Have the Uniform Franchise Offering Circular Analyzed
Mitchell J. Kassoff, Esq. is an attorney who has been
involved in the legal, business, litigation and corporate aspects of
Franchising in all 50 states since 1979.
For complete information about Mr. Kassoff and to read the articles that
he has published in Law Journals and other periodicals see www.franatty.cnc.net/curricul.htm. Mr. Kassoff provides complete legal and other
assistance for all areas of Franchising.
For complete information concerning all of the different aspects of
Franchising see www.franatty.cnc.net.
Unlike other attorneys and law firms who engage in many
areas of the law, Mr. Kassoff only engages in Franchise Law. Which attorney or law firm would you want to
represent you and your interests, an attorney or law firm which splits their
interests and attention among many areas of the law or Mr. Kassoff who spends
his entire time exclusively on Franchise Law?
In addition, unlike franchise companies and many other attorneys, Mr.
Kassoff represents both franchisors and franchisees in court throughout the
entire
In deciding whether or not to have the UFOC analyzed and the other services performed by Mr. Kassoff you should recognize that your investment in your franchise in many cases will be hundreds of thousands of dollars, not simply the initial franchise fee. You will also be investing a huge percentage of your waking hours on your franchise. Therefore, the fee to analyze the UFOC and the other services offered by Mr. Kassoff will most likely be only a small percentage of your actual investment. Quite simply, before you make such a huge investment in time and money you should ascertain the problems and liabilities that you might encounter and how they can be rectified.
If you are considering the purchase, setup and/or the operation of a franchise, Mr. Kassoff offers the following choices, of which you can choose as many or few as you like. They are as follows:
a. You will be provided with a written analysis on a page by page basis for the entire document from beginning to end by e-mail.
b. The importance of this analysis is not only what is stated in the UFOC, but in addition, what is not stated.
c. Since you will be investing a large amount of time and money (most likely over a ten year period) in the franchise, the legal fee to analyze the UFOC is a very small price to pay to obtain information vital to your decision as to whether or not to purchase the franchise.
d. This is the document that will determine your entire financial future. It is probably the most important item that you will ever see. In most cases, your financial life for the next ten years will be determined by this document.
It is your choice as to which of Mr. Kassoff’s services you want to utilize to learn about your potential franchisor prior to paying your money to purchase a franchise and then protecting your investment. You should send by FedEx the franchisor’s UFOC (the franchisor will be glad to send you another UFOC if you wish to purchase a franchise) and your check for Mr. Kassoff’s services, which will be based on your choice of the services you desire.
It is strongly recommended that you send both a hard copy and an e-mail (many franchisors will supply an e-mail version in addition to a hard copy) of the UFOC. The e-mail version of the UFOC can be in pdf, MS Word or any other format. Even if you send an e-mail version, you must still send a hard copy of the UFOC. You will receive your report by e-mail within four business days after Mr. Kassoff receives your package.
The UFOC, check,
instructions as to which of the services offered by Mr. Kassoff you wish to
utilize and your e-mail address should be sent to Mitchell J. Kassoff, Esq.,
Mr. Kassoff can file your business as a corporation or LLC in the state of your choice. Since Mr. Kassoff deals exclusively with franchise matters, he can also handle all matters that concern your franchise of every kind and nature. This will enable you to concentrate on the business aspects of your franchise.
Most non-litigation work can be done by Mr. Kassoff on a flat rate basis. This will enable you to know your entire cost before you decide to proceed.
Franchising is big business. Franchises in the
Franchising provides a unique opportunity to people by allowing them to start their own business with the support and resources of a large and established organization. It is hard to start from scratch and risk one's money on an untested idea. That is why franchises can offer a wonderful opportunity. However, for those investors who are considering purchasing a franchise, caution is most important. The same reliance on the franchisor that makes franchising so attractive can also open up the door for abuse if the franchisor proves to be someone who is untrustworthy or simply can't live up to his promises. Careful investigation and consideration is vital before deciding whether or not to purchase a franchise.
While the Act helps to protect current and potential franchisees, it is important that investors take the proper steps before purchasing a franchise. In order to make a sound investment decision, here are several tips that all prospective franchisees should know:
BE CERTAIN THAT YOU OBTAIN A COPY OF THE UFOC
The UFOC is your first line of defense against franchise fraud. It contains vital information that you should know before making a decision. Under the law, the franchisor must give you an UFOC at least 10 business days before you sign a contract or pay money to a franchisor, or at the first personal meeting, whichever is earlier. If a franchisor is pressuring you to invest “right away” and does not give you this time, then you are probably dealing with a suspect company. If you do not receive an UFOC at least ten business days before you invest or at the first personal meeting, contact the Attorney General's Office immediately.
