Maintaining transparency – the disclosure document
When assessing a franchise offer, prospects tend to find it difficult to ascertain what they let themselves in for. As a result, some people have lost their investment or have found themselves locked into an unworkable contract with untrustworthy people. This happened either because of misrepresentation or fraud on the part of a self-styled franchisor, or because prospects failed to investigate the opportunity properly. It is also true that an investment into the world’s “best franchise” can end in disaster if the franchisee turns out to be the proverbial “square peg in a round hole”.
Having recognised this problem, FASA’s members acknowledged as early as 1994 that there was a need for prospective franchisees and their advisors to have access to comprehensive and reliable information about the franchise opportunity of interest to them. The intention was to furnish them with this information well before they enter into any binding commitment.
This gave rise to an amendment to FASA Code of Ethics and Business Practices and the creation of an appendix setting out the minimum information prospects were entitled to receive. From then onwards, members were compelled to provide this information to qualified prospects in the form of a comprehensive disclosure document.
This step was linked to the introduction of a mandatory cooling-off period in favour of prospective franchisees. The relevant section of the FASA Code provides that a minimum of 14 full days must elapse between the date on which a prospective franchisee receives copies of the disclosure document and the franchise agreement and the earliest date on which an agreement can be signed or any monies are paid over.
FASA’s disclosure document requirements
Appendix 1 to the FASA Code of Ethics and Business Practices lays down the minimum amount of information a disclosure document must provide:
- Full and traceable information about the franchisor company including contact details and details of professional affiliations.
- Details of qualifications and business experience of the franchisor and his officers in the type of business being offered as a franchise and the operation of a franchise.
- Details of criminal or civil action against the franchisor or his officers, either taken during the past three years or pending.
- Full details of the franchise offer and the underlying business.
- Full details of the obligations of the franchisor vis-à-vis the franchisee.
- Full details of the obligations of the franchisee vis-à-vis the franchisor.
- An explanation of the most important clauses of the franchise agreement, including restrictions placed on the franchisee.
- Financial projections for at least two years and an explanation of the basis on which these projections were calculated.
- Full details of all payments, initial and ongoing, the franchisee will be expected to make, and what she can expect to receive in return for these payments.
- A list of existing franchisees and their contact details.
- An auditor’s certificate certifying that the franchisor’s business is a going concern and able to meet its obligations as they fall due.
- A statement by the franchisor to the effect that to his best knowledge and belief, the financial situation of the franchise company has not deteriorated since the day the auditor’s certificate was issued.
Furthermore, FASA prescribes that the disclosure document must be updated at least annually, more frequently, should material changes within the franchisor’s business take place.
Blatant misuse of trust
FASA’s franchisor members were supportive of the requirement to furnish prospects with a disclosure document but were appalled to find that compliance made them vulnerable to commercial espionage. Acting in good faith, franchisors had handed copies of their disclosure documents to individuals who posed as prospective franchisees. These documents contain highly confidential information and it soon emerged that the intentions of some of these enquirers were less than honourable.
- Some prospects obtained disclosure documents for the sole purpose of passing them on to franchisors’ competitors. Such underhanded action has no place in a franchise relationship, and any franchisor worthy of this title will refuse to be party to it.
- Others would utilise the confidential information for their own ends, to help them set up a business of their own, often in direct opposition to members of the franchisor’s network.
To protect themselves against such blatant misuse of trust, most franchisors now expect prospects to sign a formal secrecy undertaking before they will issue them with a disclosure document. The only obligation a properly worded secrecy undertaking should impose upon a prospect is an obligation that she would observe confidentiality and would not to use the information in any way other than to assess the opportunity. It needs to be stressed that signing such an undertaking should not bind the prospect in any other way.
For an example of an acceptable secrecy undertaking click here