Business and Franchise Tips

Over the past month, our office has gathered some basic information that relates to businesses and franchising, and more specifically to franchises in the restaurant industry. The basic information below is meant to help franchisors plan for the year and future growth and expenses. While some of the information has been taken from various publications and resources, some of the information is our opinion. The below is not legal advice or our promotion of any products or services and should not be construed as such.

1.    Bernstein Research in New York expects a 4% growth in restaurant sales in 2013—assuming the economy remains about where it is now.

   2.  OBAMACARE –the below are some statistics that are meant to help you understand the possible impact of the health care mandate.

a.    The Hudson Institute (for IFA) estimates the health care mandate will cost the franchise industry $6.4 billion dollars.

b.    McDonald’s estimates that it will cost $10,000 to $30,000 per store.

c.    Jack in the Box estimates the cost to be $10,000 per employee, but that the cost can be covered by a 1% increase in menu prices.

d.    Most sources and experts are recommending a price increase over cutting working hours, but that is in flux. Each franchise system needs to balance the fear of backlash relating to cutting working hours versus the fear of backlash relating to increased menu prices and/or loss of menu items.

e.    GE Capital believes the restaurant sector will ultimately weather this and will be able to cover the increase in costs through price increases alone. However, the amount of price increases and the public perception of an increase as the economy remains slow was not specifically addressed.

3  3.  CONSCIOUS CAPITALISM BY JOHN MACKEY

This book may be a helpful read to franchisors and business owners in all sectors. We have not read the book but several articles have referenced both John Mackey and his book in recent publications. John Mackey is the founder of Whole Foods. His basic theory is that the owners of a corporation should view the business as an opportunity to create value for the owners, employees and the communities where they do business. Value is defined in many different ways. In the long run a company that creates value will do far better because doing so changes the way the managers and other employees view what they are doing. However, it is important that the value created needs to become a central part of the corporate culture if this Whole Foods model is to succeed.  The book questions the traditional “profits and all costs” model as being often counterproductive and one that can readily create enemies.

4  4.  RULE OF THUMB FOR EQUITY CAPITAL –For Investors in a restaurant system

As a typical rule of thumb for restaurant acquisitions, the equity capital investor is looking for:

a.         $750 per square foot in sales;

b.         $300 per foot cost to build;

c.         18-20 percent unit level cash flow;

d.         Cash-on-cash return on investment of at least 40%

The above points and tips hopefully will help you in your business whether it is in creating growth, in creating a new corporate culture or in preparing your business for acquisition by another individual, company or investment firm. 

Annual Franchise Renewals

If you are a franchisor, you are (or need to be) aware that it is, for most franchise systems, franchise renewal season. It is that time of the year when you are required to update your FDD with any material changes and to include a new audit for 2012. It is important to note that for most franchise systems, if you do not update your FDD you will be unable to offer or sell franchises after April 30, 2013, and as early as March 31, 2013 in some registration states.

This post is meant to give some helpful tips on preparing for this hectic time of the year.

·         Order your audit early –as in today. In reality, we recommend that your audit be ordered no later than January 31, 2013. This is because audits can take time and you will not have a completely updated FDD without an audit.

·         Between now and early February, sit down with your sales team and/or those overseeing the franchise system to discuss what material changes you would like or need to make to the FDD and franchise agreement. This can be anything from a change in royalties to how training is conducted. If you have found that you are continuously waiving a “requirement” with each new franchisee, you will want to talk to your franchise attorney about whether or not that should be a material change. A good place to start is with your Items 5, 6 and 7 and make sure that all the amounts stated are still true and accurate.

·         Take time to accurately fill out Item 20. This is often left to the last minute, but the 5 required tables are important and should accurately reflect the status of the franchise system.

·         Review any ancillary agreements you require your franchisees to sign. According to the FTC Amended Rule, “franchisors are required to attach a copy of all proposed agreements relating to the franchise offering that the franchisor provides or for which the franchisor makes arrangements.” This can include a required lease agreement form, ADA Certification, Personal Guarantees, Confidentiality Agreements, ACH Agreements, and many others. You will want to discuss with your franchise attorney all the agreements you require or provide for your franchisees to determine if they are required to be included in the FDD.