Franchisors are required to file the UFOC with some states. However, they are not checked for accuracy, merely completeness of disclosure; there is no guarantee that the UFOC is accurate, even if it is filed. It is important, therefore, to contact current franchisees in the area from the list that is provided in the UFOC. Ask them about how their businesses are doing so you can compare the representation in the UFOC with the real world, and determine the reliability of franchisor's claims. If possible, you should visit the franchisees and observe all the facets of the business in practice. Try to communicate with as many of the franchisees as possible. The more franchisees you talk to, the better informed your decision will be. Make sure you contact not only just franchisees that the franchisor tells you to, but also other franchisees that you know of.
Franchisors must list certain “risk factors” in the UFOC. For example, if the franchisor designates a state outside of your state as the forum to resolve a dispute or file a lawsuit you may have to incur additional expenses and loss of time in traveling to that state. Also, be cautious if a franchisor has a very low net worth and pay attention to the number of franchises that were terminated during the past three years. An unusually large number may be a sign of danger. The UFOC should disclose the names and addresses of franchisees that have dropped out of the system within the last year. Contact them to find out why they dropped out.
ITEM BY ITEM DESCRIPTION OF THE UFOC
Item 1. FRANCHISOR, ITS PREDECESSORS AND AFFILIATES
Some
of the information that a franchisor is required to reveal in a UFOC, such as
disclosure of bankruptcies and lawsuits in the franchisor's past, may be embarrassing
and detrimental to the sale of franchises.
If a franchisor were to transfer its franchise operations to a related
company with a clean bill of health, it could evade these disclosure
requirements. To make this impossible,
numerous disclosures about “predecessors” and
“affiliates” are required in Item 1.
Item 2. BUSINESS EXPERIENCE
In
some UFOCs, biographies of the franchisor's key people only cover the last five
years and do not mention educational background. This is because some franchise examiners will
not approve an offering circular unless the franchisor deletes all non-required
information from its Item 2 biographies, not because all franchise executives
have a maximum career span of five years and no education.
Item 3. LITIGATION
Franchisors
and their personnel must tell prospective franchisees about lawsuits and
arbitration proceedings brought against them.
But they do not have to tell prospective franchisees about actions they have brought to collect debts
owed to them by franchisees who have lost money trying
to follow their franchised systems.
Item 4. BANKRUPTCY
Among
other things, any franchise executive who has filed bankruptcy within the past
ten years has to tell all in Item 4.
Often, however, the requirement catches some poor man who is an employee
of a franchisor and is just trying to quietly live down a personal bankruptcy.
Item 5. INITIAL FRANCHISE FEE
In
Item 5 the franchisor has to disclose whether the initial franchise fee is
uniform. Supposedly this lets a prospective
franchisee know that he is getting as good a deal as everyone else. In reality, the required disclosure is not
effective. This is because it is only
applicable to franchisees currently
buying franchises. If the price was
different in the past or
changes in the future, these
facts do not have to be revealed. The
exception is
Item 6. OTHER FEES
These fees are
listed in this section.
Item 7. INITIAL INVESTMENT
This
chart is supposed to give a franchisee a realistic notion of how much money he
needs to get up and running with the franchisor's system. Although the chart is supposed to be based on
actual data, many franchisors base it on their “experience” instead
(in other words, they guess). Franchise
litigation histories show that the figures in Item 7 are often highly
optimistic. Prospective franchisees
should test the reality of these figures by pricing key expenses, such as
rental of office space.
Item 8. RESTRICTION ON SOURCES OF PRODUCTS AND SERVICES
The
franchisor is supposed to disclose, in Item 8, whether it takes kickbacks from
suppliers in return for requiring franchisees to buy from those suppliers. The franchisor is also supposed to disclose
whether it makes money on the franchisee's purchases from vendors the
franchisor designates or recommends. But
the UFOC guidelines on this subject are phrased so confusingly that many
franchisors are not sure what is required and therefore the responses may be
inaccurate.
Item 9. FRANCHISEE'S OBLIGATIONS
These obligations are listed here.
Item 10. FINANCING
In
this Item, the franchisor is supposed to tell the franchisee all about the
financing it provides or arranges for the franchisee to obtain from someone
else. Franchisors hate
to answer all the detailed questions in Item 10 because of the work required
and requires knowledge of esoteric matters such as how to calculate
APR. So they answer Item 10 by saying
they don't offer or arrange financing.
