The Basics of Franchising

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Everyone knows about popular franchises – Burger King, Subway, Merry Maids, Two Men and a Truck but what exactly is a franchise? How does a company become a franchisor? What do you need to do to become a franchisee? What laws apply to these business structures? It’s not as simple as negotiating or signing a contract. Let’s explore the basics of franchising and the laws regarding the same.

Franchising is the act of a company selling the right for others to utilize its existing business model, products, services and trademarks. The person selling the right is the franchisor, the person purchasing the right is the franchisee, and the franchise is both the contract the parties enter into and the business the franchisee operates.

The act of offering and selling franchises is governed by the Federal Trade Commission. Specifically, the disclosure rule 16 Code of Federal Regulations. Part 436 (the “Amended FTC Rule”). The Amended FTC Rule applies to the sale of franchises located in the United States and its territories and possessions but not the sale of franchises in other countries. The Amended FTC Rule requires that a franchisor provide a franchisee with a Franchise Disclosure Document (“FDD”) prior to any sale which includes signature of a contract or payment or receipt of any consideration within 14 calendar days of receipt of the FDD. That means that you can’t decide you want to own a franchise today and buy one tomorrow. The purpose of the FDD is to explain in plain English the terms of a franchise agreement to ensure that potential franchisees have accurate and complete information before deciding whether to commit significant resources to the purchase of a franchise. The FDD should put the prospective franchisee on notice of all of its rights and obligations under the contract. There are 23 items that must be disclosed in the FDD including litigation, bankruptcy, finances, prior and current franchisees, contracts including the franchise agreement, and two copies of receipt pages. As you can imagine, these FDDs can be quite lengthy. Additionally, the FDD needs to be updated for material changes within a reasonable time after the close of the quarter and 120 days from the franchisor’s fiscal end annually and notify prospective franchisees of the material changes.

Moreover, some states require franchisors to register their FDDs annually with state regulatory agencies. Others require you to file with the state prior to selling any franchises. Some of these states require annual filings while others may require a single filing or no filing at all if franchisors utilize a registered trademark with their brand. For example, in Georgia and Louisiana, franchisors need to file documents with the state if they do not have a trademark registered with the federal government. In Connecticut, Maine, North Carolina, and South Carolina, franchisors without a federally registered trademark must comply with registration requirements. Then there are other states that have no registration or filing requirements at all.

There are fourteen states that have their own franchise laws including California, Hawaii, and New York. Florida is not one of them, but it is one of the twenty-seven states that have “business opportunity” laws. Florida Statute 559.80 – 559.815 is called the Sale of Business Opportunities Act. It requires disclosures to be given to a potential buyer at least 3 working days before the receipt of any consideration or signature like a mini FDD. However, a franchise is exempt from this disclosure if: (a) The franchise meets the definition of that term as defined by the Federal Trade Commission regulations entitled, “Disclosure Requirements and Prohibitions Concerning Franchising and Business Opportunity Ventures,” as set forth in 16 C.F.R. ss. 436.1 et seq.; and (b) Before offering for sale or selling a franchise to be located in this state or to a resident of this state, the franchisor files a notice with the department, on a form adopted by the department, stating that the franchisor is in substantial compliance with the requirements of the Federal Trade Commission rule and pays a fee in an amount set by the department not exceeding $100.

In Florida, filing the exemption only requires the following information: the name of the applicant, the name of the franchise, and the name under which the applicant intends to, or does, transact business, if different, the applicant’s principal business address, and the applicant’s federal employer identification number. You do not need to provide a copy of the FDD or franchise agreement. However, you do need to renew this filing annually.

Now you may be thinking, if the FTC provides such a rigorous standard for FDDs, why do some states have their own laws? If a franchisor fails to follow the disclosure rule, you can file a complaint with the FTC but ultimately, the FTC must decide to pursue those claims and to bring charges for violations as there is no provision for civil claims. Therefore, the state laws create possibilities for consumers to pursue civil claims.

While Florida does not have franchise disclosure laws unlike other states, it does have the Florida Franchise Misrepresentation Act (Florida Statutes Section 817.416). Though it was a criminal statute in 1971 when first enacted, the act is now an avenue for private civil action for any person who invests in a franchise in the state of Florida. The Florida Franchise Misrepresentation Act states that a franchisee may sue a franchisor when one or more of the following take place:

  • A franchisor fails to disclose or misrepresents the total investment required from a franchisee;
  • A franchisor misrepresents the opportunity or prospect for success of a franchisee;
  • A franchisor sells more franchises than a market can reasonably sustain.

The Florida Franchise Misrepresentation Act does not apply to franchisees that are located outside of the state, even if the franchise is headquartered in Florida. However, it does cover franchisees who open within the state if their headquarters are outside the state. In other words, if the franchise operates as a Florida business, inside the state, it is covered. A prevailing plaintiff in a lawsuit filed under the Florida Franchise Misrepresentation Act is entitled to a return of all money invested in the franchise, costs incurred in filing the lawsuit, and reasonable attorney’s fees. Franchisees may also want to consider utilizing the Florida Deceptive and Unfair Trade Practices Act (FDUTPA) which is also a common recourse for franchisees and businesses as a whole.

Now remember when I said you couldn’t go out and get a franchise today or tomorrow? That’s not always the case. There are some exemptions where franchisor’s do not need to provide an FDD. These exemptions include:

  1. minimum payments (raised to $615 in 2021)
  2. fractional franchise (adding a new product line or service less than 20% expected gross sales and other requirements)
  3. leased departments (like the optical at Costco)
  4. oral contracts (which is exceedingly narrow and impractical. Even unsigned handwritten notes invalidate this exemption)
  5. petroleum marketers and resellers because they are covering by Petroleum Marketing Practices Act)
  6. large investment exemption based on the size of the investment ($1,233,000) in qualifying expenses typically disclosed in Item 7 of the FDD
  7. large franchisee investment based on the net worth of the investor ($6,165,500)
  8. and the insider exemption based on the franchisee’s involvement with the franchisor.

These amounts are raised every 4 years to account for inflation. However, states also have their own exemptions and the exemptions available at the state and federal levels do not always align, so franchisors may need to review a variety of potential exemptions.

As you can see, the franchise world can be complex and confusing, but we are here to guide you through the process and assist you in reaching your goals. Please contact us here to see how our experienced attorneys can help you today!

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