The renewal process can be long and arduous. But if you follow the above tips and take the time early on, the process can be smoother and you will be able to offer and sell without any delay.

Several registration states offer guides and tips in helping you through the annual renewal process.

The California Department of Corporations 
The State of Indiana
The State of Virginia (franchise forms)

Additional Franchisor Liability From Franchisee Employees

Over the past several years franchisees have been claiming that they have employee based claims against the franchisor. This has been especially prevalent in the janitorial and other service based franchises. Now we are getting cases where employees of franchisees are making claims that they are employees of the franchisor in certain cases.

 

Generally franchisors have been able to say that they are a separate entity from the franchisee and therefore cannot be liable to employees of the franchisee. But recently in New York, employees of Domino's Pizza franchisees were able to amend their complaint against the franchisee employers to also include Domino's, the franchisor, for violations of the Fair Labor Standards Act and the New York Labor Law. This case is Cano v. DPNY, Inc.

 

While this case is still pending and the franchisor may not be held liable in the end, it is concerning that the court did not dismiss the amended complaint, as expected. Some of the reasons the court gave for not dismissing the amended complaint are based on the following actions by Domino's:

 

1) Domino's promulgated compensation policies and implemented them through the Domino's PULSE system which included tracked hours, wages and payroll records. These were submitted to the franchisor for review.

 

2) Domino's created management and operation policies and practices that were implemented at the restaurants by providing materials for use in training store managers and employees, provided posters and directions for employee's tasks and monitored that performance through required computer hardware and software.

 

3) Domino's developed and implemented hiring policies.

 

This is just one more reason for a franchisor to have their franchise attorney review their policies, including their operations manuals, to ensure that they are limiting their exposure to liability.

Franchise Registration Process

Initial Registration

For new and existing franchise systems, registration states can create a headache if the registration process is not handled correctly. The process can be time consuming and expensive, especially if not handled correctly the first time.

There are 14 registration states: California, Hawaii, Illinois, Indiana, Maryland, Michigan, Minnesota, New York, North Dakota, Rhode Island, South Dakota, Virginia, Washington and Wisconsin. The initial registration fees vary from $125 to $750. In each of these 14 states, a franchisor must not only comply with the FTC Disclosure Rule, but must also comply with the individual state rules which often impose additional disclosures and restrictions on the franchisor. Simply put, if you are interested in taking your franchise system into one of the above 14 states, you are restricted from offering or selling to either an individual residing in that state, or to an outside individual looking to franchise within that state.

As a baseline, all franchisors must comply with the FTC Disclosure Rule and have appropriate and compliant documents before offering or selling a franchise. From there, a franchisor can add state-specific addenda or create a state-specific FDD for registration purposes.

Depending on the registration state, registration is either immediate (meaning once the state receives the FDD packet and required documentation, the franchisor can begin to offer and sell in that state) or the registration will take time, after an examiner has reviewed all the provided documents to make sure they are compliant with state law. Often a state examiner will provide the franchisor with a list of issues that need to be addressed and corrected (a “Comment Letter”) before the state can register the franchise for offers and sales.

Renewal

Once a franchise is registered in a state, that registration is generally effective for a one-year period, after which the franchise must be renewed, for a fee, in that state in order for the franchisor to continue to offer or sell there. However, not all registration states count this “year” in the same way. Some states have an expiration one year from the date of registration. Other states have an expiration date of 90-120 days from the end of the franchisor’s fiscal year end. Your registration letter will provide the date of expiration. You should calendar this date and be aware that it might be sooner than expected.

Renewal is also required in all non-registration states. The difference is that once the disclosure documents have been updated (including an updated audit) then the franchisor can generally begin offering and selling franchises in non-registration states. (The one caveat here is that if the state is a business opportunity state, you must make sure you file the appropriate exemption before selling in that state.)

Exemptions from Registration

Both the FTC and Registration States provide limited exemptions to registration. These vary from state to state. In most instances, the exemption only removes the registration requirement, not the disclosure requirement. You will still need to have accurate and up to date documents, and to comply with the timelines for disclosure.

If you are looking at taking your franchise system into a registration state, you should speak with a knowledgeable franchise attorney to ensure compliance with state-specific laws and regulations.