The fact that the same financial source has funded 9 out of every ten
franchised store buildouts in their systems is apparently just a
coincidence. If a franchisee expects to
need financing and no information about it appears in Item 10, he should get
the information in writing, even if it is just a letter from the franchisor's
bank.
Item 11. FRANCHISOR'S OBLIGATIONS
This
is the part of the offering circular where the franchisor is supposed to
describe in detail everything it is going to do for its franchisees. However, the disclosures are primarily
directed toward revealing what the franchisee has to do, instead. This isn't the franchisors' fault. The Guidelines for preparing a UFOC are set
up this way. Part of this section
concerns computer equipment. The
franchisor is required to disclose whether it can “independently”
access a franchisee's computer data via modem and examine the franchisee's data
without contractual restriction. In the
section on advertising, the franchisor is required to reveal how much of the
advertising money paid by franchisees it can use to reimburse itself for
operating the advertising fund. Many
franchisors take no compensation at all, contributing more to the advertising
fund than the franchisees do. Even
though many franchisors promise franchisees to use their expertise to help the
franchisees find good business locations, careful reading of Item 11 of most
offering circulars reveals that the franchisor has no responsibility at all for
site selection. Instead, the franchisee has
to get the franchisor's permission to develop a given site, but cannot hold the
franchisor responsible if the site turns out to be bad.
Item 12. TERRITORY
If
the franchisor can build a competing outlet or grant a franchise right on top
of another franchisee's location, it is supposed to be disclosed in Item
12. If a franchisor can compete with its
own franchisee by selling its branded product in supermarkets or other outlets
at a lower price than its nearby franchisee can afford to charge, Item 12 should
say so.
Item 13. TRADEMARKS
If
a franchisor's name turns out to belong to someone else, and that someone else
sues the franchisee for infringement because the franchisee uses the name, does
the franchisor have to defend the franchisee?
If the franchisee is forced to change its signs, stationery,
advertising, and so on, will the franchisor reimburse the franchisee for the
expense? This information is contained
in Item 13.
Item 14. PATENTS, COPYRIGHTS AND PROPRIETARY INFORMATION
Patent, copyright and proprietary information
is contained here.
Item 15. OBLIGATION
TO PARTICIPATE IN THE ACTUAL OPERATION OF THE FRANCHISE BUSINESS
The obligation to participate in the actual
operation of the franchise business is contained here.
Item 16. RESTRICTIONS ON WHAT THE FRANCHISEE MAY SELL
The restrictions on what the
franchisee may sell is
contained here.
Item 17. RENEWAL, TERMINATION, TRANSFER AND DISPUTE RESOLUTION
The renewal, termination, transfer and
dispute resolution terms are contained here.
Item 18. PUBLIC FIGURES
If
a famous person recommends that franchisees buy a particular franchise, the
franchisor is supposed to reveal in Item 18 how much it paid the famous person
for making the recommendation.
Item 19. EARNINGS CLAIMS
Does
anyone make any money with this franchise?
If so, the figures can be presented in Item 19. If the franchisor has something to brag
about, this is where it should do it. If
the franchisor does not give any information in Item 19, you have to ask
yourself, why not? The answer is that
franchise lawyers spent years telling franchisors how dangerous it is to
provide earnings information in case they are sued, so that some franchisors
who should be proud of their franchisees' financial performance are afraid to
tell anyone.
Item 20. LIST OF OUTLETS
Item
20 tells prospective franchisees how many franchises a franchisor has sold and
how many of the franchised businesses have survived. If this Item shows there have been lots of
terminations, a person might conclude that it is hard to stay in business in
this business.
Item 21. FINANCIAL STATEMENTS
The last three
years of audited financial statements are contained here. Does this franchisor have
enough cash to provide the benefits to franchisees that it says it will? The financial statements referenced in Item
21 and attached as an exhibit should provide an answer. If the letter from the auditor at the
beginning of the financial statements contains a “going concern”
notation--a statement that continued operation of the franchisor's business is
in question, watch out! Read the footnotes to the
financial statements.
Remember, you are making substantial commitment in both time and money and like all other important decisions; you should seek competent advice before you act. Except for the purchase of a home, this will be the most money that you will spend on anything in your life. Since Mr. Kassoff deals exclusively with Franchising and has done so for more than a quarter of a century, he is an excellent choice.
