Chapter 5 Franchising Part 2

TRUE

A business plan can help manage the franchise operation and identify important timelines and goals.

TRUE

A franchisor is obligated to have the prospective franchisee sign, date, and return the acknowledgment of receipt to the franchisor to confirm that these were properly disclosed.

TRUE

A startup franchisor without an established reputation may face problems attracting franchisees because potential franchisees do not know if the value of the system is going to be high enough to justify the royalty rate they have to pay the franchisor.

TRUE

Although franchise agreements follow a certain format, there is no standard form of franchise agreement because the terms, conditions, and methods of operations of various franchises may vary, depending on the type of franchise.

attorney

An________ will often provide an overview of the franchise process, ask questions regarding the franchise operation, and recommend how a franchise should be structured.

TRUE

Certain obligations and requirements may be amended or clarified in the Franchise Operations Manual, excluding material provisions of the franchise agreement such as royalty payments, fees, franchise term and renewal, and default and termination provisions.

TRUE

Franchisees will be placed in default of their agreement, or their unit may be terminated from the franchise if their obligations are not fulfilled and followed closely. Examples include site location, fees, restrictions on products or services, advertising, and location appearance.

TRUE

Franchisers should provide a reasonable basis for each category when citing estimated costs, and state in general terms the basis they relied upon to calculate estimated additional funds, including local market variations in price and annually updated figures, to ensure they are providing accurate numbers.

Franchise Agreement

Goes into detail to explain all aspects of the franchisee/franchisor relationship. This includes information regarding operational standards, proprietary statements, and franchisee responsibilities such as site maintenance, remodeling requirements, and franchisee financial obligations

TRUE

Important franchisor obligations include pre-opening and site selection assistance, training programs, advertising programs, the minimum number of visits a franchisor will make to the franchisee location, and provided counseling.

Franchise Opening

It describes how many days before a franchise opens for business. This can depend on the complexity of the franchise. A hotel franchisee may have 1 year to open due to extensive construction requirements, while a fast-food franchise may be required to open within 6 months. If a franchisee can open any time it wants, the franchise system would lack sufficient order. Franchisees are required to open their franchise within a specific period of time; otherwise, the franchisor could terminate the franchise and grant the franchise rights to someone else.

Franchise Territory

It describes the area a franchise can operate within, where franchisees can open a location and sell their products or services. It can prevent potential conflicts among franchisees.

Item 6: Royalties and Other Fees

One of the more important Items describes continuing fees that the franchisee is obligated to pay as stipulated in the franchise agreement. These fees can be based on a percent of revenues, a fixed dollar amount, or a combination of both.

Franchise Disclosure Document

Provides an overview and description of key components of the franchise program

TRUE

Provisions and requirements in the Operations Manual must be amended from time to time, except for certain contractual items such as the royalty fees, termination provisions, etc. These changes or updates need to be shared with franchisees who are then responsible to make any changes or updates.

FDD

Should enable a franchise prospect to make an informed investment decision. A franchise candidate must be provided with an FDD 14 calendar days prior to signing a franchise agreement or paying money for a franchise.

TRUE

Systems with lower royalty rates will find it easier to attract franchisees than those with higher royalty rates. The lower the royalty rate, the greater the chance that the system value will be high enough to justify a royalty rate.

TRUE

The business plan can be used to raise capital and prompt franchise management to answer questions pertaining to the franchise venture.

TRUE

The format of required disclosure has been revised several times by the Federal Trade Commission.

Item 4: Franchising Model

The franchising business model is used to develop the franchise system. The two most popular models are the unit franchise and multi-franchise.

Item 7: Estimated Initial Investment

The franchisor must disclose minimum and maximum investments of all fees, costs, and expenses that a franchisee will incur prior to operating the franchised business.

TRUE

The required disclosure of the FDD is the same whether a franchisor is large or small, established or new.

22

There are (how many) categories in the FDD, known as items. These disclose relevant information in what is referred to as simple English, a change enacted in 1979 to prevent inflicting overly legal language on individuals.

Franchise attorney

one of the most important members of the franchise team. Because the franchise industry is regulated by the Federal Trade Commission and several states, it is important to consult with an attorney familiar with franchisor compliance, regulatory requirements, and the franchise business model.

FDD

refers to specific provisions in the franchise agreement. Typically, a prospective franchisee and his/her attorney will review the FDD before reading the franchise agreement, because it contains the most important parts of the franchise agreement. It can be considered a synopsis of the franchise agreement

TRUE

there are eight FDD items that may require further explanation.

Franchise Concept

included in the franchise business plan. This section describes the core business idea of the franchise system and what makes it appealing. It should explain what sets the business apart from the competition. A reader should be able to understand the products or services a franchise will offer its customers and how these may differ from those of competitors.

Executive Summary

included in the franchise business plan. This should be short and concise - one page is ideal. It is perhaps the most important section, as most readers often do not read the entire plan. It should include a brief overview of the business strategy and describe the franchise product or service, market and major competitors, why the product or service has promise, and what distinguishes them from other franchises.

The Franchise Disclosure Document (FDD)

is one of the most important franchise documents and must be carefully drafted.

Franchisee Defaults

It details the specific items under which a franchise can be placed in default of their franchise agreement, how many days are required to cure the default; if not cured, the franchise may be terminated. This is a clause required by Federal Trade Commission. Franchisees must recognize in a legal form that certain actions on their part can jeopardize their franchisee rights, for example, if a franchisee fails to open their business within a certain number of days. The most common default provision occurs when the franchisee lacks sufficient funds to pay their royalty fees.

