So, you've boiled down your franchising venture down to a few strong brands. The Franchise Disclosure Document (FDD) is the key document that you will receive from franchisors disclosing information about the business. Before you commit to a brand and sign the franchise agreement, here are 10 things that you should know from your FDD:
1. Upon receiving the FDD, know that you have 14 days to review the document. In fact, this is the law as mandated by the Federal Trade Commission (FTC). This statute was put into place to protect prospective franchisees from making any ill-advised or hasty decisions.
2. The document is hundreds of pages long and littered with legal jargon. It's best to have an attorney who specializes in franchising to review the document and highlight any red flags that you may potentially overlook.
3. The FDD itself is organized into numerical "Items." Each item will reveal something important about the franchisor, with some warranting more attention than others.
4. Pay close attention to Items 5,6, and 7. Item 5 will lay out what the required initial fees are for you to open a franchise. Item 6 discloses what the royalty and marketing fees are. Note that you'll be required to pay these fees for the life of the business. Lastly, Item 7 is an overview of what the fees and expenses will approximately be to open and operate your business for the first three months. Make sure that you have more than enough capital than the recommended amount to ensure you sustain the business.
5. Item 11 outlines what the franchisors obligations will be after you've agreed to sign on as a franchisee. It also explains how the franchise support and training systems are structured. After reviewing multiple FDDs, Item 11 will help you distinguish between robust franchise support systems and those that lack the expertise and infrastructure to put you in a position to succeed.
6. Item 12 is all about territory. If you're in an industry where you will require some territorial protection from other franchisees, then you must ensure that it is provided and guaranteed to you before you sign the agreement.
7. Items 13 and 14 lay out the franchisor's trademarks, copyrights and other proprietary information. It's a positive to see that a franchisor has taken all the necessary legal steps to register all of its trademarks to protect themselves and you from any potential copycats.
8. Item 19 is perhaps one of the most talked about points in the world of franchising. In this item, the franchisor will reveal what its earnings claims are. It's important to understand that corporate earnings don't reflect what you'll expect to earn because they pay no royalties and will have different expenses than you. A good rule of thumb would be to talk to existing franchisees in the system about your earnings potential.
9. Item 20 is a good health indicator of the franchisor. It charts how many franchises have opened, closed or switched hands in the last three years. Be wary of franchise outlets that are shuttering or transferring ownership at a rapid rate.
10. Lastly—and perhaps most importantly—Item 21 discloses the franchisor's financial statements. You will have to review the profit and loss statements along with the balance sheet to determine whether or not the franchise is a financially viable one. If you're not familiar with these statements, it is highly recommended to have a qualified accountant review them for you.