As a franchisee you will be required to conform to certain rules designed by the franchisor to assure, that the product and service you deliver to your customers is the same type and quality delivered by all the other franchisees. While the franchisor may take into account the needs of each individual store when formulating its policies, there is the possibility that the needs of the many will outweigh the needs of the few and you might have to conform to a franchisor's policies, such as selling products that may be unprofitable in your particular location. Furthermore, you may be unable to institute innovative ideas that you come up with yourself. If you are the type of person who is fiercely independent and does not like following rules, then buying a franchise may not be the right choice for you.
Of tremendous importance, is your need to know the franchisor's rules prior to making your decision. For example, there may be rules regarding the number of hours you must operate per week, or the number of employees you can hire. Also, look carefully into rules requiring you to make additional expenditures in the future in order to keep your franchise up to date. A franchise system must, in order to be successful, keep up with the times and match innovations and new products offered by competitors. In your franchise outlet, you may be required to make expensive improvements, hire additional personnel, etc., even though you would not have done so if given the choice or you cannot afford it.
Franchisors frequently underestimate the initial expenses in an effort to make the cost of purchasing a franchise seem lower than it really is. If the estimate is too low, you may find yourself with insufficient cash to carry on until the business produces a positive cash flow. You should conduct your own investigation on the cost of items, especially big-ticket items, such as real estate and construction renovations.
It is important to know the reputation and customer recognition of the franchisor's product as well as the actual people behind the franchisor. As you are buying into a name, trademark or idea, the more recognized that name the better your chances for success. When a new store from an established chain is opened, there is already customer recognition and loyalty that you can capitalize on. Conversely, if the franchise is unknown, or worse, has a bad reputation, you may be starting from ground zero or possibly at a disadvantage. Remember that you have no control over other franchisees that will be using the same name as you. If the franchisor does not monitor them properly, then their actions and mistakes could impact directly upon your business.
Also, know the people you are dealing with. Make sure the people in the main office are people who you can work with. Look at the experience that these people have and ask yourself if they are people that you can trust, and from whom you can get competent advice. Also, check to see if these people have any criminal records and inquire into the litigation history of the franchisor. This information should be contained in the UFOC.
Franchising has become an increasingly popular way to market goods and services and can be a lucrative way to conduct business when done correctly. An individual who follows the above strategies, is likely to increase his chances of investing in a legitimate franchise.
What to Consider Before Buying a Franchise
Don’t
Let This Happen to You
The terms of the deal were
clear. The franchise agreement spelled
it all out, and dozens of franchisees invested in the franchise. In return, they were given a route along which
to sell the franchisor’s exclusive line of snack and beverage
products. The franchisees ordered the
products from the franchisor and sold them to stores, keeping the profit. The franchisor advised the franchisees that
they should also buy equipment, rent warehouse space and purchase a truck, and
the franchisees complied because they were told it was essential for their
business. However, the products arrived
months late and when they did arrive on time, they were of poor quality. For instance, the potato chips were stale and
there were foreign particles in the beverages.
Soon after the new franchisees paid the initial fees, the franchisor
closed down his warehouse, stopped answering his phone and disappeared with the
franchisees’ money.
The victims in this case thought
that they were investing in a legitimate franchise business. They were normal, everyday people who lost
their life savings because of a lack of thorough research and skepticism. They trusted what they were told instead of
doing their homework and checking up on each aspect of the franchise. Consulting with an attorney knowledgeable
about franchising would have aided purchasers in learning about some of these
risks. As it turns out, not only was
this “franchise” not registered with the state, but the President
and owner had previously been convicted of a felony, a scheme to defraud. If the franchisees had known what to consider
when buying a franchise, they would not have invested.
Warning Signs that You
Might Be Getting Involved in a Fraud
Failure to Disclose All
Necessary Documents and Details
The franchisor who does not
properly disclose all relevant details to the potential franchisee is probably
trying to hide something. The franchise
may not be profitable or the franchise may be a scam. Before you sign anything, be sure you learn
all of the relevant information, make sure all of your questions are answered
fully and be certain that all relevant details are clear.
High-Pressure Sales Tactics
You should never feel pressured
to buy a franchise or to make your decision quickly, for any reason. Remember that you are making an investment
and you should be cautious with your decision.
Claims of Minimal Risk and
Promises of Unrealistic Profits
There is a large amount of risk
associated with buying a new franchise.
Even the franchisor with the most successful chain cannot legitimately
promise that you will make money. Be
wary of any franchisor who guarantees that you will definitely make a lot of
money with little risk.
