08-31T00:16:58+00:00August 30th, 2018|

Woman using tablet

SPECIAL SECTION: PART 2

Breaking Down the FDD

Item 8: Restrictions on Sources of Products and Services.

by Nicole Micklich

Part of buying into a franchise system is accepting the notion that if you play by the rules, you get the benefits of brand awareness and franchisor support. Item 8 of the FDD discusses suppliers and lays out sourcing restrictions for products and materials, which is especially important in food-based concepts.

Item 8 can be very revealing, so it’s important to understand. The franchisor may negotiate arrangements with approved vendors, and these arrangements may result in some franchisees paying more for certain items than if they bought the same items elsewhere. For example, a franchisor may designate only one approved supplier for cleaning products. The franchisor’s arrangement with the supplier results in advertising contributions to the franchisor, which the franchisor can allocate to any market. This arrangement obviously works well for the franchisor—but it may have seemingly little benefit for a franchisee.

A franchisee, in a market that does not receive those advertising dollars, might prefer a brand of cleanser that costs half the price of the approved brand. But using a different product can put the franchisee out of compliance. And, as a franchisee, you stand to benefit from the brand awareness developed by the franchisor.

Item 16: Restrictions on What the Franchisee May Sell

This item should disclose any restrictions or conditions relating to what a franchisee sells. It may say, “We require you to offer and sell only those goods and services that we have approved. You must offer all goods and services we designate as required for all franchisees.” This means every franchisee must offer all the required products or services. On the other hand, Item 16 may reveal that franchisees in certain regions may offer different products, because regional preferences may vary.

Sometimes a system has additional goods or services that are optional for qualified franchisees. Item 16 might inform that optional services can be offered by franchisees in compliance with certain obligations. For example, an auto service concept might allow qualified franchisees to offer rustproofing services to customers. Only franchisees who are in compliance and have undergone specific training required by the franchisor may be permitted to offer rustproofing services. If these kinds of optional services can lead to increased
profitability, they’re worth knowing about.

Item 16 should also explain whether the franchisor has the right to change the types of good or services the franchisee can sell, and if there are any restrictions on that right. FDDs often indicate that there are no limits on the franchisor’s right to add, modify, or delete products and services that franchisees are required to offer. The FDD may say, “We reserve the right add additional required goods and services in the future and to withdraw goods and services we previously authorized.” And would add, “There are no limits on our right to do so.” However, sometimes there is a restriction or possible exception, and in that instance, the FDD could say, “There are no limits on our right to do so, except that the investment required of a franchisee for equipment, supplies, and initial inventory will not exceed $15,000 per year.” Or, “There are no limits on our right to do so, but we may make limited exceptions based on special circumstances, although we are not required to do so.” When franchisors change the types of goods or services the franchisees can sell, it can be costly for franchisees.

It’s important for prospective franchisees to understand the franchisor’s rights and limitations. For instance, a franchisor might disclose: “We have the right to designate additional required goods and services and to withdraw any previous approvals. There are no limitations on our right to do so.” Or, a franchisor might state: “We have the right to add additional required services. There are no limits on our right to do so, except that the investment required of a franchisee for equipment, supplies, and initial inventory will not exceed $15,000 per year.” Prospective franchisees should consider whether the franchisor can change requirements during the term of the franchise agreement.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com

Woman using tablet

SPECIAL SECTION: PART 2

Breaking Down the FDD

Item 8: Restrictions on Sources of Products and Services.

by Nicole Micklich

Part of buying into a franchise system is accepting the notion that if you play by the rules, you get the benefits of brand awareness and franchisor support. Item 8 of the FDD discusses suppliers and lays out sourcing restrictions for products and materials, which is especially important in food-based concepts.

Item 8 can be very revealing, so it’s important to understand. The franchisor may negotiate arrangements with approved vendors, and these arrangements may result in some franchisees paying more for certain items than if they bought the same items elsewhere. For example, a franchisor may designate only one approved supplier for cleaning products. The franchisor’s arrangement with the supplier results in advertising contributions to the franchisor, which the franchisor can allocate to any market. This arrangement obviously works well for the franchisor—but it may have seemingly little benefit for a franchisee.

A franchisee, in a market that does not receive those advertising dollars, might prefer a brand of cleanser that costs half the price of the approved brand. But using a different product can put the franchisee out of compliance. And, as a franchisee, you stand to benefit from the brand awareness developed by the franchisor.

Item 16: Restrictions on What the Franchisee May Sell

This item should disclose any restrictions or conditions relating to what a franchisee sells. It may say, “We require you to offer and sell only those goods and services that we have approved. You must offer all goods and services we designate as required for all franchisees.” This means every franchisee must offer all the required products or services. On the other hand, Item 16 may reveal that franchisees in certain regions may offer different products, because regional preferences may vary.

Sometimes a system has additional goods or services that are optional for qualified franchisees. Item 16 might inform that optional services can be offered by franchisees in compliance with certain obligations. For example, an auto service concept might allow qualified franchisees to offer rustproofing services to customers. Only franchisees who are in compliance and have undergone specific training required by the franchisor may be permitted to offer rustproofing services. If these kinds of optional services can lead to increased
profitability, they’re worth knowing about.

Item 16 should also explain whether the franchisor has the right to change the types of good or services the franchisee can sell, and if there are any restrictions on that right. FDDs often indicate that there are no limits on the franchisor’s right to add, modify, or delete products and services that franchisees are required to offer. The FDD may say, “We reserve the right add additional required goods and services in the future and to withdraw goods and services we previously authorized.” And would add, “There are no limits on our right to do so.” However, sometimes there is a restriction or possible exception, and in that instance, the FDD could say, “There are no limits on our right to do so, except that the investment required of a franchisee for equipment, supplies, and initial inventory will not exceed $15,000 per year.” Or, “There are no limits on our right to do so, but we may make limited exceptions based on special circumstances, although we are not required to do so.” When franchisors change the types of goods or services the franchisees can sell, it can be costly for franchisees.

It’s important for prospective franchisees to understand the franchisor’s rights and limitations. For instance, a franchisor might disclose: “We have the right to designate additional required goods and services and to withdraw any previous approvals. There are no limitations on our right to do so.” Or, a franchisor might state: “We have the right to add additional required services. There are no limits on our right to do so, except that the investment required of a franchisee for equipment, supplies, and initial inventory will not exceed $15,000 per year.” Prospective franchisees should consider whether the franchisor can change requirements during the term of the franchise agreement.

Nicole Micklich is a franchise attorney with Garcia & Milas. Contact her at (203) 773-3824 or email her at nmicklich@garciamilas.com