March 8, 2021
March 10, 2021
Whether you’re thinking about becoming a franchisee or are a first-time franchisor, the chances are that you’ve heard of a Franchise Disclosure Document (FDD). There’s plenty of paperwork involved in opening a new franchise location, but of all the documents the FDD is one of the most important – no matter which side of the relationship you’re on.
What does it do that’s so valuable, then? In short, it defines the relationship between franchisee and franchisor. If you are interested in opening a franchise location you can consult the document to see if it’s a relationship you’d like to enter into.
That’s easy enough to understand, but we’re breaking it down in this blog post for a reason – there are 23 ‘items’ that make up the FDD and another significant document that you shouldn’t confuse it with. We’ll start with that important distinction.
FDDs are for potential franchisees, and Franchise Agreements (FAs) are the documents that turn them into actual franchisees. A disclosure document lays out the relationship that a franchisee will have with a franchisor, but it’s not a contract.
The FA is a legally-binding contract that should be reviewed with a lawyer handy. Franchise consulting expert Michael Seid says that ‘It can be a tragic mistake’ to assume they’re the same thing. The pair of them should be considered in tandem.
We’ve explained what a Franchise Disclosure Document is and isn’t, but we haven’t looked at how it’s designed. The Federal Trade Commission requires that every disclosure document have the following 23 items.* Together, they provide enough information for people to decide if the opportunity is right for them:
1 – The Franchisor and Any Parents, Predecessors, and Affiliates: Any relationships between the franchisor and parent or affiliate companies.
2 – Business Experience: The background of the franchise’s executive team.
3– Litigation: Whether or not the franchise or any of its associates (including the executive/management team) are involved in litigation.
4– Bankruptcy: Whether or not anyone from items 1 or 2 have filed for bankruptcy in the past.
5– Initial Fees: The up-front payments that franchisees have to make to franchisors.
6– Other Fees: Any ongoing, recurring or one-off fees that the franchisee will owe the franchisor during their relationship.
7– Estimated Initial Investment: An estimate of the total cost of opening a franchise location.
8– Restrictions on Sources of Products and Services: What the franchisee has to buy from the franchisor and approved suppliers, as well as the amount of money they make from it.
9– Franchisee’s Obligations: A table that outlines everything the franchisee is contractually obligated to do. This is the link between the FDD and the FA.
10 – Financing: Any financial support schemes offered by the franchisor to the franchisee.
11 – Franchisor’s Assistance, Advertising, Computer Systems, and Training: The support that franchisors will offer franchisees, as well as guidance surrounding approved IT systems and advertising methods.
12 – Territory: Whether or not the franchisee’s location will be considered a ‘protected territory’, along with any caveats.
13 – Trademarks: All relevant information surrounding the franchisor’s trademarks.
14 – Patents, Copyrights, and Proprietary Information: All relevant information on these topics, including any that are pending.
15 – Obligation to Participate in the Actual Operation of the Franchise Business: The extent to which franchise owners are expected to take part in the actual running of the business.
16 – Restrictions on What the Franchisee May Sell: What, if anything, the franchisee is not allowed to sell.
17 – Renewal, Termination, Transfer, and Dispute Resolution: The terms that come into play when a franchise will be renewed, a relationship changed or ended, or a disagreement arises.
18 – Public Figures: Any celebrities or other public figures that have been paid to promote the franchise.
19 – Financial Performance Representations: A space for the franchisor to share their financial performance information, at their discretion.
20 – Outlets and Franchisee Information: A series of tables showing the franchise and corporate outlets that have opened in recent years, along with contact information.
21 – Financial Statements: The franchisor’s balance sheets, audited statements, and more.
22 – Contracts: Everything the franchisee has to sign to open a franchise, including the FA.
23 – Receipts: A page for potential franchisees to sign that confirms they received and read the FDD.
That’s a lot to contend with in one very important document, but franchise information is far more digestible when taken in bite-size chunks. Using this post as a checklist, work through each item in the Franchise Disclosure Document one-by-one. That way, you’ll be able to make an informed decision when it comes time to sign the Franchise Agreement.
*We’re using the item titles provided by the FTC, but there’s occasionally some variation. The purpose and order of each should be the same on every FDD.