New York Franchise Law Blog : Franchise Lawyer & Attorney Charles N. Internicola, Providing National Representation of Franchisees and Franchisors

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.

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When it comes to identifying the "governing documents" that serve as the the infrastructure for a franchise system, it is extremely difficult to overstate the significance of a franchisor's "operations manual" and the critical role that it serves.  Designed to inject a form of flexibility into the franchisor - franchisee relationship (compared to the static terms contained in the franchise agreement) the operations manual (if properly referenced and identified in the franchise agreement)  the operations manual should serve as a critical vehicle to enable you to consistently refine, further develop and modify (within reason) the components of the franchise system and the day-to-day obligations of franchisees. 

Considering the interdependent relationship between the "franchise agreement" and the "operations manual", it is critical that franchisors constantly refine, update and supplement the operations manual to insure that the operations manual accurately identifies and reflects:

• Current franchisee training obligations.
• Current Area Developer and Area Representative training obligations.  Keep in mind that if you offer multiple franchise opportunities that go beyond a "single unit franchise" you must maintain separate operations manuals.  That is, if you offer area development or area representative rights, you must prepare and maintain a separate operations manual for area developers and area representatives;
• Current approved suppliers and vendors;
• Current architectural plans and specifications;
• Current rules and restrictions respecting the utilization of trademarks and trade dress; and
• Current procedures respecting the reporting of gross sales and reporting information;

There are many other topics that must be maintained and continuously updated in the operations manual.  However, the key is to consistently implement a franchise compliance program that is focused not only on the annual renewal of your franchise registrations but also the overall composition and accuracy of the operations manual.  Otherwise, should franchisee litigation arise, you may be exposing your franchise system to unnecessary "legal headaches" and potentially frivolous claims. 

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Methods for achieving solid and sustainable levels of "multi-unit" franchise system growth and expansion are typically achieved through one or a combination of the following development models: (a) Area Development Agreements, (b) Area Representative Agreements, and (c) Master Franchise Agreements. Although there is no definitive formula as to the structure of each respective model, franchisors and their legal counsel must be aware of the core characteristics of each model and the associated FDD disclosure obligations.  Most significantly, franchisors need to proceed with caution and be aware that there is significant conflict between the Federal Franchise Rule and a multitude of state franchise laws as to the treatment of these development models.  For example, what constitutes and qualifies as an "Area Representative Relationship" under the Federal Franchise Rule, may constitute and be deemed a "Master Franchise Relationship" under state franchise laws.   

The following is a brief review of these development models and some factors that franchisors should consider:

• Area Development Agreements.  Area Development Agreements afford franchisees the obligation and right to establish and operate multiple franchise units within a proscribed territory. In its most common form, an Area Development Agreement affords a franchisee, in exchange for a "development fee" (which is separate and apart from a franchise fee), the obligation and right to develop a proscribed number of individual franchise units within a defined territory.  The Area Development Agreement will identify the development schedule and, in certain instances, provide the franchisee with a discount on initial franchise fees.  

Some Factors to Consider:  Area Development Agreements have become extremely common and serve as a useful tool in accommodating multi-unit sales to owner-operator franchisees. The Area Development Agreement serves as a supplement to the franchise agreement and as each franchise unit is developed the franchisee will be required to sign the franchisors current franchise agreement.  Area Development Agreements must be separately disclosed in your FDD.

• Area Representative Agreements.  Area Representative Agreements - unlike Area Development Agreements - do not relate to the area representatives "establishment and operation" of franchise units but, rather, to the area representatives obligation and right to sell franchises to third-parties within a proscribed territory.  In many instances an area representative serves a sales and training function on behalf of the franchisor.  Although area representatives are not granted the authority to sign franchise agreements, they are responsible for franchise system sales and training within the proscribed territory.  Area representatives receive compensation in the form of a percentage of the franchise fees and royalties generated from franchisees in the proscribed territory

Some Factors to Consider:  I do not reccomend Area Representative Agreements for the "start-up franchisor".  However foir well established franchise systems - with the necessary procedures and controls - Area Representative Agreements may serve as an important tool for system growth and, basically, outsourcing of administrative and managerial obligations.

