This section must disclose any bankruptcy in the last 10 years that involved “the franchisor, its affiliate, its predecessor, officers or general partner.” Carefully check over the section of the offering circular that refers to prior backruptcies. It is not uncommon to find that franchise founders have started franchises in different business areas and failed in each of them. Each endeavor may be subject to a bankruptcy, but the founder may walk away with a million dollars that is not subject to the proceedings involving his or her corporate entity.

Under the ameded rule, any bankruptcy of the parents or other individual who has management responsibility relating to the sale or operation of the franchise must be disclosed. Many great people have incurred numerous failures in their lives before reaching a pinnacle of success. Abraham Lincoln is just one of the many such examples. However, as a rule, people who have failed in the past will fail in the future.

Pay particular attention to this section of the circular. Stay away form any prospective franchisor that is under some current effective injunction or restrictive order, particularly one that could result in a drastic change in the franchise operation, including possible cessation of the franchise. In addition, determine whether or not the franchisor or any of the franchisor’s key employees had been convicted of crimes or has a record of unfavorable determinations handend down by courts or government agencies. (The ameded rule adds disclosure of litigation involving a parent who guarantees the performance of the franchisor’s performance and the revealing of any pending litigation initiated by the franchisor against franchisees on involving franchise relationship issues. The franchisor must disclose the dismissal of a material action in connection with a settlement.)

If the offering circular or prospectus mentions any such investigations, convictions, or proceedings, view these as warning signs and rethink whether or not you want to purchase the franchise. If you still wish to purchase it, at least check out the proceedings as documented in the courts or government agencies and determine what has taken place in regard to this litigation.

Under the amended FTC rule, confidential settlement disclosures would need to be modified and franchisors must disclose material actions that they file against franchisees in the past year and any government litigation against an affiliate selling franchises in any line of business during the past 10 years.

Always remember that the franchisor’s side is only one side of the story. Beware if this section reveals any lawsuits agains the franchisor by former or existing franchisees. If so, call or write the court clerks where the cases are being litigated to find out the names of the attorneys representing the plaintiffs; then contact the attorneys and their clients.

If the litigation is local, secure the information by visiting the courthouse and talking with the attorney of record. Contact the plaintiffs and ask them why they are dissatisfied with the franchisor and why they are suing or have sued.

An offering circular will give you the franchisor’s background and that of his predecessors and affiliates. A predecessor is defined as “a person from whom the franchisor acquired directly or indirectly the major portion of its assets.” The FTC amended rule adds to the definition “from whom the franchisor obtained a license to use the trademark or trade secret in the franchise operation.”

Examine the section on the franchisor and its predecessors and affiliates closely. Read about the background of the business and the business experiences of its principal officers. If possible, run a credit check on the company and its previous officers. In addition, any information you can obtain regarding the record of the previous businesses – including other franchise businesses – with which the principals were associated is of paramount importance. This information can also help you make some type of forecast about the possibility of your own success.

The amended rule makes all franchise sellers liable under Section 5 of the FTC Act. The franchisor’s parents must be disclosed to business experience of parent that provides products or services to franchises; and must disclose business experience of parent’s executives that exercise management responsibility regarding sale of franchises. Franchisor must disclose any competitor in which a franchisor officer has an interest.

Item 2: Business Experience

This section of a circular will give you some personal information on the officers and directors of the franchise company for the past five years. The amended rule generally mirrors the present rule, but extends the disclosure of business experience to any “director, trustee, general partner, officer, and subfranchisor of any parent who will have management responsibility relating to hte offered franchises.” “Officer” is defined as “any individual with significant management responsibility for marketing and/or servicing of franchises, such as the chief executive and chief operating officers and the financial, franchise marketing, training and service officers.” It also includes de facto officers who perform such duties but whose title does not reflect the nature of the job. If you can check out their backgrounds, both their business experience and the views of their former acquaintances or competitors, you will improve your chances of succeeding with your new endeavour. In addition, you should make every attempt to get to know these people as much as you can. Ask to see the head person before you put your money down. Remember: this person will be a vital part of your story of success, since his or her endeavors will directly affect you. Under the new amendded rule, the business experience of executives of the parent who exercise management responsibility regarding the sale or operation of franchises of the franchisor must be disclosed but broker disclosures are eliminated.

Check out any affiliates listed in the second section of the circular to make sure that all vital items or services are not supplied by relatives or friends of the franchisor. If some services are supplied by family and friends, this may drastically change the profitability of your franchise because of inflated, non-competitive prices.

On January 1, 1995 all 15 registration states and the remaining states governed by the FTC began using the same Uniform Franchise Offering Circular, including a uniform cover page. However, individual state registration regulators may require that the franchisor reveal, in capital letters, additional information regarding risk factors on the cover page. Check with your state regulators to see if your state has any additional requirements.

The cover of the Uniform Franchise Offering Circular in use before the July 1, 2008 amended rule goes into effect requires the franchisor to specify any risk factors in bold print. These risk factors must include, if applicable:

• A warning that the franchise agreement permits the franchisor to arbitrate or sue only in a particular state and whether arbitrators or litigation in a state other than the franchisee’s home state may force the franchisee to accept a less favorable settlement for disputes
• The fact that arbitration out of state may cost more
• Whether the franchise agreement designates the law of a particular state other than the franchisee’s home state to govern the agreement
• That the out-of-state law might not provide the same protection and benefits as the franchisee’s local law and that the franchisee should compare these laws.
• A pre-amended rule offering circular cover page may also include the warning that there may be other risks concerning the franchise. However, if the risks are known, they should be specified on the cover page in bold print.

