How Franchise Sales Laws
Affect The Franchise Sales
Process
Starting A Franchise
Washington, DC Economic Partnership
Presented By: Carl E. Zwisler
Gray Plant Mooty
Wednesday, January 12, 2011
How Franchise Laws Help New
Franchisors And New Franchisees
• What is a franchise which is subject to
franchise regulations?
• Which laws regulate franchise sales in
metropolitan Washington, DC?
• What does the FTC Franchising Rule
require franchisors to do?
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• What additional requirements do the MD
and VA franchise laws impose on
franchisors?
• How do these laws help:
– new franchisors?
– prospective franchisees and franchisees?
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What Is A “Franchise”
For Purposes Of USA Laws?
• FRANCHISING DEFINED by FTC Rule*
• Trademark (™) or service mark license
• Promise of:
– Substantial assistance or
– Substantial control regarding the operation
of a Business
• Payment of a Fee
*
State definitions differ somewhat
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How Is Franchising Regulated?
• Two general types of laws apply to
franchisors
– Franchise sales laws
– Franchise relationship laws
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What Are Franchise Sales Laws?
• Franchise sales laws regulate when
and how a franchise may be offered
and sold.
• The Federal Trade Commission
Franchising Trade Regulation Rule
(“FTC Rule”) is a federal law which
applies to all franchises offered and
sold in the USA
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FTC Overview
• When must FDD’s be delivered to
prospective franchisees?
– 14 calendar days before:
• Paying a fee
• Signing an agreement
– Earlier if reasonably requested
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When Must Prospective
Franchisees Be Given Complete
Agreements?
• Franchisees must receive franchise
contracts containing all material terms at
least 7 calendar days before the
franchisee signs the agreements, but
only if standard disclosed agreements
are unilaterally changed by Franchisor
• e.g. if description of an exclusive
territory was not contained in disclosed
franchise agreement
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What Is The FDD?
• The FDD is a form of disclosure
which is designed to satisfy
disclosure requirements of the FTC
Rule and state laws
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What Is The FDD?
• TABLE OF CONTENTS
• ITEM
• 1. The Franchisor and any Parents, Predecessors,
and Affiliates
• 2. Business Experience
• 3. Litigation
• 4. Bankruptcy
• 5. Initial Fees
• 6. Other Fees
• 7. Estimated Initial Investment
• 8. Restrictions on Sources of Products and Services
• 9. Franchisee’s Obligations
• 10. Financing
• 11. Franchisor’s Assistance, Advertising, Computer
Systems, and Training
• 12. Territory
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What Is The FDD?
• TABLE OF CONTENTS
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ITEM
13. Trademarks
14. Patents, Copyrights, and Proprietary Information
15. Obligation to Participate in the Actual Operation of
the Franchise Business
16. Restrictions on What the Franchisee May Sell
17. Renewal, Termination, Transfer, and Dispute
Resolution
18. Public Figures
19. Financial Performance Representations
20. Outlets and Franchisee Information
21. Financial Statements
22. Contracts
23. Receipts
24. Exhibits
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Updating
• FDDs must be updated:
– whenever information required to be
disclosed changes materially;
– annually within 120 days of the
franchisor’s fiscal year end
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Exemptions
• $ 1 Million initial investment
• $1 Million includes investment in multiple
franchises under: Area Development and
Master Franchise Agreements
• $1 Million does not include:
– Amounts financed by the franchisor and its affiliates.
– Investments in unimproved real property (“raw land”)
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Exemptions
• $5 Million net worth and 5 years
business experience of franchisee, its
parent or affiliates.
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Exemptions
• Franchise Officers, Managers and
Owners
• If Franchisor or one or more of its
officers, directors, general partners,
owners, or managers…
– Owns at least 50% of prospective
franchisee, the sale is exempt if:
• as of 60 days before the franchise sale, officers
managers, or partners, etc. have been associated
with the franchisor for at least 2 years, and
• owners have owned at least 25% interest in
franchisor for at least 2 years
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How Do States Regulate
Franchise Sales?
• Franchise registration and disclosure
laws
• Business opportunity laws
• “Little FTC acts” or consumer protection
laws
• Common law prohibiting fraud and
misrepresentation
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Franchise Registration And
Disclosure Laws
• Franchise sales laws regulate franchise
offers and sales in 15 states, including
MD and VA
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State Franchise Registration
And Disclosure Laws
Washington
New Hampshire
Montana
North Dakota
Vermont
Minnesota
Maine
Oregon
Mass.