Caution:  When dealing with Area Representative Agreements and relationships, franchisors must be aware that information about the area representative and the area representatives role and obligations must be extensively disclosed in the FDD , and (ii) Many states treat "area 

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Trademarks comprise a fundamental component to all franchise systems.  So much so, that FDD "Item 13" is exclusively devoted to disclosures respecting the existence, registration, maintenance and defense of a franchisor's trademarks.  Franchisors that are serious about their "systems" must also also be serious about the protection of their trademarks.  

So, what are some of the factors and steps that serious franchisors (both start-up and established) understand about their trademarks?  Here are a few:

• Trademark Registration is Critical.  This point relates to start-up franchisors and comes down to a basic point: "don't sell a franchise until you register your primary trademarks with the United States Patent and Trademark Office ("USPTO")". Selling your first franchise without first securing USPTO registration will invite unnecessary "litigation risk" should your registration application be rejected or your mark challenged.

• USPTO Registration does Not Insure a Strong Trademark. The "legal value", strength and enforceability of your trademark will be influenced by a number of factors irrespective of your registration status.  Although USPTO registration is an important factor, by itself, it may not be enough.  Additional factors that you must consider and evaluate relate to the "legitimate" use of similar marks by third parties and whether or not your mark is comprised of "descriptive" terms.  Generally, registered trademarks that are comprised of descriptive terms  (i.e., such as "bakery", "store", "spa",   "rapid", and other terms that "describe" your goods or services)  will be afforded less protection than trademarks that are comprised of terms that are "arbitrary" (i.e., words that have no relation to the goods or services of your business).

• Periodic Evaluate your Marks and Registrations.  As systems and business develops, typically, so do trademarks. Over time, franchisors modify existing marks, develop new marks, expand usage of a particular mark (i.e. to a new business category) and, in certain instances, discontinue the use of a mark.   It is critical to insure that your trademark registrations remain current and reflect your "current" usage of your marks.  This "evaluation process" need not be complex nor expensive an open line of communication between management and franchise counsel.  

As your franchise develops and expands the value of your system, brand and owner equity will become more and more dependent on the strength and enforceability of your intellectual property assets.  Trademarks are a big part of your "IP" asset structure and they require serious attention. Strong trademarks are a big part of strong franchise systems.

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Franchise systems have various life cycles and require time to mature and develop the necessary systems and infrastructure to expand. For franchisors, many times, the biggest strain on their franchise system relates to and is traced back to an overambitious rate of expansion. While there are many considerations, motivations and good reasons why your should be aggressive about unit growth, you must nevertheless proceed with extreme caution and evaluate whether or not your systems are capable of supporting your planned levels of expansion. Some factors to consider, include:

• The current location of your franchisees and whether or not expansion should be reserved and limited to designated geographic locations;

• The capacity and capability of your supply chain and whether or not you have lined up the necessary vendors to supply your franchisees and maintain the necessary levels of quality control;

• The capacity of your management and marketing team and your ability to maintain consistent levels of quality control, franchisee development and overall system development;

• Whether or not your internal in-house legal counsel or outside franchise attorneys have implemented clear quality control measures respecting the delivery of your FDD, the management of your franchise agreements and the constant assessment and protection of your trademarks and intellectual property.

Great franchise systems do not need to be large – they just need a coherent plan and sustainable plan for system growth and a management team committed to quality over quantity.

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I am a firm believer in the efficiencies and economies of scale that may result from operating multiple franchise units.  Provided that you are a dedicated business person and that you are operating within a solid franchise system, the advantage and benefit of operating multiple franchise locations may be substantial.  Of course, if things are not going well, owning and operating "multiple units" may serve to double or triple your difficulties.  If you are a prospective franchisee considering the potential investment in a multi-unit franchise opportunity (i.e., where you obtain the "right and obligation" to develop more than one franchise unit with a proscribed geographic territory) you must carefully consider and evaluate the advantages, if any, that will result from any potential “mult-unit opportunity”.

When evaluating a multi-unit franchise opportunity your starting point must involve a thorough analysis of the franchisors FDD and a clear analysis as to the substantive rights that you will be acquiring as compared to the additional "legal obligations" and expenses that you will be assuming. Factors that should be evaluated include:

• What is the amount of the development fee that you must pay to acquire the multi-unit development rights?

