HOW FRANCHISORS GET
IN HOT WATER
Successful entrepreneurs are expansive people, and almost
without exception, when they come to me to ask about becoming franchisors, they
already know what gives franchising its power. They understand that a special
kind of leverage lies at the heart of franchising that enables entrepreneurs to
duplicate a successful business model again and again.
What they don't always understand is that franchisors can't
march to their own drummers. Instead, they must answer to a demanding boss,
government, and any misstep can lead to trouble.
Take for example what happened to two California franchisors, Yakety Yak Wireless,
Inc., and Play N Trade Franchise, Inc., earlier this year. According to the
California Department of Corporations, the operators of these franchises
ignored franchise law so egregiously as to give regulators no choice but to hit
them with heavy fines, revoke their right to sell franchises in California, and
allowgive
their franchisees the right to rescind their Franchise
Agreements and get their initial franchise
fees and the rest of their investment in the businesses back. (View Department of Corporations' Desist and Refrain Order.)
State franchise laws are complex, to be sure, and it's easy
to make innocent mistakes. But according to California regulators,
the operators of Yakety Yak Wireless and Play N Trade - the former a cell phone
and accessories seller, the latter a video game retailer -willfully violated
laws requiring that they tell their franchisees:
- That
they had started selling Yakety Yak franchises without registering the
offering with the state;
- That
Yakety Yak and Play N Trade were affiliated companies;
- That a
former marketing director for both companies had sued the operatorsfranchisors'
principals, accusing them of running a "house of cards," and
- That
the operatorsprincipals
had repeatedly sold franchises for
discounted fees. not included in
their franchise offering circulars.
The courts have yet to agree that the Yakety Yak and Play N
Trade franchisors acted willfully, but for would-be franchisors, that doesn't
matter, since the point is already clear. Franchising offers unique
opportunities, but don't even think of cutting corners when it comes to obeying
the many dictates of state and federal franchise laws,
because your future depends on it.
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FRANCHISING 101: HOW
TO MAKE SENSE OF THE DISCLOSURE DOCUMENT
Becoming a franchisee isn't like starting a business in your
garage. For one thing, you don't have to invent everything as you go along;
when signing up with many franchisors, you buy a complete business system
invented by someone else - for example, McDonald's method of flipping burgers.
For another, assuming you sign on with a well-known franchisor, you don't have
to worry about whether people will buy your product or service.
On the other hand, you do have to make sense of the
disclosure document, otherwise known as the FDD, or uniform franchise
disclosure document - a crucial step in becoming a franchisee, and easier said
than done. Here's what I tell my clients to look for in studying the FDD:
- The franchisor and its predecessors
and affiliates. This section details where the franchisor does
business, what product or service it sells, what experience it has, and
what kinds of litigation or regulatory actions it faces.
- Investment costs and financing.
Several sections tell you what franchise fee you must pay to sign on, how
much capital the typical franchisee needs to get up and running, what
financial assistance the franchisor offers, and what ongoing costs you
will face for royalties and fees for advertising, marketing, and the like.
- Restrictions on sources of products or
services. This section tells you whether you must buy supplies and
services from specific providers - for example, the franchisor and its
affiliated companies.
- Franchisee obligations. This
section summarizes your obligations to the franchisor and tells you where
to find details elsewhere in the offering.
- Franchisor obligations. This
section tells you what assistance you can get from the franchisor in
launching and running your outlet, hiring and training employees, and so
on.
- Lists of Current and Terminated
Franchisees. These lists provide you with contact information that is
invaluable. Make contact with as many franchisees and ex-franchisees as
possible to get the real story about life in the system.
The FDD must also contain the franchisor's most recent
financial statements and cover such matters as territorial and trademark
rights, renewals, terminations, and transfers, among other important matters.
All in all, the typical FDD can run to 50 pages, often more,
and it's not exactly bed-time reading material. But don't be intimidated. You
need to know what to expect from life as a franchisee, and the FDD gets you off
to a good start.
Stay tuned. I'll
discuss the elements of the FDD in greater detail in future articles.
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Barry Kurtz Named One of State's First Specialists in Franchise and Distribution Law
Barry Kurtz
was recently named a Certified Specialist, Franchise & Distribution Law, by
The State Bar of California Board of Specialization.
This certification is awarded to attorneys whose knowledge and experience in
Franchise & Distribution Law is of the highest level. Applicants must meet
criteria that may include testing, continuing education, and favorable
evaluations by other attorneys and judges familiar with their work. While some
areas of specialization have hundreds or even more than a 1000 certified
specialists, to date, fewer than 25 attorneys have been honored with this
prestigious certification in Franchise & Distribution Law.
"I am pleased and honored to have received this certification," said Barry
Kurtz. "Franchise Law has been my area of practice for more than 29 years
and now I can officially call it my specialty."
The firm's team of franchise lawyers is led by Mr. Kurtz and focuses on
domestic and international franchising, distribution, and other related
practice areas, including intellectual property licensing, business law,
commercial real estate leasing, and the purchase and sale of independent and
chain businesses.
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This communication published by Barry Kurtz, APC is intended as general information and may not be relied upon as
legal advice, which can only be given by a lawyer based upon all the relevant
facts and circumstances of a particular situation.
Copyright © Barry Kurtz, A Professional Corporation 2009
All Rights
Reserved.
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Barry Kurtz is a prolific writer on the subject of franchise law. From due diligence to franchise
appraisal, his articles are a valuable resource to any franchisee and franchisor.
Visit our website for more articles.
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