Unjustified Start-Up Fees
Initial fees are sometimes very
high, but be sure you know where your money is going. Fees that seem too high may very well be just
that. Many crooked franchisors have sold
franchises and disappeared with the initial franchise fee.
The Truth about
Legitimate Franchises: What Every Investor Needs to Understand
One reason why many franchises
are so successful is because the system creates a certain synergy. Businesses brought together under one
trademark can achieve things not possible for individual business people, such
as group advertising and buying power.
Along with success, however, comes a certain
number of failures. There is no
guarantee of success. Therefore, it is
vital that potential franchisees understand that:
·
Franchises are not guaranteed to make
money. Even if you own a business which is part of the most
successful franchise in the country or the world, your store may lose money,
especially in the beginning. Be prepared
to deal with this type of situation.
·
A franchise is a long-term investment. You
will not get rich quick. It may
take you several years to develop your business to a point where you have paid
off any loans and are making the amount of money you anticipated. If your business does not make money or you
tire of it, you cannot simply close up shop and forget about it. Like it or not, you must continue to work for
the full amount of time agreed to in your contract.
·
Franchisees cannot under any
circumstances deviate from the norm. You will be told exactly how to run your business, right
down to how to organize your finance books or where to keep the napkins. Even if you believe that the
franchisor’s decision is not the best one for your particular store or
regional location, you will be required to follow the rules. If you are a natural entrepreneur who has a
creative mind and wants to operate your business your own way, franchising is
probably not for you.
·
A franchise requires a very large amount of money. The
startup fees may number in the hundreds of thousands of dollars. Make sure you and your family can afford to
sustain this kind of loss, should your business fail. There will also be continuous fees for
royalties and advertising which will continue for as long as you own the
business. They may be quite high and you
may not want to pay them after learning the business and doing all the work,
but you will be bound to continue to pay them as part of your contract.
·
You are not guaranteed the right to alternate vending of
inventory, product, service or supplies beyond those that are disclosed in the
UFOC. The franchisor may require you to buy everything you need
from an approved vendor or group of vendors.
Often, these vendors charge more than independent vendors because they
give the franchisor a part of the earnings.
Even if you know that you could buy the same items elsewhere for
significantly less money, you may be required to use only the vendors accepted
by the franchisor. Also, find out what
factors could affect the franchisee’s ability in the future to obtain
essential goods economically from a reliable source.
·
The franchisor may be bought out or may go out of
business. If the franchisor sells to or merges with a company that
does not understand franchising or if it has different goals that allow the
system to deteriorate, you may suffer.
Tips for Prospective
Franchise Purchasers to Remember
1. Make sure
the seller of the franchise supplies you with a copy of the UFOC approved by
the state in which you are located and that you read it carefully.
You must
receive an UFOC at least 10 business days before you are asked to sign a
contract or pay money to the franchisor.
When you receive an UFOC you will be asked to sign a receipt for
it. Make sure that the date on this
receipt is correct, and keep a copy for your records. A dishonest franchisor may attempt to satisfy
the 10-day rule by back-dating the receipt without your knowledge. The franchisor may also ask you to consent to
the back-dating in order to complete the transaction at an earlier date than
allowed by law. You should refuse. The 10-day rule is designed to afford you
time to thoroughly examine the UFOC and make an unhurried decision about
whether or not to invest in the franchise.
2. Consult with an attorney with experience in the field of
franchising before paying any money or signing any documents.
In the business
world, you get what you pay for. If you cut
corners on professional advice, you will regret it later. You should seek professional legal advice,
especially from someone who is familiar with the field of franchising, to help
you make an informed decision. An
attorney can help you understand the franchise contract, which is part of the
UFOC. Choosing a lawyer you are
comfortable with and that you can afford may take some investigation, but will
be worth it. Find out in advance the
cost of the initial consultation will be before seeing the attorney.
Carefully study
the estimate of initial expenses contained in the UFOC. Franchisors may underestimate these expenses
in an effort to make the cost of purchasing a franchise seem
lower than it really is. If the estimate
is too low, you may find yourself with insufficient cash to carry on until the
business produces a profit. Relying on
the UFOC without consulting a professional and hoping that the franchisor has
told the truth is setting yourself up for potential
fraud. See page 16for a list of associations
and government agencies to help you in your research.
3. The
experience of others is one of the most effective guides you can use to
determine how you would do if you purchased a franchise.
The UFOC should
disclose the names and addresses of individuals currently operating franchises
in your state and adjacent states.