• Will you be afforded a discount to the franchisor’s fixed ”initial franchise fee”; If a discount exists will the discount allow you to recoup the additional initial development fees that you will be required to pay to the franchisor?

• Will you be afforded a protected territory that possesses sufficient demographics and territory size to permit your "profitable" development of the franchise units that you will be required to develop?

• Will you receive a reduced royalty structure as you develop additional franchise units, or, will you be paying the same royalty rates as single-unit franchisees?

• What are the minimum number of franchise units that you must develop?

• Is the development time-table sufficient for your development of the required number of franchised units;

I am a strong proponent of multi-unit franchising and believe that for the right franchisee, multi-unit franchising presents a significant opportunity. However, much will depend on the franchisor, the franchise opportunity and your ability to develop and manage multiple franchise units. If multi-unit franchising is something that you are considering, you must also recognize that there may be additional opportunities (when compared to the negotiation of a single unit franchise) to negotiate and refine the terms of your franchise agreements.

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The maintenance of a "current and updated" FDD represents one of the primary regulatory requirements imposed on a franchisor.  Failure to maintain a current FDD and/or renewed state registration will result in either lost franchise sales (since franchises cannot be sold) or litigation exposure (in the event that sales are made during a period of non-compliance).  Although the timing of the FDD updating process is well understood (and not often disputed) it is nevertheless important for franchisors and their management team to recognize the significance of maintaing a "current FDD" and the timing of when an FDD must be updated.  

Starting with the premises that the information and disclosures contained in a franchisor's FDD must be current, under the federal franchise rule, Franchisors are required to update their FDD under the following three circumstances:

• Annually (Mandatory).  Franchisors must update their FDD no less frequently than annually.  Annual revisions and updates to an FDD must occur within one hundred and twenty (120) days from the close of the franchisor's fiscal year;

• Quarterly (If Material Change Occurs). If events or circumstances materially change information or disclosures contained in the FDD then the FDD must be revised.  The revisions will be attached to the current FDD and must be reported "within a reasonable time" from the close of the franchisors most recent fiscal quarter;

• Immediately (When dealing with Item 19). When providing a prospective franchisee with a disclosure document a franchisor must also immediately notify the prospective franchisee of any and all material changes that the franchisor knows or should have known about respecting any Item 19 financial performance representations contained in the FDD.

Knowing when to update your FDD is not a complex process, however it does require organization and the implementation of safeguards to ensure that your financial performance representations (if any) are continuously monitored and that your management team discusses and evaluates the status of your FDD disclosures on a regular basis. 

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Many times, "start-up" franchisors (and, too often, some established franchisors) overlook the necessity of maintaining a thorough operations manual that is both "current and relevant" to the particular franchise system. That is, many times operations manuals are viewed as an "afterthought" or a"generic" obligation to be sourced out to third party vendors.

Much more than a "generic resource", your operations manual must be drafted, updated and maintained as an integrated extension of your franchise agreement and FDD disclosures. Recognizing the critical importance of a properly prepared and integrated operations manual, startup and established franchisors should consider the following:

• Franchise agreements are typically drafted and structured to integrate and obligate franchisees to abide by both current "and future" operational requirements set forth in the operations manual. If the franchise agreement is drafted properly, the operations manual should create "contractual flexability", allowing the franchisor to modify elements of the franchise system through amendments and supplements to the operations manual.

• Your operations manual must serve as a thorough blueprint to provide franchisees with detailed "how to" information respecting each and every administrative and operational element of the franchise system.  

Examples of "administrative obligations" include (a) the franchisees royalty and financial reporting obligations, (b) franchisees financial record retention obligations, and (c) system requirements for point of sale systems. 

Examples of "operational obligations" include (a) franchisees obligations respecting the management of the franchise business, (b) requirements for management and control of inventory and supplies, (c) building and construction plans and specifications, (d) training programs and obligations, and (e) operational elements respecting the day-today management and operation of the franchised business.

• The preparation of your operations manual cannot be a task that you simply "outsource". While it is prudent to obtain the advice and input of a qualified consultant (including your franchise attorney), the operations manual must directly reflect and embody "your" direct understanding and knowledge about the franchised business. "You" must be the primary contributor and driving force behind the preparation and development of your operations manual.