A Spouse and the Non-Competition Agreement

The enforceability of a non-competition agreement on a non-signing spouse has been the source of much litigation over the years. The courts are divided as to whether or not a non-signing spouse can be held to the terms of the non-competition agreement. A recent Wisconsin ruling has brought this issue to the forefront of business owner’s minds as they try to sort through what can and cannot be enforced.

In Everett v. Paul Davis Restoration, Inc., 2012 U.S. Dist. LEXIS 133682 (E.D. Wis. Sept. 18, 2012) the Wisconsin court held that the non-signing wife had not directly benefited from her husband’s franchise agreement and therefore could not be bound. The court wrote, “In order to hold Ms. Everett to a contract she did not sign, PDRI must show that she benefitted directly from the contract, not the business that the contract made profitable.” This case is particularly egregious to many in the franchise industry due to the fact that the signing husband “sold” the business to his wife. He stopped being a franchisee, but his wife took the concept and began operating a competing business.

However, several other courts have held exactly the opposite. Tennessee, Indiana and Massachusetts all have cases that hold in favor of the franchisor or the business being harmed by the violation of the non-competition agreement by the non-signing spouse. (See: Servpro Indus., Inc. v. Pizzillo, 2001 Tenn. App. LEXIS 87 (Tenn. Ct. App. Feb. 14, 2001); McCart v. H & R Block, 470 N.E.2d 756, 761 (Ind. Ct. App. 1984); Sulmonetti v. Hayes (1964), 347 Mass. 390, 198 N.E.2d 297).

If you are a business owner, how can you know if your non-competition agreement will be upheld against a non-signing spouse? Ultimately, the courts finding a violation of the agreement against a non-signing spouse examine the issue on three levels.

First, did the spouse benefit from the agreement at the heart of the non-competition agreement? If a spouse worked in the business (franchise or otherwise) then there is a more likely argument that the spouse received an actual benefit from the agreement.

Second, is the non-signing spouse acting as the alter-ego of the signing spouse. Similar to a corporate veil argument, many courts will look at who is actually running the business and how much information from the prior business is being used to make the current business successful. One Illinois court put it this way, “there must be evidence that she aided or operated in concert with the covenantor to breach the covenant or that she was the alter ego of the covenantor.” Norlund v. Faust, 675 N.E.2d 1142, 1157 (Ind. Ct. App. 1997).

Third, how much confidential information did the non-signing spouse have access to? This is difficult to prove, but the greater the access to confidential information, the more likely the non-compete will be enforced.

The safest way to move forward if you are worried that a spouse might try and circumvent the purposes of the non-competition agreement, is to have every spouse sign an agreement. This presents problems in and of itself, but it does give the protection that many courts fail to provide to franchisors and other business owners.

Food Trucks -Part II: Franchising

Last week we posted on the food truck revolution in the United States. The post dealt with broad issues related to the food truck industry. Today’s post is about the food truck in the franchise context.

The Pros and Cons set out in last week’s post (Food Truck (R)evolution) all apply in a franchise setting. The ability to test a market, the advantage of the travelling billboard and ability to move to the customers all are advantages to a franchisor. However, determining whether or not a food truck can and should be a part of your franchise is something that takes a lot of consideration and analysis. This post is meant to give a few ideas on how a food truck could work into your existing franchise system, or how it can become a franchise system all on its own.

The existing franchise system can use the food truck in a number of ways. The most apparent way, at least to me, is to add a food truck as a separate franchise offering. Instead of offering a restaurant franchise in the traditional store-front sense, you can offer a prospective franchisee to become your food truck franchisee. The advantage is potential cost savings with lower overhead and start-up costs for the franchisee. If you do decide to go this route, you have the option of either wrapping in the food truck concept into your current Franchise Disclosure Document (“FDD”), or to have a separate FDD for the food truck concept. The decision on which route to take should be made with your qualified franchise attorney.

If you do not want to add the food truck as a franchise offering, you could purchase a franchise truck (or several), outfit it, wrap it and offer it for ‘rent’ to your franchisees in an area so that they can use it for special event purposes. This increases your exposure and helps to reach out to an audience that might not know your restaurant exists. This also is a great add-on benefit to your franchisees that are looking for ways to increase business and to get their name more fully into the community.

