The 5 Most Important Items to Understand in an FDD

A franchise disclosure document is one of the most important tools a prospective franchisee has to evaluate a franchise brand. FDDs outline every detail of a franchise operation that a franchisor is required by law to disclose to investors. That means that FDDs are the best, and in some cases, the only place to find potentially damaging information about the brand that could affect franchisees. It’s also a way for prospects to verify some of the selling points that may have drawn them to the opportunity.

“The FDD is one of the best ways for a candidate to validate what they have been told about a brand or what they have read on the brand’s website,” said Dawn Abbamondi, Marketing and Brand Development Consultant for SMB Franchise Advisors*. “If anything contradicts what they’ve learned, they should ask why and make sure they have a satisfying answer before they sign on.”

Unfortunately, digging into an FDD can be an overwhelming endeavor, particularly for anyone who is new to the industry. 1851 publisher Nick Powills recommends all first-time franchisees enlist a veteran to read through the FDD.

“The best advice I can give is to find a franchisee who has been through the process before and knows what to look for,” Powills said. “Even if they are with another brand, they’ll have a better sense of what is going to affect you. Ask them to poke holes and highlight any potential issues.”

Even with the help of a more experienced franchisee, diving into a lengthy legal document requires a large investment of time and energy. If you’re a prospective franchisee looking into a number of different brands, carefully reading through each franchise’s FDD may not be feasible, but that doesn’t mean it’s not worth taking a look. If you are new to FDDs and want to quickly get a sense of whether or not a franchise brand might be right for you, here are five items to look to first:

Item 2: Business Experience

“Item 2 will give you a good idea of who the brand is,” Powills said. “You need to believe in the leadership of a brand if you are going to buy in.”

“Every candidate should read the Item 2 closely,” said Eric Martin, VP of Franchise Development for lawn-treatment franchises Mosquito Hunters* and Lawn Doctor*. “I believe the experience of a franchise leadership team is extremely important. I would encourage any prospective franchisee to look at the background and collective franchising experience the executive team has.”

Item 7: Initial Investment

“A franchisee needs to have a firm understanding of what their initial investment is going to look like,” Martin said. “Franchisors closely track what it takes for their new owners to get through the startup phase. This section needs to be read closely, and any remaining questions a prospect has should be addressed.”

“You want to make sure that the initial investment isn’t going to leave you financially thin,” Powills said. “One of the biggest mistakes new franchisees make is they don’t come to the table with enough operating capital. If you look at the all-in fee and think that’s all that you need to bring to the table, you’re going to get into trouble. It’s going to take time to break even, so you need a lot of working capital.”

Item 11: Franchisor’s Assistance, Advertising, Computer Systems and Training

“The Item 11 won’t expose a weakness in the franchise system, but if there is something a franchisee won’t be comfortable with, this is where they will find it,” said Max Staplin, an associate at law firm Fisher Zucker.

“A prospective franchisee should have a clear understanding of what is to be expected when it comes to training, ongoing support and advertising,” Martin said. “The Item 11 will provide a detailed overview of what is covered in the initial training program as well as ongoing support for both training and marketing. If there’s a section you are going to read more than once, this is it.”

Item 12: Territory

“Some franchises offer exclusive territories, and some do not,” Martin said. “There are franchises that allow owners to market and sell outside of their territory, and there are franchises that prohibit that. A franchisee needs to have a good understanding of how the franchisor manages its territories. Whether or not you have exclusive rights to a territory could have significant effects on your growth plans.”

Item 21: Audited Financial Statements

“Item 21 shows you an audited financial statement from the brand, which is important because you want to know how well the franchisor is doing financially — you want to make sure it is flush with capital,” Powills said. “Ultimately, if you’re going to invest in a brand, you are going to be paying a royalty and a fee for that brand, and you need to be confident that it’s going to be a strong brand for a long time.