Federal law requires franchisors to update their franchise
disclosure documents (“FDD”) within 120 days after
their fiscal year end (“FYE”). State
registrations must also be renewed annually. Here are ten
best practices for franchisors to consider as they gear up to
update their FDDs to help ensure that their franchise agreement and
FDD are up to date and there is no interruption in franchise sales
activities.
1. Develop and follow a FDD process timeline to ensure
all activities leading up to the final FDD are completed
timely. A sample is attached here.
2. Do a Strategic Review of current franchise agreement,
FDD, and operations manual to make sure they reflect changes in the
law and address current legal issues and
trends. Things to consider as part of a 2023
strategic review include:
- Recent court decisions and legislation such as the California
FAST Act, AB 257 and potential updates to Item 7; the
definition of independent contractor; the enforceability of
arbitration agreements; and noncompete and non-solicitation
provisions. - Changes in federal or state law including, for example, digital
advertising / marketing, social media, and privacy, non-competes,
etc. Also, some states impose income taxes and reporting
obligations on out-of-state franchisors. Make sure you review
the law in the states where you sell franchises. - The franchisor’s policies regarding Environmental,
Social, and Governance (ESG) and Diversity, Equity, and Inclusion
(DEI) and whether those policies reflect best practices. - Recent FTC or similar updates such as the North American
Securities Administrators Association (NASAA) Statement of Policy
re: Franchise Questionnaires & Acknowledgments (effective
January 1, 2023).
3. Know Your Deadlines. It is a violation of
federal and state franchise sales laws for a franchisor to offer or
sell franchises with an out-of-date FDD or expired state
registration. Some state registration periods expire earlier
than federal law. For example, Hawaii requires updating and
filing by March 31, and California requires updating and filing
within 110 days after the FYE. It is essential to know and
docket all deadlines.
4. Contact Your Outside Auditor
Early. Item 21 requires updated audits. Late
audits are the primary reason for missed deadlines. Impress upon
the auditor that filing deadlines are fixed by law and a late audit
can cost you franchise sales.
5. Compile Annual Updates for FDD. Even if the
franchisor is not making any program changes requiring
modifications to the franchise agreement, all franchisors must
update certain FDD information (and franchise seller disclosure
forms). Because this information must be current, franchisors
need to compile annual updates. Examples of information
required to be updated include:
- Item 1. Number of outlets operated by franchisors and its
subsidiaries. - Item 2. Changes in key management (directors, officers, and
other executives). - Items 3. Litigation – changes in the status of pending matters,
new cases in which Item 2 individuals are defendants, and
franchisor actions initiated against franchisees during the last
fiscal year. - Item 5. Initial Fees paid by Franchisee – Franchise Fee range,
any changes to Initial Fees, number of franchisees who failed to
meet financial obligations, etc. - Item 6. Other Fees – Royalties, remodeling costs, advertising,
etc., and any changes to fees or any new programs. - Item 7. Any changes in projected opening costs based on recent
experiences. - Item 8. Payments from suppliers during the last fiscal year,
any new restrictions on sources of products, updates about officers
who own an interest in recommended or mandatory suppliers, amount
spent on advertising, revenues from franchisees’ required
purchases and/or leases and percentage of total revenues and total
revenue amount. - Item 11. Percentage breakdown on advertising fees used during
the last fiscal year. - Item 13. Updates about trademarks and known infringers.
- Item 16. Any new restrictions on what the franchisee may
sell? - Item 19. Financial Performance Representations
(“FPR”) (more detail on FPRs below). - Item 20. Franchise statistics and corresponding lists of
existing franchise outlets and recent terminations, updates to
Franchise Owners Association information, if applicable, etc. - Item 22. All proposed agreements regarding the franchise
offering, including the franchise agreement and any lease, options,
and purchase agreements. Review all contracts
franchisees are required to sign to assess continuing
enforceability. Update provisions based on recent court decisions
or changes in the law.
6. Communicate with Franchise Sales and Operations
Team. Let your franchise sales and operations teams
know about impending deadlines so that all needed information is
received timely and any pending franchise sales and sales
activities can be coordinated and, if possible, completed ahead of
time. Review new business developments, policies, initiatives
and, if necessary, set up a call/meeting with business stakeholders
to ensure any items are understood fully and can be properly
disclosed.
7. Item 19: Update or
Reconsider. If a franchisor makes an Item 19 FPR, it
should be reevaluated based on fiscal year results. FPRs are
a common target for unhappy franchisees, so it is important to make
sure the FPR is not only accurate but explains all of the bases and
assumptions for the FPR. If the latest data is not rosy,
consider omitting the FPR from the updated FDD, but with notice and
explanation to the sales team. If the franchisor intends to
include an FPR, update the numbers and, if any parameters are
changed, include an explanation of all assumptions. If the
current FDD does not include a FPR, but the latest numbers are
impressive, consider adding a FPR now since doing so will avoid
mid-year material change amendment filings and extra filing fees.
Have your franchise attorney review any FPR.
8. Review IP. The annual update is a good
time for franchisors to review its IP portfolio to make sure it has
filed applications to protect new logos or brand names, filed the
necessary applications to maintain existing trademark
registrations, and taken steps to protect patents and copyrights
valuable to the franchise system.
9. Review Website Content and
Advertising. Consistency between the marketing
department and website content of what your FDD says is essential.
Review your website to make sure it is entirely consistent
with the terms of your franchise offering. For example, if
there is no FPR in the FDD, the website cannot provide any
information to prospective franchisees about historical or
potential income, sales, earnings, profits or break-even points.
It is essential to make sure all other forms of advertising
used to attract franchise prospects is legally compliant and
registered in the states where the franchisor distributes or
publishes the advertising.
10. Sales Compliance Refresher
Training. Before completing FDD updates, franchisors
should schedule refresher training for the franchise sales team and
others who interact with prospects during the franchise sales
process. Refresher training should include franchise sales
compliance rules and company sales policies. This is
particularly important if you decided to add or remove an FPR.
Use the updated FDD to remind the sales team of the rules of
the road.
The number, scope, and complexity of the disclosure issues
facing franchisors is unique. Seyfarth’s franchise team
understands these challenges and can help all franchisors navigate
these issues to facilitate the FDD renewal and disclosure
process.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
