One of the most important steps in the franchise discovery process is carefully reviewing the brand’s franchise disclosure document. Get insight on the key items to study, and how to determine if it's a good investment for you.
What is a Franchise Disclosure Document?
Mandated by the Federal Trade Commission (FTC), the franchise disclosure document (FDD) is a legal document that provides thorough, detailed information about the franchise brand and their investment opportunity. Outlining essential details such as startup costs, responsibilities of both parties, and audited financial statements, the FDD is designed to help potential franchisees make informed decisions regarding their investment.
The FTC also requires the FDD be updated and published yearly. Additionally, the document must be shared with franchise candidates at least 14 days prior to them signing the franchise agreement.
Key Sections of the FDD
Among the pros and cons of franchising, the FDD can be seen as both an advantage and disadvantage. Chock full of pertinent information, it can be labor intensive to review the FDD, but it’s a critical step when choosing the right franchise to invest in.
While the entire document is important and should be reviewed meticulously, there are a few sections – or items – that are especially crucial:
- Item 1 – Franchisor’s background: This section outlines the brand’s history, including its home state, the year it was founded, when it started franchising, the current number of units, and any affiliate brands or parent companies. You’ll also find an overview of the product or service the brand provides and their target customer.
- Item 3 – Litigation history: Here you’ll find any legal disputes the company has been involved with. Keep in mind, it’s not uncommon for larger franchise brands to have some legal history. Before deciding against their opportunity, get more details as to what happened. However, if a brand has filed a number of cases against their franchisees, that could be seen as troublesome.
- Item 5 – Initial fees: Called the initial franchise fee, this lump sum is paid directly to the franchisor after signing the franchise agreement. Considered an “entry fee” to the franchise system, this grants franchisees the right to use the franchisor’s branding and trademarks. Depending on the franchise, you may also need to pay territory or area development fees.
- Item 6 – Other fees: After the initial fees are paid, franchisees are required to pay royalties and advertising fees throughout the life of their agreement. Typically calculated as a percentage of gross sales, these fees are usually paid monthly. Additional fees may apply for renewing or transferring your contract at the end of the original term.
- Item 7 – Investment costs: A benefit of franchising is getting a detailed breakdown of the estimated costs. This includes various costs such as the franchise fee, real estate, build-out or construction costs, equipment, initial inventory, insurance, and working capital. Be sure to review this section carefully to ensure you have the proper funds.
- Item 9 – Legal obligations: Once you sign the franchise agreement, you have certain legal obligations you must meet, including maintaining brand standards, using only approved vendors, and meeting certain sales goals. This section helps you understand what is legally expected of you as a franchise partner.
- Item 17 – Termination, renewal, and transfer terms: If necessary, franchise agreements can be transferred or even terminated. Ideally, most franchisors and franchisees would want to renew their contract once it ends, but there are conditions that allow franchisees to end their partnership with the brand or transfer their business to another entrepreneur.
- Item 19 – Financial performance representations: An optional section of the FDD, this item lists sales information of franchise locations that have been open throughout the previous fiscal year. It’s important to note that these figures are not a guarantee of your location’s performance or a promise of profitability.
- Item 21 – Financial statements: This item includes the franchisor’s audited financial statements, which give you insight into the company’s financial health. These statements help you assess the franchisor’s stability and ability to support its franchisees over time. Have an accountant review these statements to ensure the franchisor has the financial strength to meet its obligations.
In addition to you – and any potential business partners – reviewing the FDD, it’s wise to have a franchise lawyer study the document. Given their expertise in franchising, they can help answer any questions you may have about the language used in the FDD.
Franchise with Lightspeed Restoration
Part of Home Franchise Concepts’ family of brands, Lightspeed Restoration is a rising disaster restoration franchise brand. With markets available for investment across the U.S., all our franchisees are guaranteed their own protected territory.
Lightspeed Restoration offers an affordable franchise opportunity with the ability to build multiple revenue streams. Our diverse services include water and fire damage restoration, mold removal and remediation, board-up services, air duct cleaning, and moisture control.
To learn more about our franchise opportunity, request information today, and someone from our team will set up an introductory call.