Understanding Franchise Disclosure Documents: A Legal Guide
SPOILER ALERT! Feel free to read this whole post - meant to help you understand the FDD - but if you contact us, we will help you review your FDD and franchise agreement.
When considering buying a franchise, it is important to understand the legal documents involved in the process. One of the most critical documents is the Franchise Disclosure Document (FDD), which provides information about the franchisor, the franchise system, and the terms of the franchise agreement. This legal guide will provide a comprehensive overview of the FDD and the important information it contains.
What is an FDD?
An FDD is a legal document that franchisors must provide to prospective franchisees under the Federal Trade Commission's (FTC) Franchise Rule. The FDD is designed to provide detailed information about the franchisor and the franchise system to help prospective franchisees make informed decisions.
What Information is Included in an FDD?
The FDD consists of several sections (23 Items - listed below, at the bottom of this post) that contain critical information about the franchise system. These sections include:
Franchisor Information: This section provides information about the franchisor, including its business experience, litigation history, and bankruptcy filings. It also includes information about the franchisor's officers, directors, and key executives.
Business Experience: This section provides information about the franchisor's business experience and history, including its operations, management, and financial performance.
Franchise System: This section provides detailed information about the franchise system, including the types of products or services offered, the franchise fee, and the royalties and other fees payable to the franchisor.
Territory: This section explains the territory in which the franchisee will operate and any restrictions on that territory.
Financial Performance Representations: This section provides information about the financial performance of the franchisor's existing franchisees. This information may include data on sales, profits, and expenses, but not all franchisors provide this information.
Franchise Agreement: This section contains a copy of the franchise agreement, which outlines the terms of the franchise relationship, including the length of the franchise term, renewal options, termination rights, and the franchisor's obligations to the franchisee.
Other Legal Disclosures: This section includes important legal disclosures, such as the franchisee's obligations for advertising and marketing, dispute resolution procedures, and any state-specific regulations.
Why is an FDD Important?
The FDD is an essential document that helps prospective franchisees make informed decisions about whether to invest in a particular franchise system. It provides detailed information about the franchisor's business experience, financial performance, and the terms of the franchise agreement. This information can help prospective franchisees assess the risks and benefits of investing in the franchise system.
How to Review an FDD
Reviewing an FDD can be overwhelming, but it is while crucial to understand the document before investing in a franchise. Some tips for reviewing an FDD include:
Seek legal advice: (Feel free to just contact us and we can help with this whole process) It is always recommended to seek legal advice before signing any legal documents, including the franchise agreement.
Start with the executive summary: This section provides an overview of the key points in the FDD.
Understand the fees: The FDD will outline the franchise fees, royalties, advertising fees, and other fees payable to the franchisor.
Consider the territory: The FDD will provide information on the territory in which the franchisee will operate and any restrictions on that territory.
Review the financial performance representations: If provided, this section can provide valuable information about the financial performance of the franchise system.
The 23 Items in the FDD
Here are the 23 items in the Franchise Disclosure Document (FDD) and a brief description of what information can be found in each item:
Item 1: The Franchisor and any Parents, Predecessors, and Affiliates - This item includes information about the franchisor's business experience, history, and financial condition.
Item 2: Business Experience - This item provides information about the backgrounds and business experience of the franchisor's executives and key personnel.
Item 3: Litigation - This item lists any past or present legal actions involving the franchisor or its key personnel.
Item 4: Bankruptcy - This item discloses whether the franchisor or its key personnel have ever filed for bankruptcy.
Item 5: Initial Fees - This item lists the fees and costs associated with purchasing a franchise, including the initial franchise fee and other start-up costs.
Item 6: Other Fees - This item provides information about ongoing fees and expenses, such as royalties, advertising fees, and other recurring costs.
Item 7: Estimated Initial Investment - This item outlines the estimated total investment required to start and operate the franchise.
Item 8: Restrictions on Sources of Products and Services - This item explains any restrictions on where the franchisee can purchase products or services.
Item 9: Franchisee's Obligations - This item lists the obligations and responsibilities of the franchisee, including site selection, training requirements, and operational standards.
Item 10: Financing - This item discloses any financing arrangements offered by the franchisor or its affiliates.
Item 11: Franchisor's Assistance, Advertising, Computer Systems, and Training - This item describes the franchisor's assistance, training, and other support services offered to franchisees.
Item 12: Territory - This item explains the geographic area in which the franchisee is permitted to operate.
Item 13: Trademarks - This item discloses information about the franchisor's trademarks and service marks.
Item 14: Patents, Copyrights and Proprietary Information - This item provides information about any patents, copyrights, or other proprietary information used by the franchisor.
Item 15: Obligation to Participate in the Actual Operation of the Franchise Business - This item explains whether the franchisee is required to participate in the daily operations of the business.
Item 16: Restrictions on What the Franchisee May Sell - This item lists any restrictions on the products or services that the franchisee may offer.
Item 17: Renewal, Termination, Transfer, and Dispute Resolution - This item explains the terms and conditions under which the franchise agreement can be renewed, terminated, or transferred.
Item 18: Public Figures - This item discloses whether any public figures endorse or have an interest in the franchise.
Item 19: Financial Performance Representations - This item provides information about the actual or potential financial performance of the franchise.
Item 20: Outlets and Franchisee Information - This item lists information about existing franchisees, including their contact information and operating history.
Item 21: Financial Statements - This item includes the franchisor's audited financial statements.
Item 22: Contracts - This item lists any contracts or agreements related to the franchise, including the franchise agreement, lease agreements, and supplier agreements.
Item 23: Receipt - This item confirms that the franchisee received the FDD at least 14 days before signing the franchise agreement.
Note that the contents of each item may vary slightly depending on the specific state regulations governing franchising. Prospective franchisees should carefully review all items in the FDD and seek professional advice if necessary to fully understand the information presented.
Have more questions?
The FDD is a critical legal document that provides detailed information about the franchisor, the franchise system, and the terms of the franchise agreement. Understanding the information contained in the FDD is essential for making informed decisions about investing in a franchise system. Prospective franchisees should carefully review the FDD and seek legal advice before signing any legal documents.
Contact us for more help, or to book a consultation with a franchise attorney who can help you review your FDD and franchise agreement.