Contact them and ask them how their franchises are doing. Visit the franchised premises and observe the
volume and type of business being done.
Pay attention to the number of franchises terminated during the past
three years—an unusually large number may be a
telling sign of how the franchisor does business. The UFOC should disclose the names and
addresses of franchisees who have dropped out of the
system within the last year. Contact
them to find out why they dropped out.
It is important
for you to communicate with every listed franchisee, if this is practical, or a
large sample of them, if it is not. The
more franchisees to whom you talk, the more you will learn about the franchisor
and the chain. A franchisor may attempt
to supply you with a list of selected franchisees to contact. View this with suspicion. Those on the list may be
“shills,” franchisees being paid by the franchisor to give you a
good opinion of the business. Indeed, if
the franchisees on the list are far away and not likely to be visited
personally, they may not be franchisees at all, just dishonest people on the
other end of the telephone.
4. Look for a territorial protection clause in your contract.
Encroachment is
one of the most litigated issues in franchising. Whether you are a fast food franchisee who
finds another unit has opened up a few blocks away, an ice cream franchisee who
sees his product being sold in the corner grocery store or a franchisee who
discovers that his franchisor is taking orders over the Internet, all of this
adds up to lost profits for a franchisee who has spent years building up a
business.
Protected or
exclusive territory is the area around the franchisee’s business location
in which no other branch of the franchise is allowed to open a store. The extent of the protected territory may be
defined by the radius from the outlet’s location, the number of
households and businesses in the area, the number of people living in the area,
zip codes, state or highway boundaries, or some other measure. Sometimes, the franchisee must meet certain
sales quotas or performance standards in order to keep the exclusive territory. Before signing the contract, you should
determine if the protected territory is large enough to carry out the
franchise’s business objectives in light of the competition which will
come from other branches of the franchise.
The protected
territory clause in the original contract, as discussed above, will clarify
exactly what is and is not considered exclusive territory. Courts often uphold the idea that if there is
no specific protected territory clause in the original contract, the franchisee
has no legitimate encroachment claim, so make sure you are clear on exactly
where your franchisor can and cannot open stores. Sometimes, the franchisor will make a deal
with an existing franchisee. The
franchisor will allow a store to open within the exclusive territory and the
franchisee will receive a percentage of the profits from the new store. This is called a reverse royalty.
5. You should understand that although you will be the owner
of your own business and thus bear the consequences of its success or failure,
you will not be independent.
You will be
part of a chain and will be expected to conform to certain rules designed to
assure that the product or service which you deliver to your customers is of
the same type and quality as those delivered by other franchisees in the chain. Uniformity is very important to a franchise
chain and you will be required to observe the rules concerning it, even though
you may find them ineffective or unprofitable and have better ideas of your
own. If you are an independently minded
person, franchising may not be for you.
6. Be aware of non-compete clauses.
Even after you
have relinquished control of your outlet, your contract still holds and it will
probably contain a non-compete clause.
This section prevents you from owning or operating a competing business
within a certain geographical area for a specific time period.
7. Widespread customer recognition of a trade name is the
equivalent of goodwill in franchising.
The trade name
is the symbol of the franchise chain’s quality. Anyone familiar with a trade name has an
idea, whether true or false, of the quality that the name represents. The same is true of the name you will be
purchasing when you buy a franchise. If
the name is unfamiliar to you and your friends, you should ask yourself whether
you are getting your money’s worth in buying the franchise. If the franchise name is recognizable, you
will have a head start in the marketplace.
Opening a franchise center may give you the benefit of a well-known
reputation, but it is not a guarantee that you will make a profit. No franchisor can guarantee that your outlet
will be profitable. Franchising is
similar to other businesses in that it takes a large amount of resources,
especially time and money, to operate successfully.
No doubt you
intend to do your best to see to it that the franchise name will stand for high
quality, but the decision is, once again, not entirely in your hands. The performance of the other franchisees in
the chain will also affect the quality associated with the name, as will the
leadership and imagination of the franchisor itself. If others in the system do a poor job, the
ill will which ordinarily attaches to such performance may be transferred to
your business. Also, the
franchisor’s willingness to keep the name before the public through
advertising and to keep things up-to-date through research and development is
of key importance. A franchisor or other
franchisees who fall down on the job may ruin a
franchise name no matter how hard you work.
Extra caution
should be taken when a franchise is being acquired from a new franchisor or
from a franchisor who does not have its trademark
federally registered. What type of
trademark protection has the franchisor sought?