A new restaurant concept that starts as a food truck could expand their food truck business by offering food truck franchises. Unlike an existing restaurant franchise system, this type of franchise is limited to just the food truck. The advantage is that it potentially keeps franchisee costs down and gives someone the option for a (often seemingly) part-time business that the traditional store-front restaurant often does not allow for.

No matter how you choose to incorporate the food truck into your business, always talk to a qualified professional, including attorneys, and those in the industry, who can help you decide the best option for your business. 

The Food Truck (R)evolution

The food truck business has been around for decades. In recent years we have seen the food truck evolve from the ice cream truck to the truck with gourmet and specialty food offerings. Even television has picked up on the trend with the Food Network offering a reality show called The Great Food Truck Race.

Many have stated the food truck is a fad, but from what I have read, it appears that this next generation of food truck trend is here to stay. Many franchises are taking advantage of this trend and opting for a mobile expansion as part of their franchise offerings. Other food service businesses are opting for the straight food truck model forgoing the traditional brick and mortar location. There are pros and cons in determining both if the food truck business is right for you and whether it is a good business move for your business.

Pros

The biggest pro to the food truck option is the lower overall cost. A food truck is going to cost a lot less than a traditional storefront space. In addition, there are typically fewer employees and lower utility costs. And since location is everything in a business, the food truck can easily pick up and move its location to one that will better capture the market share. Food trucks also offer a level of convenience that many traditional restaurants struggle with.

This type of business is also a traveling advertisement. The traveling billboard saves on marketing and advertising dollars that a traditional restaurant would have to invest. With the growing interest in food trucks by the public, and the wider variety of food options offered by food trucks, free or low cost social media marketing was made for this type of business.

Food trucks also offer the customer a different type of food experience and because of the small size, it can provide for a more personal interaction between the owner and the customer. Businesses can engage the customer in a new way that may prove highly beneficial.

Lastly, the food truck offers the opportunity to test a market or location, without a lot of risk. If you are considering opening a traditional restaurant in a specific market or location, the food truck can help you determine relatively quickly and easily if there is interest in your concept.

Cons

If you think that a food truck will be an easy and simple business that you will only have to run 2-3 hours a day a couple of days a week, you are probably in for a big surprise. While open for businesses only 2-3 hours at a time, the successful food truck business can take up many more hours in a day. It has been referred to as a part time business requiring a full time effort.

The food truck that cannot get its food delivered quickly and efficiently to the customer, will fail. A food truck’s menu has to be compatible with the smaller layout and the different format for preparing and serving food. In one food truck experience I had, I waited for 35 minutes in 105º weather. Needless to say, they lost a customer. The business needs to be structured in a way to meet the expectations and needs of the food truck customer.

There are also more permits that may be required from the state, county and city/town which can often cost more in terms of time and money. 

Success in Franchising

When I tell someone that my business law practice focuses on franchising, I will at times get a blank stare. This is where I explain that franchising is a concept where a person licenses out their brand and business system to another person in order for that person to operate a similar business under the same name. If I am still getting a deer-in-the-headlights look, I will say, you know, like McDonald’s. Once the golden arches are mentioned everyone understands.

 

However, I was recently reading an online article from Entrepreneur Magazine about the top franchises[1]. The surprise I took away from this article was the fact that Subway outranked McDonalds on the list of America’s top 10 franchises and the top 10 international franchises.

 

I don’t know the exact ingredients that Subway has combined in order to make their franchise even more successful than the most well known franchise in the world. If I were to guess, I would not bank it on the popularity of Jared as a spokesperson, $5 footlongs, or the innovative and newest sandwich. Instead, I would guess that, in some way, Subway’s franchisees are making more money than McDonald’s franchisees.

 

Whenever I meet with a new startup franchisor, the number one thing I like to emphasize is that a successful franchise brand is one in which the franchisees are successful. There are other issues to consider for success, but a franchise system in which the franchisees have the ability to make money will grow. Successful franchisees will tell others about the franchise and franchise sellers and brokers will feel comfortable pushing the franchise brand over other brands.

