Item 19 of the Franchise Disclosure Document (FDD) is titled, “Financial Performance Representations.” In this Item, franchisors have the option to provide information, “about the actual or potential financial performance of its franchised and/or franchisor-owned outlets, if there is a reasonable basis for the information, and if the information is included in the disclosure document.”
Providing a financial performance representation (FPR) in Item 19 is optional. If a franchisor chooses not to provide an FPR, it must include a “negative disclosure” which states:
“We do not make any representations about a franchisee’s future financial performance or the past financial performance of company-owned or franchised outlets. We also do not authorize our employees or representatives to make any such representations either orally or in writing. If you are purchasing an existing outlet, however, we may provide you with the actual records of that outlet. If you receive any other financial performance information or projections of your future income, you should report it to the franchisor’s management by contacting [name, address, and telephone number], the Federal Trade Commission, and the appropriate state regulatory agencies.”
Many franchisors choose to provide this negative disclosure. While financial performance representations are of obvious interest to prospective franchisees, improperly-prepared FPRs can expose franchisors to litigation. As a result, rather than take the time to prepare an accurate and substantiated FPR, franchise executives (and their lawyers) often opt for the safer and simpler route.
But, let’s suppose that you have received an FDD that includes an FPR. What do you need to know in order to get the most out of the information provided?
1. An FPR Can Provide Historical Data or Project Potential Earnings.
Item 19 financial performance representations can be split into two categories: (i) those that provide actual historical financial data, and (ii) those that project franchisees’ potential earnings. In both cases, franchisors must be able to substantiate their financial performance representations, and they must have a “reasonable basis” for all representations made. Additionally, for a projected FPR, franchisors must disclose, “the material bases and assumptions on which the projection is based.”
2. FPRs Can Be Location-Specific.
In many cases, franchisors will provide financial performance representations that are specific to a certain geographic location or one individual type of franchise (such as a free-standing outlet versus a multi-unit retail location). If a franchisor chooses one region or type of franchise over another, it will usually have a reason for doing so, and prospective franchisees should carefully consider the limitations of any representations that are offered.
3. The Disclaimers that Follow the FPR in Item 19 are Important.
Oftentimes, the disclaimers that a franchisor includes in Item 19 will be longer and more-detailed than the financial performance representation itself. When assessing the value of an FPR, it is critical to review the disclaimers and ensure you have a clear understanding of their implications for the validity of the FPR.
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Jeffrey M. Goldstein is a national franchise lawyer who has more than 30 years of experience representing prospective and active franchisees. If you are considering a franchise, he can help you understand the franchisor’s FDD, and he can help you make informed decisions about negotiating your franchise agreement. For a free consultation and to learn about our flat-fee service options, please call (202) 293-3947 or inquire online today.
