Registration and Disclosure

New franchisors are surprised to learn that they are prohibited from providing financial information to prospective franchisees unless the information is contained in the form of a financial performance representation (“FPR”) in Item 19 of the franchisor’s Franchise Disclosure Document. The inability to provide this information leaves new franchisors with the difficult task of selling the franchise opportunity without being able to answer the question of “how much money can I make from the opportunity”.

However, with the issuance by the North American Securities Administrators Association, Inc. (“NASAA”) of the final NASAA FPR Commentary (the “Commentary”) on May 8, 2017, the process should have become arguably easier, or at the very least filled with less uncertainty.

The Solution

The Commentary provides clarity on what constitutes a reasonable basis for making an FPR. The Commentary clarifies that company-owned results can be used in making an FPR but details the information that must accompany the disclosure of those results. A franchisor can continue to use subsets of outlets that share a particular set of characteristics, but the subset selected cannot be misleading. For example, if a subset is based only on the highest grossing 10% of outlets, the lowest grossing 10% of outlets must also be included. Data from outlets that closed during the time period shown in the FPR may be excluded provided certain new disclosures are included concerning the number of outlets that closed during the period(s). Whenever “average” data is included in an FPR, “median” data must also be included, and vice versa. These guidelines, and others in the Commentary, should assist franchisors in making more accurate FPRs.

For more information on how you “show your prospects the money,” contact one of the authors identified above.

The Rhode Island Department of Business Regulation Securities Division (the “Department”) has amended its Rhode Island Franchise Investment Act, 19 R.I. Gen. Laws § 19-28.1-1 et seq., to eliminate its requirement that franchise advertising materials created or used by the franchisor be filed with the state and to change the waiting period for delivering a franchise disclosure document (“FDD”) to a prospective franchisee to 14 calendar days.  The Department issued Franchise Bulletin Number 2016-1 [PDF] summarizing these changes.

Franchisors should be aware of these changes if they offer or sell franchises in Rhode Island, as the changes will not only affect the offering and selling of franchises (by no longer requiring advertising be filed with the state and changing the delivery period), but the receipt pages of your FDD may need to be updated to account for the 14 calendar day delivery period.

Advertising Filing

Effective June 27, 2016, Rhode Island has eliminated the franchise advertising filing requirement by amending 19 R.I. Gen. Laws § 19-28.1-12.  Previously, franchisors offering or selling franchises in Rhode Island had to typically file their advertising materials with the state and pay a filing fee at least 5 business days prior to using or publishing the advertisement.  Rhode Island has eliminated this filing requirement and its associated fee. 19 R.I. Gen. Laws § 19-28.1-12 now reads:

§ 19-28.1-12 Advertising.

No person may publish in this state any advertisement offering to sell a franchise required to be registered under this act unless they maintain the advertising materials for five (5) years, consistent with § 19-28.1-13.

Franchisors must still keep required records of their Rhode Island advertising materials for 5 years, consistent with 19 R.I. Gen. Laws § 19-28.1-13.

Delivery of FDD

Also effective June 27, 2016, franchisors are required to provide the FDD to prospective franchisees at least 14 calendar days prior to the signing of any binding agreement by a prospective franchisee or at least 14 calendar days prior to the direct or indirect receipt of a franchise fee, whichever comes first.  The 14 calendar day requirement is consistent with federal law under the Amended FTC Rule.  Previously, Rhode Island required franchisors to provide the FDD to prospective franchisees at least 10 business days before signing the franchise agreement or accepting a franchise fee, or if earlier, at the time of the franchisor’s first personal business meeting with the prospective franchisee. 19 R.I. Gen. Laws § 19-28.1-8 now reads:

§ 19-28.1-8 Delivery requirements.

(a) It is unlawful to sell any franchise in this state without first providing a copy of a disclosure document reflecting all material changes together with a copy of all proposed agreements relating to the sale of the franchise, unless otherwise provided in subsection (b), to the prospective franchisee, not less than:

(1) [Deleted by P.L. 2016, ch. 153, § 2 and P.L. 2016, ch. 159, § 2].

(2) Fourteen (14) calendar days prior to the execution of an agreement or payment of any consideration relating to the franchise relationship.

(b) The delivery requirements in subsection (a) do not apply to the offer or sale of a franchise which is exempt under § 19-28.1-6(2), (3), (6), or (8).