• Your operations manual must be consistent with your franchise agreement and FDD. Review with your franchise lawyer the content of your operations manual to ensure that there is consistency with your franchise agreement. Ensure that your training programs are extensively identified in the operations manual and properly disclosed.

• Your operations manual should be constantly updated, refined and clarified to reflect the constant and continuous evolution and growth of your franchise system. 

Your operations manual is critically important to the long-term success of your franchise - treat it as such.
 

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Below are five steps / factors / issues that you should be considering and evaluating before investing in a franchise.  There are many more than five, but the following is a start.

(1) Due Diligence is Critical – If you are considering the purchase of a franchise it is critical that you conduct an in depth evaluation of both the franchisor and the potential franchise opportunity. Far too many franchisees just assume that if a franchise system has multiple franchisees, good looking stores and trade dress, that the franchise opportunity must be profitable. However “profitability” is not guaranteed and all franchises are not created equal. You must research and evaluate the franchisor, the franchise system and whether or not the franchise opportunity is a good fit for you.

(2) Thoroughly Examine the Franchisor’s FDD with a Qualified Professional – If you have already contacted a franchise company to inquire about your potential purchase of a franchise opportunity, chances are that you have been handed, mailed or emailed an extensive document referred to as an “FDD”. FDD stands for “franchise disclosure document” and is the legally mandated disclosure document that a franchisor must provide to you at least 14 days prior to your execution of any agreements or your payment of any money. The FDD is an important document that will serve as a significant resource to enable you to more thoroughly examine the franchise opportunity that you may be considering. The FDD will contain information about the franchisors management team, the franchisors “estimate” of the start-up costs that you should expect to incur and the royalties and on-going fees that you will be required to pay. FDD’s are important and before investing in a franchise you should hire an experienced franchise lawyer to review this document.

(3) Contact Existing Franchisees – One of the biggest resources that a prospective franchisee should consider is the opinion and experiences of existing franchisees. When evaluating a franchise opportunity, take some time to politely contact existing franchisees (choose a franchisee in another state or someone that you will not be in competition with), let the existing franchisee know that you are considering the purchase of a franchise and that you would appreciate it if they would speak with you about their experiences and satisfaction with the franchisor and the franchise system. Don’t just contact franchisees recommended by the franchisor – seek out the advice of as many independent franchisees as possible. Item “20” of the FDD titled “Outlets and Franchisee Information” should include a list of the existing franchisees and their contact information, so use the FDD as your starting point to identify franchisees that you should contact.

(4) Understand that Franchise Agreements are Negotiable – When a franchise opportunity is presented to a prospective franchisee, many times, the prospective franchisee is advised that the franchise agreement is “not negotiable”. Some franchisors and their sales staff may even take this approach a step further and advise that even if they wanted to change the franchise agreement that it would be illegal for them to do so. However, before you simply sign a franchise agreement and pay a franchise fee, you must understand that franchise agreements are indeed negotiable. It is not illegal for a franchisor to negotiate the terms of your franchise agreement. While you must be reasonable with your expectations about the franchise agreement terms that a franchisor may or may not be willing to negotiate, review the franchise agreement with your franchise lawyer and develop an approach to address and negotiate some strategic points that may enhance your rights as a franchisee. Some of the critically important franchise agreement terms that you should be evaluating with your franchise lawyer and potentially negotiating, include:

(a) Scope of your protected territory;
(b) Grace periods regarding the commencement of royalty obligations;
(c) Liquidated damages and liability for early termination;
(d) Renewal rights;
(e) Transfer rights;
(f) Cure periods for alleged defaults; and
(g) Potential "rights of first refusal".

(5) Sometimes the Best Decision may Be to “Walk Away” - It is critical that you remain “honest with yourself” during your due diligence investigation and the consulting with your franchise lawyer. That is, the franchise that you once believed to be a great opportunity (one that you were previously excited about and told your family you were purchasing) may turn out not to be what you expected. Sometimes in the excitement of this entrepreneurial venture you may be inclined to discount or overlook warning signs that should serve as a red flag. Understand that walking away from a franchise transaction, sometimes, may be the best business decision. 