 

Some other factors that go into the success of a franchise business include: having a teachable system in place; providing the proper amount of support to the franchisees; excellent training; creative branding; and good marketing. All of these things will help the franchise system grow. But when you really focus on these additional items, they all boil down to the same goal: helping the franchisee turn a profit.

 

So the next time you want to brainstorm about expanding your franchise business, first look to your system and see how you can help your franchisees increase their profits. This will help you increase the number of franchises in your system. Maybe one day your system will be even more recognizable than the golden arches.

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[1] http://www.entrepreneur.com/slideshow/222422

Tips On Being Ready To Franchise Your Business

Franchising your business is a great way to expand your business without the requirements of upfront capital that company expansion would require. Franchising may appear to be the “golden ticket” to financial security, but if you and your business are not ready to enter into the business of franchising, then the seeming golden ticket may end up being a mirage. This post is meant to give an overview of things you want to think about before taking the giant step into the world of franchising. Remember, if your business is not ready for franchising, pushing it there might result in ultimate failure.

What is your Golden Egg? The reason the golden egg was worth such sacrifice and effort to obtain in the fairy tale of Jack and the Bean stock, was because it was unique. Everyone can obtain a regular egg, but the golden egg? that was unique and difficult to procure on one’s own. If you are considering taking your business to a franchise business, you need to have that “golden egg.” You need to know what would draw a potential franchisee to not only consider your franchise concept, but pay you to be a part of it. This does not mean that your concept has to be a one of a kind or extraordinary concept or service, but the way it is done, or the manner it is procured needs to be something that would compel someone to buy. Closely examine your business to find out what unique element, idea or service you can offer your franchisees.

Is your business a proven concept? Another way to ask this question is whether your business has worked out most of the kinks and if your business is “turnkey” ready. A startup concept is typically not ready for franchising because the concept has not been worked out and tested in the market. Even if you have just a couple of stores or units open and operating, if they are successful and the public is accepting of the business, then your business model may be ready for franchising. There is no hard and fast rule as to how many stores or units need to be in operation before you are ready to franchise, but

Is your business easy to learn? A successful franchise concept is going to be easy to learn. Some franchising guides will ask if your business is easily replicated. You may be worried that if your concept is easy then others will steal the idea and leave you behind. This is a risk with any business; but remind yourself of the first point above. A unique business does not have to be difficult to explain or replicate –it just has to be unique in some way. You want your franchisees to be able to understand the concept immediately and to feel comfortable that they can be successful. A business model that can be easily taught and duplicated for your franchisees is a key element in being ready to franchise.

What is being sold –you or your business? Take a step back and determine whether your business is successful because of your stellar salesmanship, or the location, or another extraneous factor, or is it successful because of the concept meaning it can be successful if run in most locations and by most people. Of course this is generalizing things, but the point is, the concept itself needs to be saleable. If you take the super star location away or the super star salesperson away, will your concept still work. If the answer is yes, then you are on the path to being ready to franchise.

Do you have the time to sell and teach your business? Franchising is a new business. You may have a successful business model for a store that you have been running, but franchising will take you away from that business and require you to focus on the new business of franchising. Some of the most successful franchises are those where the franchisor is committed to helping franchisees succeed and take the time to train. Most successful franchisors are dedicated to producing a symbiotic relationship with their franchisees.

Do you have sufficient capital? While franchising requires less capital than self expansion would require, franchising is a business in and of itself, which requires capital. Here are just a few of the areas you will need to spend a substantial amount of money on: 1) Attorney fees. There are many regulations and rules at the federal and state level that are imposed on franchisors. In addition, there are regulated documents that must be provided to each potential franchisee and the requirements for those documents are strictly enforced. 2) Accountant fees. Every start-up franchise will need to provide an opening balance sheet and in some states, an audited balance sheet is required. You will also want to work with an accountant to set up your accounting system for franchisees, including how royalties will be collected, and what line items should be included in the reporting by franchisees. 3) Staff. Franchising is a new business and requires staff with a different set of skills than you have probably hired for your own business concept. You will need sufficient support staff. 4) Advertising. Every franchisor needs to understand the value of advertising and marketing. You will need to promote your franchise in order to sell your franchise.

The above are just pointers and there are exceptions to most rules. However, by going through the list you can feel more confident in your decision to hold off on franchising or to move forward with franchising.