Under the FTC amended rule, which goes into effect July 1, 2008, the FTC abandoned its separate FTC cover page and uses a revised form of the old UFOC cover page. This title is changed from “Offering Circular” to “Franchise Disclosure Document” and language is  added that defines the differences in a disclosure document and a franchise agreement. In fact the amended rule requires the franchisor to reveal risk factors on the cover only if required by state law. Some other new cover requirements include listing total investment necessary to begin business, email addresses, Web sites including the FTC’s and electronic delivery notices, if they apply, and eliminating the phrases “information required by the FTC” and the phrase “to protect you.” In addition, there must be a statement that the franchisee may wish to receive the UFOC in a different format, such as in writing or electronically and any indirect “parent” companies must be identified.

The Uniform Franchise Offering Circular as adopted by the FTC is also used in those states that do not have franchise registration laws. Some of these states with no franchise registration laws have what are called “business opportunity laws,” which also might apply to franchise offerings. Under pre-July 1, 2008 rules, franchise laws covered those business agreements normally referred to as “business opportunities.”

Business opportunity laws cover those businesses that are similar in some aspects to those covered by franchise laws, with the key exception being that business opportunities do not use a trademark as part of the deal between the buyer and the seller. To cover both types of businesses, some states have both franchise laws and business opportunity laws; you need to find out if your state is one of them. The FTC has now created Part 437 solely pertaining to the offer and sale of business opportunities.

You should have an experienced franchise attorney make sure that you and your franchisor comply with the franchisor or business opportunity laws. Because of the complexity, don’t attempt to go it alone.

The second page of the pre-July 1, 2008 Uniform Franchise Offering Circular is a table of contents in a standard form. The table of contents normally covers a page and a half and contains 23 paragraph headings, as well as a section setting forth the exhibits. The exhibits include the franchise agreement, any other agreements signed by the franchisee, the franchisor’s financials, and in many cases a directory of state administrators and agencies.

If an offering circular is not delivered on time or if it contains a false, incomplete, inaccurate, or misleading statement, it may be in violation of federal or state law and you should report this violation to the Federal Trade Commission in Washington DC. If your state has a registration law, you should contact the state authority that regulates franchising in your state. You can also report state registration violations to the FTC.

Additionally, you will be advised that franchise registration in a state that has a franchise registration agency does not mean that the state recommends it or has verified the information in the offering circular.

The Uniform Franchise Offering Circular

The Federal Trade Commission (FTC) implemented a 1978 federal rule by amendment that required franchisors to present would-be franchisees with a disclosure statement, also known as a uniform offering circular, which contains certain information regarding a franchise.

This existing FTC rule was substantially modified the 1995 rule. Therefore, franchisors in all 50 states starting in July 2008 are required to provide prospective franchisees with a revised Uniform Franchise Offering Circular (UFOC), which will be titled “Franchise Disclosure Document” UFOC.

Specifically, the franchisor, prior to July 2008, must provide you with a Uniform Franchise Offering Circular at the earliest of three times:

• At the first face-to-face personal meeting between you and the franchisor or at the time for making disclosures regarding the terms and conditions of the sale of the franchise
• 10 business days before you make any payment to the franchisor
• 10 days before you sign any contract committing you to buy the franchise or any other agreement imposing a binding legal obligation on you

The new amended rule changes the time from 10 business days to 14 calendar days before a prospective franchisee may sign any binding agreement or pay any consideration for the franchise after the mandatory July 1, 2008 effective date.

In addition, the pre-July 1, 2008 FTC amended rule requires all franchisors to furnish you with completed copies of the documents to be executed at least five days before you sign on the dotted line. The amended rule changed the time required by the FTC Rule from five business days to seven calendar days but only if the franchisor unilaterally makes changes. Also, the amended Rule allows for electronic delivery of the UFOC and electronic signatures.

Examine the Uniform Franchise Offering Circular very carefully, even if you have gleaned information on your own regarding a particular franchisor and his or her franchise offering.

After receiving an offering circular, try to personally do a field investigation of all the franchises offered in the field of your choice, and compare franchisors doing business in the same area. To do a field investigation, check with the current franchisees:

• Ask about their experiences with their franchisor and whether the franchisor has carried out the representations made in the circular and the franchise agreement.
• Find out whether or not the franchisor keeps his or her promises.
• Try to discern the attitude of the current franchisees regarding the major people in the franchisor’s hierarchy of personnel.
• Find out whether the franchisees feel that their franchise opening costs were more than what the franchisor estimated they would be.
• Determine if the franchisor provided the franchisees with adequate training or left them on their own.
• Remember competitors of a franchisor will generally be more than happy to give you all the “dirt” about that franchisor. The same is true of current franchisees. If they have a gripe against their franchisor, they will be first to tell you in no uncertain terms.

Once you have completed your field investigation, you will be better informed when examining the offering circular or prospectus. Remember, if you don’t get an offering circular from a franchisor, there is something wrong: for example, your franchisor may have violated an act enforceably by the FTC or a state agency or both.

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This blog is an initiative by Biz Super Mall to bring to you latest news & updates with their meaning for the end users, tips and resources for doing business. You will also find here how to interpret various business documents.