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For the successful business owner considering the franchised expansion of his or her business one critical question that must be answered is "how do you approach the preparation and development of your franchise agreement."  That is, do you "approach" the preparation and development of your franchise agreement (and franchise disclosure documents) as:

(a) A "legal obstacle" that requires the preparation of "generic" agreements and disclosure documents;

OR

(b) A collaborative process focused on the development of a critical "asset" that uniquely reflects, identifies and protects the components of your business (that is what has made your business successful),  franchise, and  franchise system.  

Why do I ask?  Because your approach will determine the ultimate outcome of this important process.  

Approach "(a)" - the "legal obstacle approach" will typically lead to generic  agreements and disclosure documents that, by all accounts, result in little (if any) value to a developing franchise system.  While this approach may satisfy (or appear to satisfy) your regulatory disclosure requirements they do nothing to advance the development of your "franchise system".  That is, approach "(a)" typically leads to "form over substance" and not much else.  When speaking with start-up franchisors that have followed this approach - an approach that they followed with the best of intentions but based on what may be poor advice - I am typically advised that their franchise agreements simply do not work for their business and franchise system.   

For the start-up franchisor, approach "(b)" is the only true option.  By following this approach your franchise agreement and disclosure documents will serve as core business "assets: that will reflect and protect  the unique and critical components of your business and your newly established franchise system.  

When starting a franchise keep in mind that all agreements are not the same and and that your input will be critical to insuring that your agreements and disclosure documensts reflect the unique nature of your business.  This is no easy task and is not one that is not simply delegated - an indepth working relationship with your franchise lawyer is required.

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Every once and a while I get comments to posts on this blog that I refuse to publish.  These are not comments that are critical of my posts  (frankly, I appreciate critical comments that offer informative and different viewpoints) but rather generalized comments by individuals who are just looking to attract attention to a franchise or business opportunity that he or she is attempting to sell.  What bothers me the most is that these "comments" almost always involve an erroneous (and almost fraudulent) sales pitch where the prospective business purchaser or franchisee is "advised", basically, that franchises don't fail.  These improper and erroneous sales pitches, incorporate the following theme:

During tough economic times you should buy a ______________ franchise because the chances for failure are much lower with a _________ franchise than starting a business from scratch because you will benefit from a proven system.

While there are many benefits to franchising (benefits that I value and believe in) the reality is that, like any business, franchises do fail and that not every franchise opportunity is the same.  That is, there are many franchisors that possess neither a proven track record nor a tested business model. The key for the prospective business purchaser and franchisee is to find the right business model for you and, when purchasing a franchise, to be selective and find the right franchisor, that is a franchisor with a tested and well established model.  Good franchisor's are out there but you must do your research, speak with qualified franchise advisors (they are out there) and consult with a franchise lawyer to review the FDD and other information before you signing any agreement or pay any money.

The information is out there, but you must be an "active" purchaser and discount sales pitches that "guarantee success".  In business there are no guarantees.

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The purchase of a franchise represents a substantial investment that will have longstanding implications for both you and your family.  Prior to selecting a franchise and deciding to move forward, you must engage in an active "due diligence" evaluation of the franchise system and determine if its is right for you.  As discussed in "Contact Existing Franchisees before Signing a Franchise Agreement" existing franchisees are excellent sources of information when evaluating a potential franchise investment.  Three "initial" questions that you should be asking existing franchisees, include:

1.  Were you Satisfied with the Franchisor's "Pre-Opening" Training and Support?  One of the advantages of purchasing a franchise, in theory, should be the support and training provided by the franchisor.  The training and support that you receive prior to opening your franchise will be critical to launching a successful franchise. If current franchisees are not satisfied with the pre-opening training and support provided buy the franchisor, seriously question whether this is the right franchise for you and speak to your franchisor lawyer about adding specific training guuarantees to your franchise agreement should you decide to go forward.

2.  Are you Satisfied with the Franchisor's "On-Going" Training and Support?  While many franchisees open their business to a successful launch and impressive sales, on-going support is crucial.  A good franchise system is characterized by constant communication and support between the franchisor and its franchisees.  If current franchisees are not satisfied with the on-going support offered to them, again, you must question whether or not this is the right franchise for you.  Certainly raise this issue with the franchisor's sales people and your lawyer.

