Franchise sales are regulated by state law. Michigan law requires franchisors to provide pre-sale disclosures.
The Federal Trade Commission also has disclosure requirements for federal enforcement known as the FTC Franchise Rule. Franchisors should do their best to comply with both federal and state laws regarding disclosures.
To satisfy franchise disclosure laws, the franchisor must prepare a document known as a “Franchise Disclosure Document” (FDD). The FDD includes certain disclosures mandated by the FTC Rule and state statutes.
An FDD includes 23 sections called Items, and numerous exhibits. The body of a typical FDD can range from 30 to 50 pages. The entire FDD, including exhibits, often will be over 200 pages. Information relating to the franchise that must be disclosed in the FDD includes, among other things:
- Background information on the franchisor and its key management, officers, and directors;
- The amount of initial and subsequent franchise fees to be paid to the franchisor and its affiliates; estimated initial investment costs covering pre-opening and a reasonable start-up period;
- Any requirements that the franchisee must purchase certain items from the franchisor or its affiliates or otherwise do business with designated suppliers and/or in accordance with franchisor’s specifications; and
- A summary of certain material provisions of the franchise agreement (such as the term, renewal rights, restrictions on in-term and post-term competition, and territorial rights granted to the franchisee).
Any agreements that are relevant to the franchise opportunity, such as the franchise agreement, must be included as exhibits to the FDD. Audited financial statements of the franchisor must also be included in the FDD.
A franchisor may make claims about a franchisee’s potential earnings in Item 19 of the FDD. A franchisor is not required to include any financial performance representations in its FDD. However, if a franchisor does financial performance representations, it must include a statement setting forth the data upon which the estimation or projection is based.