The change to Rhode Island’s delivery requirement will make it easier for franchisors offering or selling franchises in the state, as they do not have to juggle between the 10 business day/first personal meeting rule on the one hand and the 14 calendar day requirement under federal law on the other.  However, franchisors should review the receipt pages attached to their FDD to revise any references to Rhode Island’s previous delivery requirement prior to making their annual renewals this year.

For more information on these changes, see Franchise Bulletin Number 2016-1 [PDF] issued by the Department or contact your franchise attorney.

2017 Checklist for Franchisors: Updating Your FDD, originally published on the International Franchise Association’s Insider Blog, provides a checklist of items franchisors should consider as they start updating their franchise disclosure document (“FDD”), including regarding:

  • Franchise registration deadlines
  • Accountants
  • Operations
  • Sales team
  • Manuals
  • Item 20 (outlet information) in the FDD
  • Item 19 (financial performance representations) in the FDD
  • Franchise advertising
  • Insurance coverage

The start of the new year marks the start of franchise renewals for franchisors.  Franchisors are required to annually update their Franchise Disclosure Document and, in the 14 registration states, annually file and register the franchise offering with the state, before they can offer or sell franchises.  For franchisors with fiscal year ends of December 31st, federal and state laws require the Franchise Disclosure Document be updated and filed (in the states that require filings) typically 120 days of the end of fiscal year end.  Some states may require an earlier filing.  However, if you do not update and file (where required) the Franchise Disclosure Document within 90 days of the end of the fiscal year end, some of the franchise registration states will require the franchisor to include updated, interim financial statements with the annual report.

The Larkin Hoffman Franchise Team is gearing up to prepare updated Franchise Disclosure Documents for franchisors nationwide.  As you start preparing for your franchise renewals, here are our top 10 franchise renewal tips for 2017:

  1. Start Now: It may seem obvious, but start working on your Franchise Disclosure Document updates now while there is still ample time and opportunity.  If you wait until spring, you may have to drop everything to get your updates done on time.  Plus, starting early allows you to plan around company or industry conventions, special events, and any other business plans you or your team may have.  Starting now will also give you time to track down information from other personnel in your company, which will be required to prepare the updated Franchise Disclosure Document.
  2. New Franchisee Programs: You should consider any new programs your company may offer franchisees starting in the next year, such as incentive programs and reimaging and remodeling programs for outlets, so they can be described in the Franchise Disclosure Document and incorporated in franchise agreements or through addenda to franchise agreements.
  3. Gather Ideas From the Year: Gather your ideas from experiences of the past year.  What worked and what didn’t work last year?  Your legal staff may have run into issues with the franchise agreement, or perhaps your salespeople identified provisions they would like to change or that could increase the sales of franchises.  Also ask your attorney about any changes in the law and industry best practices.
  4. Crunch the Numbers: Review the financial condition of the company and, if applicable, any parents that are guaranteeing its performance. Ask your attorney how your financial situation will affect the availability of exemptions based on net worth, or any financial assurance conditions that might be imposed by a state, like escrows or fee deferrals. Finally, start looking at how last year’s performance by your units will affect your Item 19 disclosure.
  5. Run the Reports: Much of the year-end information required in the Franchise Disclosure Document, particularly Item 20 and the franchisee lists, is easier to capture now than months after the fact.  By preparing that data now, you can resolve any issues or discrepancies while 2016 is still fresh in mind.
  6. Be First in Line: State examiners receive hundreds of renewal applications in late March. Why not file sooner and get your Franchise Disclosure Document on the top of the stack?  By renewing even a few days early, your review time may be reduced by several weeks, meaning you can get back to selling franchises faster.
  7. Call Your Auditor: If you have not already done so, get in touch with your accountant to ensure your audit is prepared on time (or early – see #6 above).
  8. Update Marketing Materials: Renewal season is a great time to update outdated marketing materials (or prepare new ads) and file the advertising with the states. It is also a good time to give your website a thorough check-up.  Do not let a state examiner review your online content before you do!
  9. Set Your Sales: Coordinate your target filing date with your sales staff so that transactions can be closed in advance of any “dark” period you might experience while waiting for a state to approve your Franchise Disclosure Document.
  10. E-Filing: A few states (Minnesota, Rhode Island, Washington, and Wisconsin) offer the option to e-file certain types of franchise filings. Though each state’s e-file application varies and there are certain limitations, over time e-filing should reduce costs, reduce state review time, and “green up” the renewal process.

Contact your franchise attorney or the Larkin Hoffman Franchise Team to prepare your annual renewal for 2017.