3.  Do the Numbers Make Sense? In other words, after paying royalties, advertising fees, product costs and operating expenses does the business earn a profit?  This is an apparent and critical question that too many prospective franchisees fail to consider and evaluate. When focusing on this issues ask as many questions as possible and speak to as many franchisees as you can.  Gather information and then discuss this issue with both your business accountant and franchise lawyer.

In addition to these initial questions you should have many others focused based on the particular franchise that you are considering.  I suggest that you write down a list of your expectations and then - prior to signing any franchise agreement - seek out and obtain as much information as possible to determine whether or not the franchise that you are considering is right for you.  Your decision should also be based on a candid discussion with your franchise lawyer and a thorough evaluation of the franchisor's disclosure documents.

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If you are a successful business owner and thinking about franchising your business, it is critical to recognize that with the benefits of franchised expansion come both federal and state regulation - regulation that is manageable and, actually, helpful if approached correctly.  While Federal Law provides an overriding framework regulating the offer and sale of franchises throughout the entire country, fifteen states have enacted their own franchise laws that, supplement and add additional regulations to be followed by franchisors. In Twelve of the states, registration of the franchisors Franchise Disclosure Document (FDD) is required. 

States that have Enacted Supplemental Franchise Laws and Require Registration of a Franchise Disclosure Document:

• California
• Hawaii
• Illinois
• Indiana
• Maryland
• Minnesota
• New York
• North Dakota
• Oregon
• Rhode Island
• South Dakota
• Virginia
• Washington
• Wisconsin

In these states, in addition to complying with the Federal Franchise Rule, franchisors must file and register their franchise disclosure document (FDD) prior to offering or selling a franchise.  Like a stock or security that must be registered with the Securities and Exchange Commission before offering or selling a franchise in these "registration states" your FDD must first be registered with the appointed state regulator.  For example in New York, FDD's must be registered with the New York Attorney General.  In California FDD's must be registered with the California Department of Corporations.  Since New Jersey is not  registration state, although FDD's are still required and must be disclosed, they are not registered with a state entity.

States that have Enacted Supplemental Franchise Laws but do not Require Registration of a Franchise Disclosure Document:

• Michigan (only notice)
• Oregon (no filing)

In these states there are supplemental regulations (in addition to the federal regulations that apply throughout the entire United States) that must be followed. Although Michigan and Oregon do not require "registration" of a franchisor's FDD, these state require the filing of a notice with each respective state advising of your proposed offer and sale of franchise.

Always remember that the "state" regulations are a supplement to the Federal Rule and that, at all times prior to offering and selling a franchise you must have a prepared and updated FDD. Your FDD must be disclosed and delivered to your prospective franchisee at least 14 calendar-days before the prospective franchisee (i) signs a binding agreement with you, or (ii) makes any payment to you or any affiliated entity or person.  If you are considering a "licensing system" as opposed to a "franchise system", check out "The Unintentional Franchisor: How a License Agreement may Subject you to Franchise regulation". For important information and insight into the new Franchise Rule and the FDD disclosure requirements definitely read attorney Rush Nigut's post on the New Franchise Disclosure Document. 

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(Great, a lawyer answering a question about whether you need to hire a lawyer)

Answer? Yes - but not right away.  

The competent advice and guidance of a franchise lawyer will serve as a valuable tool (one of the many "tools" that are required) to be utilized on your road to entrepreneurship and the purchase of a franchise.  The advice provided by your franchise lawyer should be based on practical experience and involve a detailed review of the proposed franchise agreement and franchise disclosure document (FDD) and be followed by negotiatios with the franchisor.  However, while hiring a franchise lawyer is critical, it should not be your first step.

