What is a Common Violation Franchisors Make During the Sales Process?
If you are contemplating buying a franchise, the primary document you will review is a Franchise Disclosure Document, or “FDD.” An FDD contains 23 items of information that you must be provided with at least 14 days before you may sign it. The Federal Trade Commission regulates the sale of franchises, as does the North Carolina Unfair and Deceptive Trade Practices Act.
Item 19 of these 23 items in the FDD will contain what are called Financial Performance Representations, or “FPRs.” The FTC Franchise Rule states that a franchisor may, but does not have to provide, FPRs about the financial performance of the company and its franchises.
FPRs - What are they and how are they used?
FPRs are defined as information about the actual or potential financial performance of its franchised or franchisor-owned outlets. Notably, there must be a reasonable basis for this information – it cannot just be the franchisor’s wishful thinking. There must be written substantiation of the financial representations, and it must include a disclaimer that the prospective franchisee’s earnings may be different. There are required disclaimers whether or not there are FPRs.
Some common examples of FPRs include revenue statements with categories of income based on the different types of products offered, high-low ranges, total costs of sales and gross profits, revenue broken down by different geographic categories, and other sales data. These may even include projections, though they must have a reasonable basis. The FPRs must be contained in the FDD.
Common Violation - Franchisors Making Unlawful “Financial Performance Representations” Outside the Franchise Disclosure Document
Franchisors, however – especially new or inexperienced ones – often violate this important franchise rule, making FPRs to potential franchisees during the sales process in order to close the sale. This is a common violation as they are trying to make the sale.
Make no mistake, it is illegal for franchisors to make financial performance representations outside Item 19 of the FDD. Nevertheless, franchisors’ representatives – officers of the company, salespeople, and even occasionally their legal representatives – make promises or projections about revenue in phone calls, emails, or other documents provided to prospective franchisees.
Of course, the franchisor may repeat information from the FDD as long as contained in it. But no differing, additional, or incomplete information is permitted to be provided.
In our firm’s experience, overzealous franchisor salespeople sometimes engage in puffery, explaining how much select other franchisees make, the potential for growth based on market conditions, or even outright untruths. Other times, franchisor representatives will give the impression that the financial data is being provided as a favor. Whether such statements are well intended or intentionally deceptive, make no mistake: they are illegal. Franchisors are prohibited from making them.
What are the remedies if a franchisor makes unlawful financial performance representations? Depending on the violation, it may be anywhere from statutory damages under the North Carolina UDTPA, to rescission of the franchise agreement itself. It is important to be aware that there are often statutes of limitations that expire if legal action to rescind the franchise is not taken. What sort of legal rights you have as a franchisee are likely to be dependent on the specific set of facts in your situation. Needless to say, if you believe you were provided with false or incorrect financial information, or if you are a potential franchisee seeking legal counsel on your rights, you should act promptly.
Dye Culik PC is a Charlotte, North Carolina business law firm. Our attorneys represent franchisees every day in making sure their investment and rights are protected. Purchasing a franchise is a big step, investment, and is often a long-term contractual relationship. If you have a question about a franchise agreement, contact us to see how we can help.