Distinguishing franchise data from corporate data in FDD Item 19 may actually facilitate sales.
In 2017, the North American Securities Administrators Association (NASAA) adopted new requirements for including corporate and franchise data in franchise disclosure documents, or FDDs. 1851 Franchise consulted with two leading franchise attorneys to find out what brands should focus on this year to navigate these important changes.
The NASAA Franchise Commentary on Financial Performance Representations, dated May 8, 2017, reads, “the franchisor must disclose the data from the company-owned outlets and the franchise outlets separately. Once a franchisor separately discloses data from both franchise outlets and company-owned outlets in an FPR, the franchisor may then choose to also present the same data in a combined format.”
Moving forward, brands of a certain size can no longer claim average gross revenue or other merged financials without also clearly distinguishing between corporate and franchise unit data. In the subscript, the Commentary says that while it depends on the system, in general, brands with 10 or more franchise units are presumed large enough to have to meet this requirement.
Amy Cheng of Cheng Cohen LLC told 1851 that in the past, franchise systems that did choose to disclose corporate-owned numbers often hesitated to provide franchise data because it can be more difficult to validate. She emphasized the importance of this change in FDD requirements, as few franchises currently delineate between the types of units, and may merge the two.
Cheng said that it’s been a common practice for brands to calculate and disclose an average of all units in the system. Moving forward, however, the requirements state that franchisors have “no reasonable basis” for making a gross sales representation based on company-owned data alone.
Cheng said that disclosing only corporate financials or a merged average may not give a good representation of what franchisees can make while researching a brand’s FDD. While some franchises do perform better than corporate units, corporate units have often been around longer, hitting higher numbers and therefore could skew averages. While some systemwide numbers can still be included per the regulations, this can only be done if both corporate and franchise data are also, and clearly, stated separately.
Cheng gave an example to clarify further. “Say you have 100 units total, 20 of which are corporate-owned. Let’s say the average for all units is $500,000. If you want to provide that combined information, you also need to provide a breakdown of the 100 units. You could, therefore, give the average for the 20 corporate units, and the average of the 80 franchises.”
Andrew Bleiman, managing attorney at Marks & Klein LLP, said that rules and regulations surrounding FDDs and Item 19 have always been tight. That being said, both Bleiman and Cheng said that many franchisors rely upon disclosing financial data as a supportive pitching document to sell units to buyers. The new requirements for separating franchise and corporate data further drives this point home.
While assessing their options, a potential franchisee benefits from seeing clearly delineated franchise financial data. “Let’s say you’re interested in a pizza franchise,” said Bleiman. “You’d look at the financial data side by side across concepts to find what looks to be the most appealing unit economically, coupled with brand and reputation, availability in the area and other factors.”
Disclosing corporate-owned unit data has its benefits to franchisees, as well. Bleiman went on to say that generally, buyers believe they will be a top performer in the system, so providing the data for both types of units allows the franchisee to project a reasonable range they will be able to perform within based on the total unit economics.
Overall, promoting a franchise’s Item 19 and using the FDD to its fullest potential can dramatically help facilitate the franchise sales process. Separating corporate and franchise performance data can help a franchisee to make an informed decision about their investments, which benefits the franchisor in the long run as well.