So what do I mean by "not right away"?  The process of buying a business is not a "sprint" (at least it should not be) but rather an "endurance event" that will require you to seriously evaluate your individual needs, business skills and expectations.  Once you have made this assessment, you will be faced with the challenging task of finding a business that is both profitable and right for who you are and your skill sets.  This is no easy task and will require that you do significant research (tons of resources available on the web), communicate with other business owners, communicate with existing franchisees (to do this, see "Contact Existing Franchisees before Signing a Franchise Agreement") and, possibly, seek out the advice of franchise professionals.  Don't just pick or get stuck on one particular franchise model or limit your research to the information provided to you by the franchisor's salesperson.  Remember, first and foremost, what matters most to a successful franchise investment are "profits" that will be  measured by your ability to take home money to your family each and every month.  So question everything.  If the franchise sells soup, then question how you will earn "profits" in the summer.  If the franchise sells ice cream, understand how "profits" are generated in the winter.  If the franchise appears to draw long lines or generate large revenues, then question what percentage of  those long lines and revenues are converted into "profits". 

Once you have completed your own internal analysis and "business review" , thats when the legal advice and analysis becomes critical.  The franchise agreement that you will sign will serve as the blueprint and road map for your business for many years to come.  As such, there are many, many critical issues that you must address with your franchise lawyer.  Some of the many issues that you must discuss and evaluate, include:

• The franchise fee that will be charged;
• The continuing royalty that you will be paying on a monthly or weekly basis;
• Advertising fund fees that you may or may not be required to contribute to;
• Approved vendors and suppliers of the supplies and products critical to your business;
• The protected territory that you may or may not be granted;
• Buildout and lease obligations that you will be required to undertake;
• Many, many other issues.

In many instances, (contrary to statements by a franchise sales person that their franchise agreement is "non-negotiable") your franchise lawyer will be able to negotiate and implement modifications to your franchise agreement that will have a substantive impact on your franchise investment and increase the odds for your success.  In today's economic climate, my experience has been that franchisor's are more willing than ever to negotiate with new franchisees.  Even things like deferring "royalties" for a number of months.  

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You have identified a franchise concept that you are extremely interested in.  You have met with the franchisor’s sales staff, completed an application and are impressed, so far, by what you see. However, before taking that next step, before paying a franchise fee or signing a franchise agreement, contact existing franchisees to get the “inside track”. 

Where do you get existing franchisee information?  In the franchisor’s disclosure  document (also known as the “FDD” and formally known as a Uniform Franchise  Offering Circular) that must be provided to you by the franchisor at least 14  calendar days prior to you signing a franchise agreement or paying any fee to  the franchisor.  The FDD is an extensive document and, quite frankly, one of the few “life-lines”  that will be available to help you make a true assessment of the franchise opportunity that you are considering. The legally mandated information contained in the FDD, and thereby disclosed to you as a prospective franchisee, is extensive, extremely relevant and should be reviewed with both a franchise lawyer and business accountant.  However, sticking to the point of this article, that is obtaining information from existing franchisees, please know the following:

• Item “20” titled “Outlets and Franchisee Information” should contain extensive information about (a) existing franchisees - including their names, addresses and contact information, (b) the number of franchise outlets in operation (at least as of the date of the FDD), (c) the number of franchise outlets that are expected to open within the next fiscal year, and (d) the number of franchise outlets that were closed, sold or terminated in the last fiscal year;

• Contact existing franchisees (not just the “star” – multi-unit franchisees who the franchisor suggests you speak with) and politely ask them about their experiences as a franchisee, the support given to them, the quality of the product (or service) and, if possible, the cash flow and profitability of the business;

• Pay particular attention to the number of franchise outlets closed, terminated or sold during the past year.  If there are a significant number (relative to total overall outlets) of closed, terminated and/or sold outlets, proceed with caution and ask lots of questions. Please keep in mind that while it may be inevitable to have a few closed outlets due to a “franchisee’s mismanagement or lack of effort”, look out for a pattern of closings, terminations and outlet sales and do not just accept an explanation blaming a closed outlet on a franchisee’s lack of effort.  In many cases, a closed outlet may be a function of neglect by both the franchisor (in terms of support and product development) and the franchisee; and 

• If the franchisor is projecting a significant increase in the number of projected outlet openings (a projection that should be included in Section 20 of the FDD) question whether or not the franchisor possesses the managerial staff and infrastructure to properly support all of these new outlets.  

When purchasing a franchise, there is a lot to consider and, inevitability – like every entrepreneur, you are bound to make mistakes. However, by contacting existing (and terminated) franchisees you can learn from some of their mistakes and cut down on your own.

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