FDD Disclosure Exemptions for Franchisors: Capitalized Facilities and Large Franchisee Investments
.jpg)
As franchise counsel I am a strong proponent of “disclosure” – the more of it, the better. Quality disclosures contained in your FDD serve a critical role in mitigating future litigation risk and expense. So, when it comes to FDD disclosure exemptions, we typically proceed with extreme caution. Nevertheless, in the appropriate circumstance, franchisors should consider or at least be aware of potential tools available to them when it comes to potential disclosure exemptions to the Federal Franchise Rule.
One such exemption relates to “Large Franchisees”. The “Large Franchisee Exemption” was incorporated into the federal franchise rule to alleviate and lessen disclosure requirements when dealing with “sophisticated” franchisees. The criteria established by the federal rule are related to “high net-worth” franchisees and certain qualified insiders. The “large franchisee exemption” may be applicable – subject to qualification – to the following individuals / entities / institutions:
- Franchise sales involving ongoing entities such as airports, hospitals and universities with at least $5 million net worth and five years of prior business experience;
- Franchise sales where the initial investment is at least $1 million exclusive of unimproved land and franchisor financing; and
- Franchise sales with “insider” franchise purchases involving owners or officers of the franchise sytem, or managers with at least two years’ management experience in the franchise system.
Before adopting and relying on a disclosure exemption, careful analysis should be given to (a) satisfaction of federal and state law, and (b) a cost-benefit analysis as to the extra burden and cost that disclosure would require. From a litigation standpoint legal counsel for franchisors must be aware of these disclosure exemptions as potential defenses in litigation involving alleged disclosure violations.
Funny, I was just talking about this very issue with a senior QSR franchisor. In his 25+ years, none of the franchise systems ever took advantage of this exemption.
This reason is straightforward: give the prospect an FDD, and you have a number of ways to win on summary judgment regarding the most common complaint - earnings misrepresentations.
1. The prospect signed a questionnaire stating that no one from the franchisor gave him any earnings claims.
2. The prospect signed for the FDD in which the item 19 restricted the range, if any, of earnings claims.
3. The prospect agreed in the franchisee agreement that there were no oral representations outside the franchisee agreement that he relied upon - and that he knew about this during his due diligence phase.