U.S. Business Expansion in the Middle East

One of the hottest places to expand a franchise internationally is the Middle East. This is due to several factors, most among them is the fact that the area is very wealthy and is eager to expand its U.S. brand presence. Since the 1990’s several U.S. based franchises have expanded into Kuwait with further expansion in the UAE and Saudi Arabia in the last 5-10 years.

Many small businesses are seeking the international expansion route in the Middle East as a source of expanding their revenue stream. This week, Bloomberg Business Week provided a look at how small businesses are taking advantage of the opportunities in the Middle East (see http://www.businessweek.com/articles/2012-06-21/small-u-dot-s-dot-franchises-head-to-the-middle-east).

While there is a great opportunity for expansion in the Middle East, there are some precautions that a business owner should keep in mind. First, if your business is in the food industry, you will likely have to comply with Halal Certification which regulates the preparation of food and meats. Most countries in the Middle East do not have franchise specific laws and regulations, which opens the business owner up to compliance commercial agency laws and in many instances, Shari’a Law as well.

If you are seeking to expand your business into the Middle East, it is recommended that you have both U.S. based and Middle East based (country specific) legal counsel. Together, your legal team can help you prepare for the complexities of international expansion and to comply with the various laws and regulations that can affect your brand from trademark registration to Shari’a Law compliance.

Franchisor Guide to Common Mistakes in Selling Franchises

Last week we blogged about the top franchisee missteps and mistakes when purchasing a franchise; this week, we thought we would focus on franchisor missteps and mistakes when selling franchises. Generally these arise in two categories: 1) misrepresentations in the disclosure documents provided to prospective franchisees; and 2) failure to know and follow the procedural requirements during the sales process.

1. Misrepresentations. All franchisors must give a prospective franchisee a franchise disclosure document (FDD) prior to entering into a franchise sale. The FDD has 23 sections and hundreds of specific issues that must be disclosed to the prospective franchisee prior to entering into a franchise agreement. Just providing an FDD is not enough – it must be materially correct and not misleading. The consequences for inaccurate information can be severe.  Some of the areas that are regularly inaccurately disclosed include the following:

        a. Supplier rebates. Supplier rebates not only pertains to actual rebates that the franchisor may receive from suppliers due to franchisee purchases, but also applies to any other benefit that the franchisor receives from the supplier due to the franchisee purchases.

        b. Territorial rights and restrictions. Often the FDD will not accurately define the territorial rights of the franchisee and will fail to correctly disclose the franchisor’s reservations. If this is not clear and a dispute arises in the future, the franchisor may be more vulnerable to a lawsuit by the franchisee.

         c. Start up costs. The franchisor is required to provide the prospective franchisee with an accurate estimation of the startup costs for opening a franchise. Often this information is inaccurately reported in order to show a lower cost investment to help entice franchisees to purchase the franchise. However, this can be very dangerous for the franchisor. This is one of the easiest ways for a franchisee to show inaccuracy in the FDD provided by the franchisor.

2. Procedural Requirements. Under the FTC Franchise Rule, there are very specific rules related to providing disclosures, waiting periods and restrictions on what franchisors can tell a franchise prior to completing a franchise sale. If your franchise sellers do not follow the rules for franchise sales, the franchise sale may be illegal and lead to serious consequences, such as rescission of the franchise agreement by the franchisee. Some of the common mistakes include:

            a. Receipt page. Failing to collect a signed receipt page after sending the disclosure document to a prospective franchisee. Under the FTC Franchise Rule, the franchisor must keep a copy of all receipts for 3 years, whether or not the prospective franchisee purchases the franchise or not. This is the best defense to show that the FDD was provided and show that the waiting period was met. Too often the franchisor does not have this document when a problem arises with a franchisee.

            b. Waiting period. Not waiting the full 14 day period before collecting money or signing a binding agreement. Under the rule, the franchisor must send the FDD and give the prospective franchisee a full 14 days to review the documents.

            c. Earnings claims. Providing financial performance representations also known as earnings claims, either verbal or written, outside the FDD. Under the rule, the franchisor may provide numbers on historic or projected earnings ONLY within Item 19 of the FDD. There are certain disclosures and cautions that the franchisor must also provide with this information. Often sales staff will give out numbers that can be construed as financial performance representations. Even if these are accurate numbers, the rule only allows this information to be provided if it is in the FDD with the required cautions and warnings.