Are there any possible conflicts with its marks that could affect you,
the franchisee? In the event a problem
arises with the franchisor’s mark or if another chain acquires the
franchise system, does the franchisor have the right to require the franchisee
to change its mark?
8. Examine the
site selection process outlined in the UFOC, as the location of a franchise is
very important.
A poorly
selected site may well doom a franchise no matter how attractive its
features. Determine what the franchisor
will do to assist you in selecting an appropriate site and whether you will be
able to change the site if it proves to be unsatisfactory. Find out if relocation rights are granted to
the franchisee in the event of condemnation, lease expiration, or pure business
results, or is relocation a matter of the franchisor’s then-current
policy. Is there any type of territorial
exclusivity included in the contract? If
so, what is the exact nature of any exclusivity or protection granted? Is it contingent upon achieving certain
performance levels? If the
franchisor’s participation in the site selection process appears to be
perfunctory, or if the franchisor offers no assistance, think twice about
buying. If you are purchasing an
existing store or route, find out why the previous franchisee is no longer with
the company.
9. Training is one of the distinct advantages of
franchising.
It enables the
franchise operator to acquire within a short time the skills that an
independent operator might take months or years to acquire. If the training described in the UFOC is not
sufficiently detailed, ask about it.
Also ask existing franchise operators about the training they
received. While a well thought-out
training program can be an effective substitute for the trial and error of
experience, you should be aware that there is no complete substitute for
experience or natural business talent.
Ask any businessman; learning a business can take years and that one
never stops learning.
10. Look for
the existence of franchisee advisory groups and associations.
Both advisory
groups and associations are organizations of franchisees, but they differ in
their roles in the franchise chain.
Advisory groups are organized by the franchisor and are composed of
franchisees and franchisor representatives.
They help the franchisor make decisions, voice complaints, and form
relationships with other franchisees.
Franchisee associations, on the other hand, are usually independent of
the franchisor. They have their own
system of organization, rules and membership requirements. Franchisees pay dues in order to fund the
activities of the association. In some
cases, an advisory group and an association coexist in the same franchise
chain. If your franchise has an
association or advisory group, it usually implies that the franchisor takes
seriously the requests and ideas of the franchisees, and these are often the
strongest franchises, with franchisees who feel that their voices are being
heard. You should speak to
representatives from the franchise advisory group/association to ensure that
franchisors listen to their franchisees.
11. Know the
franchise seller.
A franchise
agreement is only as good as the people behind it, regardless of how good it
looks on paper. The UFOC gives certain
information concerning the employment background of the principals of the
franchisor and their litigation histories.
Check their employment background in the UFOC to see if they have been
employed in franchising or a business related to the franchise being sold. Examine their litigation history. An excessive number of claims against them
may mean that they have not been performing according to their agreements.
The
franchisor’s experience in selling franchises and managing a franchise
chain is as important to you as the training you will receive to operate your
own outlet. If the franchisor has little
experience in managing a chain of franchises, you will find that the guidance,
training and other support you receive may be unreliable.
Frequently Asked
Questions about Franchising
·
What is a UFOC?
A uniform
franchise offering circular is a detailed disclosure document for each
potential franchise purchaser. Included
in the disclosure document is over twenty different items of information about
the franchise, including the history of the company, required fees and
investment costs, information about the franchisor, and any litigation in which
s/he has been involved. When you are
given the disclosure document, you must sign and date a statement acknowledging
that you received it.
·
What is the regulatory framework governing franchises?
There are three
distinct bodies of law governing franchising: federal and state registration
and disclosure laws, “franchise relationship” laws, and
“business opportunity” laws.
State
Franchise Registration and Disclosure Laws
State
registration and disclosure laws provide that, unless an exemption is
available, no offer or sale of a franchise can take place until the franchisor
has registered a UFOC with the state in which the sale is occurring, the UFOC
has been approved and the potential purchaser has received a copy prior to
signing any agreements. To be approved,
a UFOC must honestly and in detail explain all of the material facts of the
franchise and the sale. These
registration and disclosure laws are looking to prohibit misrepresentation in
the offering of franchises to potential buyers and to make sure that these
potential buyers have at their disposal all of the necessary information to
make an informed decision. Criminal and
civil penalties may apply to franchisors who do not fully disclose all of the
necessary information or who misrepresent the truth.
The Federal
Trade Commission Franchise Rule
The FTC Rule
states that franchisors must make full pre-sale disclosure in an UFOC, or
UFOC. However, the FTC Rule does not
require that the UFOC be approved prior to distribution. Enforcement under the Rule is bolstered by
penalties of up to $10,000 per violation.