Wisconsin
Idaho
South Dakota
New York
Wyoming
Iowa
Nevada
Pennsylvania
Nebraska
Illinois
Utah
Indiana
Ohio
Rhode
Island
Connecticut
New Jersey
Delaware
Colorado
Kansas
Missouri
Virginia
Maryland
Kentucky
Arizona
North Carolina
Tennessee
Oklahoma
South
Carolina
Arkansas
New Mexico
Alabama
Georgia
Texas
Louisiana
Hawaii
Florida
REG/DIS
Alaska
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Puerto Rico
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What Must Franchisors Do To
Comply With State Franchise
Registration And Disclosure Laws?
• File an application which includes an
FDD with a state agency for approval
• A filing fee of $250 - $600
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What Do State Agencies Review?
• FDD and franchise agreements to
determine compliance with disclosure
format requirements and state
relationship laws
• Financial statements to determine
franchisor’s ability to fulfill duties to
franchisees
• Litigation history of franchisor and
executives to determine whether their
involvement creates unreasonable risk
to franchisees
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When Must Franchise Filings
Be Made?
• Before making an “offer” of a
franchise
– In or from a state with a registration law
– To a resident of a state with a
registration law
– To one purchasing a franchise to be
located in the state (sometimes)
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Advertising
• All forms of advertising for franchisees
are regulated as offers, including
internet advertising, and usually must
be approved before use
• N.B., state review, not federal
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How Long Is A Registration
Effective?
• Usually for one calendar year, or
until 90 - 120 days after franchisor’s
fiscal year end
• Amendments to registration are
required if a material change occurs
to required disclosures
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Sources Of Franchise Disclosure
Documents
• www.corp.ca.gov/CalEASI/caleasi.asp
Caleasi is an official site of the California
Department of Corporations, which
retains files of franchises which are
registered under the California
Franchise Investment Law
• Two other sites which offer free access
to FDDs are:
– www.OpenFran.org
– www.FreeFranchiseDocs.com
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How The Franchise Disclosure
Requirements Help New
Franchisors
• Preparing an FDD forces new
franchisors to consider issues relating to
their franchising programs which would
often be overlooked
– Territorial rights and
restrictions
– Purchase restrictions
– Franchise renewal
– Restrictions on transfer of ownership of the
franchisee
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How FDDs Help Prospective
Franchisees
• Contact information for current and
former franchisees
• Financial statements
of the franchisor
• Initial investment estimates
• Litigation, bankruptcy and
franchise turnover
information
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How Franchise Sales Laws Help
Franchisees
• FTC and state enforcement actions
• State laws provide right to recover
damages or to obtain rescission
when a franchisor violates them
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What Franchise Sales Laws Do
Not Do
• Assure that a business
will be successful
• Prohibit a franchisor from
making bad business
decisions
• Provide information about earnings of
franchisee- and franchisor-owned units
(in most cases)
• Prohibit franchisors from using contract
provisions which franchisees may
consider to be unfair (in most cases)
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How Can New Franchisors and
Franchisees Best Protect
Themselves?
• Use experienced franchise professionals
• Read and seek to understand all legal
documents. If they are not intelligible,
the franchise program is destined for
problems
• Obtain references
for
– Franchise
professionals
– franchisors
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• Trust your instincts. If it does not feel
right, don’t do it
• Obtain FDDs from
industry competitors and
understand their competitive
advantages and disadvantages
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Sources Of Information On
Franchising
• “Franchising Basics: The Official IFA
Course,” available online at
www.franchise.org
• Informative Articles:
– How United States Laws Regulate
Franchising: An Overview of Franchise
Law for Franchisor Executives
– How To Evaluate A Franchise
• e-mail Kimberly Bradshaw at
kimberly.bradshaw@gpmlaw.com
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Carl Zwisler
• Principal
• 35 years representing franchisors and master
franchisees in domestic and international
franchise transactions
• Former IFA General Counsel
• Author:
– Master Franchising: Selecting, Negotiating, and
Operating a Master Franchise, Commerce Clearing
House, 1999
– International Franchising: A Practitioner’s Guide,
chapter “Selecting a Format for International
Franchising”
• Author/presenter of more than 100 articles and
presentations on all facets of international and
domestic franchising
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Thank you.
Carl E. Zwisler
Gray Plant Mooty
2600 Virginia Avenue, NW
Suite 1111 – The Watergate
Washington, DC 20037
Phone: 202-295-2225
Facsimile: 202-295-2275
carl.zwisler@gpmlaw.com
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