            d. State registrations. Some states require that the franchisor register its FDD with the state prior to selling (or even offering to sell) franchises in the state. Too often sales staff will offer a franchise or sell a franchise to a person who is in a registration state or plans to open the franchise in a registration state, without knowing if the franchisor’s FDD has been registered. This sort of action can create a rescission action for any contract entered into and it can also trigger fines and fees from the registration state. If the action is in blatant violation of the law, it may cause the state to disallow any further franchise sales in the state by the franchisor.

All of these issues can be avoided by ensuring that you provide accurate information to the attorney preparing your disclosure documents, regularly update your FDD for any material changes to the franchise system, and train your franchise sellers to understand the rules required to sell franchises.

Top Franchisee Missteps and Mistakes

With renewed SBA funding by the current administration, now is the time to start thinking of buying a franchise. If you are looking at buying a franchise, there are common missteps and mistakes that you want to avoid. Most of these are simple and will not cost any additional money, but they are incredibly important to keep in mind as you negotiate yourself through the thick packet of documents know as the Franchise Disclosure Document and the Franchise Agreement. This is our top 10 list of common franchisee missteps and mistakes (in no particular order):

1. Not Reading Everything. To make an informed decision as to whether or not this is a good investment for you, you absolutely need to read every document provided to you. It seems like a daunting task, but it is worth it. This is a legal obligation you are considering and if you don’t know what your obligations are, you cannot make an informed decision and I promise, you will discover down the road that you agreed to something you had no idea about. Don’t be surprised or caught off guard.

2. Not Taking Enough Time. You may feel pressured to read through everything and sign on the dotted line quickly, but the truth is, you have time so take it. Remember, you have at least 14 days before you can sign anything or pay any money.

3. Having the Right Documents.  Make sure you have the most current Franchise Disclosure Document (FDD) and Franchise Agreement. If you are talking to a franchisor in June 2012 but you have a 2011 FDD, then there is something wrong. Remember, the franchisor is under federal and state requirements to have an annually updated FDD to provide to prospective franchisees. 

4. Failure to Understand the Product/Service. The franchise may appear to be a great idea, but do you really understand what you are selling or offering to the public? You need to be comfortable with your business and to know how to sell it. This due diligence step is often overlooked to the detriment of the franchisee.

5. Failure to Contact Current and Prior Franchisees. This takes time, but remember #2 above –take time. This includes calling up all the current and former franchisees in a small system and a lot in a mid-size to large-size system. You need to ask questions such as: a) how is their relationship with the franchisor; b) are there problems with the franchise system that are or are not being addressed; c) do they still feel like it was a good investment; d) what is their revenue; e) any advise in making the decision to purchase this franchise. This is just a short list and there are a lot of questions you can ask franchisees. They are an incredibly valuable resource that is often overlooked.

6. Failure to Have Adequate Initial Financing. While the FDD discloses the amounts estimated to start your franchise business, you need to plan for the unexpected. Not having sufficient working capital while in the initial phase of your franchise business could leave you without a business at all.

7. Failure to Have Sufficient Long-Term Capital. The franchise system you purchase is going to change. You will be expected to remodel, to upgrade software, hardware and equipment, and to possibly rebrand the business –all your own expense. Planning for the future by having planned for long-term capital needs will help sustain your franchise business.

8. Underestimating the Time Commitment. Buying a franchise is starting a business. You have a head-start in that you have a recognizable name, but you are still the owner of your own business and that takes a lot of your time. Make sure you are prepared to dedicate the time necessary to make your franchise business succeed.

9. Not Getting It In Writing. Whether you have an experienced franchise attorney helping negotiate for you or not, you need to make sure you get everything in writing. No matter how great the franchisor is today, if there is ever a dispute, you will wish you had that promise to lower royalties in 6 months in writing.

10. Not Marketing. There is a reason that most franchise agreements require a franchisee to spend money on marketing and advertising. Advertising and marketing works. Products and services don’t sell themselves. And remember, your competitor is spending time and money on marketing and advertising so don’t lose a sale to them.