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Franchising is a concept which began in the 1950's with companies like McDonald's, Burger King, Dunkin' Donuts, Kentucky Fried Chicken, Holiday Inn, Midas Mufflers and Dairy Queen. The formal definition under the Federal Trade Commission Rule regulating franchises is listed below, but in its most simplistic form, franchising is a business format whereby one entity (the "Franchisor") licenses a method of distributing goods or services to a person or entity (the"Franchisee") that will sell such good or services as an independently owned business under a prescribed format that includes the following three basic components:
Due to abuses in the sales process, in 1971 California became the first state to implement laws regulating the sale of franchises. Since that time, 15 other states, including Michigan, have passed specific state laws regulating the sale of franchises and the franchise relationship. In 1979, the Federal Trade Commission ("FTC") passed the Federal Trade Commission Rule (the "FTC Rule") requiring that franchise companies provide prospective franchisees with a Franchise Disclosure Document ("FDD") containing specific information about the franchise being offered. The purpose of the FTC Rule is basically two-fold:
Thus, under federal law, a waiting period of 14 calendar days before a buyer/franchisee can be asked to sign an agreement or pay any money, is required.
16 states have franchise laws requiring the registration of a franchise offering prior to their offer or sale. These states are:
States marked with (R) are registration states requiring review by an administrator as a condition of registration.
What is in the Franchise Disclosure Document? The FDD contains 23 informational items enabling a buyer to learn about the history of the franchisor, the background of its key personnel, and the franchise system to help the buyer make a determination as to whether the program is right for it. These items include:
Importantly, there will be a long section describing your renewal rights and the rights of the franchise company to terminate your franchise in the event of a breach of the franchise agreement. In addition, attached as an exhibit will be the financial statements of the franchise company, which should be reviewed by an accountant to determine the "financial health" of the franchisor.