Franchise Agreement

It is a legally binding document executed by franchisor and franchisee which sets forth what a franchisee is obligated to do in the operation of their franchise and what a franchisor is obligated to do to support franchisees.

The Franchise Disclosure Document (FDD)

It is part of presale due diligence and is required to be given to a franchise candidate by the Federal Trade Commission.

Franchise business plan

It represents an important strategic document that describes and summarizes how a new franchisor will meet its operational and financial goals.

Federal Trade Commission

It requires that a franchisor know and specify the range of franchisee investments. This item enables franchisees to understand the cost structure of launching and managing a franchise unit so they can get a realistic preview of the financial management of their franchise units.

The Franchise Term

It states the length of an initial franchise and renewal terms. Franchise terms can range from 5 years to as long as 20 years, in the case of hotel and certain fast-food franchises. The most common franchise term is 10 years with a 5-year renewal term.

Item 9: Franchisee's Obligations

Item 9 discloses principal obligations for operating a franchise. This item is essential, as the highlighted obligations, which are also presented in the franchise agreement, are legally binding.

Item 11: Franchiser Obligations

One of the lengthier and more important disclosure items is the __________, including the services it provides to franchisees. It is also legally binding.

Franchisee Insurance Requirements

These describe the insurance coverage, amount of coverage, and required credentials of the insurance carrier, such as AAA rated. It is important that each franchisee has insurance to protect its franchise from losses due to events such as a fire or hurricane. One example of franchisee insurance coverage is Business Interruption Coverage, which protects a franchisee from business losses due to a fire or natural disaster.

Franchise consultants

They have experience as a franchise executive or former owner of a franchise company, so they understand the process of launching and implementing a franchising strategy. Their services can be quite helpful, particularly when potential franchisors do not have substantial experience with the system.

Franchise consultant

They offer advice on the non-legal components of franchising, such as how to determine the initial franchise fee, royalties, and structure the franchise territory. Some franchise use consultants as a staff member who can provide marketing services and construct training manuals.

Royalties and fees

They specify the amount of money the franchisee is obligated to pay along with frequency and payment method. It contractually binds a franchisee to pay royalty and other fees on a continuing basis. The basis of a franchisee-franchisor relationship is royalties a franchisee must pay for the right to operate under the franchise brand, operating system, and territory. Examples may state that a franchisee agrees to pay a 5% royalty on all gross sales each month, based on the previous month's sales.

Brand strategy

This describes the marketing plan for the franchise, highlighting how the franchise will be marketed, to whom, and where. This is an important element because it describes the specific methods used to develop brand recognition.

Franchise Development

This is a critical and unique component of the franchise business plan that presents a strategy for growing the franchise system. It should provide an overview of the marketing strategy for developing a franchise network, targeted markets and advertising, and promotional programs used to recruit qualified candidates

Item 5: Initial Franchise Fee

This is an important item in the FDD because prospective franchisees compare the amount of the Initial Franchise Fee to other franchises. When an individual questions the amount of the initial fee, they want to know what they are receiving in return.

Unit franchise model

This is important because it conforms to most franchise concepts that require an onsite owner-operator.

Item 12: Territory

This item describes the territory where franchisee customers, revenues, and future growth will originate. A franchisee territory may be exclusive, protected, or open. If the territory is too small, generating revenue can be difficult, and franchisees must compete for customers within a territory.

Item 5: Initial Franchise Fee

This item highlights the fees a franchisee must pay before a franchised business opens for business. It includes franchise rights, use of the brand, training, operations manual, and grand opening support.

Competition

This section contains an in-depth analysis of potential competitors, including both franchise systems and non-franchise businesses. It highlights the strengths and weaknesses of competitors and elaborates on how potential franchisees may deal with them effectively by highlighting counter strategies and approaches to allay major concerns that may hinder success.

Product features and benefits

This section describes the key features of the franchise, products, or services. It is important to be clear not only about distinguishing features of a product or service but to delineate customer benefits. Ultimately franchisees need to know what makes their product or service better than competitive offerings so they can market these to potential consumers.

The Market

This section describes the potential market size and specifies the local or national scope and strategies that a franchise system will focus on in company-operated locations. Most importantly, it highlights the trends in a particular market and whether the market is growing, stable, or shrinking.

Franchise Leadership

This section highlights individual profiles of the management team and specifies key responsibilities. It may describe the characteristics of the management team that contribute to the success of the franchise launch and development. This information signals the underlying quality of a franchise business and enables potential investors or lenders to know who will be leading the organization and their experience and accomplishments.

Financial Projections

This section should include franchisor and franchisee pro forma financials which include projected revenue/ income streams: This is an important component of any business plan because it represents projected cash flow and income statements, i.e., how much a franchise stands to earn.

Item 19: Financial Performance Representation

Under Federal Trade Commission rules, information about the financial performance of a franchise such as average franchisee revenues or profits can only be disclosed in Item 19 to be given to a prospective franchisee. For startup franchisors without previous franchisee financial information, franchisors should disclose company-level financial performance information. Franchisers need to identify specific type of financial information relevant to their business and industry.

TRUE

When planning a new franchise program, the business plan will outline key steps necessary to launch and build a successful franchise network.

TRUE

Without a business plan, a potential franchisor would lack a detailed plan to navigate the launch and development of a successful franchise

Grant of the Franchise

describes the franchise and products or services it provides, the products a franchisee is allowed to sell and the product/service characteristics that must be maintained in order to achieve system-wide standards.