Franchising experts help sort through the confusion franchisees often face when distinguishing between the two documents.
Franchise disclosure documents and franchise agreements are two similar documents that serve different purposes, full of subtle distinguishing factors often perplex franchise novices. For those in need of a little clarity when it comes to FDDs and franchise agreements, 1851 consulted a slew of franchise development experts to help pinpoint each document’s distinct features and purpose.
Understanding how the documents fit into one another is a good place to start. An FDD is a document the Federal Trade Commission requires franchisors to produce. Its purpose is to provide prospective franchisees with a thorough rundown of the franchisor, the franchise system and other information in order to help them make an informed decision about whether to buy into the brand. An FDD consists of 23 sections called ‘Items.’
The franchise agreement is one of those items (Item 22, to be specific).
“An FDD provides key information about the franchisor, as well as outlines the relationship between the franchisee and franchisor,” said Jeff Platt, president of franchise operations at CircusTrix. “The franchise agreement is the legally-binding contract between franchisee and franchisor.”
Reviewing both items with great care will help the reader better understand their differences, CoreLife Eatery’s Senior VP of Franchise Development Steven Corp said.
“The FDD describes a potential relationship between franchisor and franchisee and provides information on the franchisor and the opportunity, while the franchise agreement is a binding legal document that governs the relationship between franchisor and franchisee,” he said.
In painstaking detail (it’s not unrealistic for the document to run upwards of 200 pages), an FDD lays out the ground rules for how the business is required to operate and what both parties must do to honor their commitments. FDDs list out all fees and costs, one-time and ongoing, required of franchisees when entering into an agreement with the franchisor.
The document also contains historical information about the franchisor, including information about company personnel, financial performance, build cost and past litigation. Additionally, FDDs provide insight into the health of the franchise concept, its strategic viewpoint in the marketplace and growth plans.
“The 23 Items of the FDD serve to provide validated information about the franchisor to a prospective franchisee,” Corp said, mentioning that FDDs stipulate the obligations the franchisee has in running the business, as well as “the support the franchisee can expect in operating the business, a list of current franchisees in the system and more.”
The franchise agreement, on the other hand, covers more specific information, like size and exclusivity of territory, store count and duration of the relationship, the experts explained.
“The franchise agreement spells out the specific legal obligations of both parties,” Platt said. “As a franchisee, it's important to make sure you have a full understanding of the obligations of both parties, including the franchisee's operational and financial commitments. This provides a basis for you as the franchisee to complete a business plan for the new venture and ensures those commitments are included in your plan.”
Another key difference between the documents franchisees must understand, CoreLife Eatery’s president, Scott Davis, pointed out, is that FDDs are uniform for all franchisees within a given system, while each franchise agreement is unique to the franchisee signing it. Davis also advised franchisees pay close attention to structural costs and cash flow of a given concept.
In addition to understanding the specific stipulations of their own franchise agreement, Platt advised that franchisees pay particular attention to Items, 6, 7 and 19 in an FDD, as well.
“As a franchisee, it's important that you understand what fees you will have to pay to a franchisor, and these sections will provide full cost estimates along with financial performance representations,” he said.
Corp echoed Platt’s sentiment, suggesting prospective franchisees familiarize themselves with as much of the document as possible and if they experience confusion in any regard, consult a professional.
“Engage the services of an accountant and/or a franchise lawyer should you need assistance understanding any part of the FDD,” he said.