Franchise
Relationship Laws
A franchise
agreement, like any other contract, has a fixed term. Also like any other agreement, a franchise
contract may be terminated before it actually expires. Many states require “just cause”
for termination. Just cause is defined
as the failure of the franchisee to comply with some aspect of the deal as put
forth in the contract, as well as the failure of the franchisee to correct, or
cure, the problem once it has been pointed out.
Other relationship laws address such aspects of the franchise
relationship as discriminatory treatment, market protections, ability of
franchisees to belong to franchise associations and the minimum advance notice
of termination or expiration which must be given to franchisees.
Business
Some states have
enacted business opportunity laws. These
laws regulate the sale of opportunities to engage in new business ventures, so
they often impact franchises. The laws
require registration and disclosure in the same manner as state franchise
registration laws do and usually also require the posting of some kind of
financial security investment. Some
states exclude franchise offerings from business opportunity laws because they
comply with federal or state franchise regulations, while other states hold
franchises to both the business opportunity laws and the state regulations.
The Costs of Buying and
Owning a Franchise
Make sure you are prepared to
make an investment of a large magnitude before you buy. Compare your estimates with the estimates of other
franchise chains. Will you get a better
deal from a competitor’s franchise?
Initial Franchise Fee
This includes all fees and
payments for products and services received from the franchisor before the
business opens. The initial franchise
fee is usually non-refundable and paid up front. In some cases, it is payable in installments,
but the franchisor must disclose the terms of payment in the contract. Sometimes the initial franchise fee is
deferred or placed into an escrow account until the franchisor has completely
performed all of its obligations to help the franchisee start up the
business. This usually indicates that
the franchisor is financially weak or that the franchise is newly organized.
Other Fees
These fees are usually explained
in the form of a table which clarifies how much money must be paid to whom and
when such payments are due. This may
include, but is not limited to, fees for royalties, advertising, transfers
(payable only upon a transfer of the franchise agreement), renewal (payable
only upon renewal of the franchise agreement), training, additional support and
assistance, and membership in a franchisee membership organization.
Financing the Franchise
Any financing arrangements
offered by the franchisor are contained in the UFOC. Often, this part will simply indicate that
the franchisor does not provide any type of financing. If any financial aid is provided, the amount,
interest rate, required collateral, potential liabilities upon default and any
other terms and conditions must be included.
Remember that you do not have to use the franchisor or its lender simply
because they offer to help. Compare loan
and lease services at other financial or leasing organizations as well.
Rights and
Responsibilities of the Franchisee and Franchisor
Franchisee Obligations
The UFOC contains information
regarding the franchisee’s obligations to buy or lease from the
franchisor or a supplier designated by the franchisor. The franchisor must also disclose any
revenues or other benefits it received as a result of any required purchases or
leases. Don’t forget that there
are many costs not paid by the franchisor.
Be sure to include these in your financial estimates.
Make sure you understand the
circumstances under which you and your family members may be held personally
liable. Under what circumstances will
you be personally liable when a customer, vendor or other person sues? Who will be responsible for the various
obligations under the contract? Are
there restrictions on other activities of the franchisee and his/her family
members with regard to ownership, employment, participation in competitive
businesses, etc? Do certain restrictions
conflict with any current or foreseeable business interests of the franchisee
or family members?
Franchisor Obligations
The franchisor’s
obligations lie in many different areas, such as obligations prior to the
business opening, obligations during the term of the franchise agreement,
obligations relating to site location, obligations to provide a training
program, and an estimate of the length of time needed to open a center
following the signing of a franchise agreement or the payment of a fee to the
franchisor.
Ask if there is an operations manual. If
so, read it carefully. It will tell you
what standards of operation the franchisor expects of the franchisees. You may have to sign an agreement to keep the
contents of the manual confidential.
Does the manual provide for all aspects of the business? Does it contain an accounting or inventory system? If any of the systems are computerized, is
the cost of the computer included in the amounts paid to the franchisor as part
of the initial franchise fee?
Find out what training you will
receive. Will you learn by hands-on
experience at another franchise outlet?
If so, how long will you be expected to work there? Will you be paid? Are you the only one who will be trained or
will any employees be trained as well?
Is there a course? How long is
it? What type of ongoing training,
management assistance and advice will you receive if and when problems
arise? The amount of training you will need will depend on your present business knowledge and
experience and on the operating standards you will be expected to keep.
Earnings Claims