Thinking about Starting a Franchise?

What is a Franchise?

A franchise is a business arrangement between a buyer and a seller with the following three characteristics:

1. The buyer’s payment of at least $615 to the seller either before or during the first six months of the operation of the business

2. The right of the buyer to use a trademark, service mark, trade name, logo or other commercial symbol of the seller

3. The commitment of the seller to

- Retain significant control over the manner and method of operation of the business; or

- Provide significant assistance to the buyer’s business operations.

If a business arrangement encompasses all three characteristics above, it is automatically deemed a franchise and must comply with the FTC disclosure requirements regardless of whether the parties consider themselves to be part of a franchise.

On the other hand, if a seller refers to a business arrangement as a Franchise but fails to satisfy the three characteristics above, they must still oblige by the pre-sale disclosure requirements.

What are the FTC Franchise Pre-sale disclosure requirements?

Franchise relationships are governed jointly by a combination of Federal and State Law. The Federal Trade Commission ( FTC) regulates franchises under the Disclosure Requirements and Prohibitions Concerning Franchising and Business Opportunities ( aka. The Franchise Rule).

The Franchise Rule imposes specific pre-sale disclosures and requires franchisors provide prospective franchisees with specific information in a franchise disclosure document ( FDD) covering:

· The franchisor

· The franchised business

· The franchise agreement

This FDD must be provided to prospective franchisees at least 14 days before :

· The Franchisee enters into a binding agreement with the franchisor or any of its affiliates; or

· The Franchisee makes any payment to the franchisor or any of its affiliates.

The FDD is a printable single document must include disclosures in 23 categories, in plain English so that it is easily understood by prospective franchisees. The basics are identified below but make sure to work with a lawyer to ensure all necessary information is included for each category.

1. Basic identifying information about itself and the business

2. The Identity and Business Experience of the franchisor’s officers, directors, and managers.

3. Litigation

4. Bankruptcy

5. Initial Fees

6. Other Fees ( i.e.. Royalties, Advertising fees, transfer fees…)

7. Estimated Initial Investment

8. Restrictions on Franchisee’s Sources of Products and Services

9. Franchisee’s obligations

10. Financing Arrangements

11. Franchisor’s Assistance, Advertising, Computer Systems and Training

12. Territory

13. Trademarks

14. Patents, Copyrights, and Proprietary Information

15. Obligation to Participate in the Actual Operation of the Franchise Business

16. Restrictions on What Franchisee may sell

17. Renewal, Termination, Transfer, and Dispute Resolution

18. Public Figures

19. Financial Performance Representations

20. Outlets and Franchise Informaiton

21. Financial Statements

22. Contracts ( Franchise Agreement, Lease Agreements, Option Agreements, Purchase Agreements)

23. Receipts

Failure to comply with the above will constitute an unfair or deception act or practice in violation of Section 5 of the Federal Trade Commission Act.

State Specific Franchise Disclosure for California will be in a forthcoming post.