Almost everyone considering purchasing a franchise business wants to know how much he or she can expect to earn. Federal and state franchise laws and regulations restrict the type and extent of financial performance representations franchisors can make to prospective franchisees. The restrictions are intended to protect prospective franchisees from pie in the sky promises by the franchisor. The tension between what a franchisor can tell prospective franchisees about how much they can expect to earn and a prospective franchisees’ desire for that information has existed since the enactment of the first laws specifically regulating franchising in the 1970s.
The Federal Trade Commission’s Franchise Rule, which became effective in 1979 and was substantially revised in 2007, permits franchisors to make financial performance representations – commonly referred to as “FPRs” – in Franchise Disclosure Documents that franchisees are required to deliver to prospective franchisees. If FPR’s are not made in writing in the Franchise Disclosure Document, the franchisor cannot make them verbally or in any other form. The 2007 revisions to the FTC Franchise Rule provided more clarity on the nature and extent of FPR’s that a franchisor is permitted to make. Prior to the 2007 revisions, the majority of franchisors did not make FPRs in their Franchise Disclosure Documents. After the 2007 revisions, more franchisors started making FPR’s. But uncertainty remained.
On May 8, 2017, a Commentary specifically addressing FPRs in Franchise Disclosure Documents was adopted by the North American Securities Administrators Association (whose membership is comprised of state securities regulators). The Commentary does not alter the existing franchise disclosure regulations governing FPRs, but it provides franchisors (and their attorneys) guidance on how to make FPRs that comply with the existing regulations.
Under the FTC Franchise Rule and applicable state franchise laws, a franchisor cannot make FPRs unless there is a “reasonable basis” for the representations at the time they are made. The May 2017 Commentary provides guidance on the types of information that can be disclosed and how it can be disclosed so it is not misleading. Although the Commentary does not have the force of law, it helps clarify the parameters of a proper, legally compliant financial performance representation. Hopefully the Commentary will result in more Franchisors adding FPRs to their Franchise Disclosure Documents and will provide more uniformity in FPRs, which will benefit prospective franchisees who want reliable information on how much they can reasonably expect to earn when making a decision about whether to purchase a franchise.
This article is for informational purposes only and does not contain or convey legal advice. Consult a lawyer. Any views or opinions expressed herein are those of the authors, and are not necessarily the views of any client.