If you are a new franchise company, it may be wise to refrain from including financial performance information in your FDD. Some companies choose to include their corporate performance information, but there is a danger that this information could be misleading to a franchise prospect.
What Financials Should Go in a Franchise Disclosure Document?
By Harold Kestenbaum
If you’re still wondering, “What is a franchise disclosure document?” — buckle up. This legal document, delineates nearly every aspect of your franchise organization and its operation. Not only will you have to file the FDD as part of your franchise legal documents with various states, potential franchisees will review it before signing on with your plan.
Though you have a thousand little details to finalize before getting your FDD drawn up, you’re faced with one significant decision — whether to include company financial performance information. It’s something of a sticky situation, as there are problems both with divulging too much and not revealing anything at all.
The FDD must follow a prescribed format, which includes several “Items” that must contain specific information. In the Franchise Disclosure Document Item 19, companies have the option to disclose their corporate or franchisees’ financial performance from the previous year. There are many expectations as to how this information will be presented, based on law and industry standards.
Figures should be presented as average or median values, to show a range of outcomes.
It’s safer to include the average income of all franchises, not just the top performers, which you cannot do.
If averages include only top performers, this must be plainly delineated.
Performance data must be clearly labeled as reflecting gross profit or net profit.
If both corporate and franchise data must be included, they must be listed separately and cannot be averaged together.
The Item 19 must include a date range.
Some company executives wonder about the benefits and drawbacks of offering prospects financial performance information. After all, these individuals haven’t even signed on yet for a franchise. However, including financial performance information can move the dial on a franchise sale.
Here are three considerations when deciding whether and how to include financial performance information.
Include information that offers accurate context
If you are a new franchise company, it may be wise to refrain from including financial performance information in your FDD. Some companies choose to include their corporate performance information, but there is a danger that this information could be misleading to a franchise prospect. Corporate locations can perform much differently than franchise locations, especially in a new franchise system. However, if the corporate earnings are particularly impressive and you feel they present a good marker for potential franchisees, go ahead and include them.
Understand it and be ready to defend it
Financial performance information sometimes is extensive, while other times it is fairly condensed. Some companies include year-over-year earnings, while others opt to present the information on a quarterly basis. Perhaps the numbers are averages or medians. Do they include top performers or all performers? You must include both. You must decide the best way to present the data. It’s also critical to understand your charts, tables and numbers, and how to answer questions and defend your calculations. Having an Item 19 you can’t explain to a prospect could be worse than not having any Item 19 at all.
Item 19s can help your prospect get funded
Since the recent economic recession, many more FDD’s include financial performance information. As lenders have grown more restrictive, there is a greater onus on franchisee hopefuls to prove up the potential of their proposal. Loan officers look to the FDD to support the risk of lending to the franchisee prospect.
Additionally, lenders and prospects alike have become more sophisticated regarding the franchise industry, and the marketplace has more competition than ever. For these reasons, franchise companies are under more pressure than ever to prove that their offering provides a worthwhile return on investment.
If you need help in understanding, “What is a franchise?” or in crafting a Franchise Disclosure Document, call my office at (516) 745-0099. I can help your company craft its franchise legal documents and offer advice about Franchise Disclosure Document Item 19 development. Or, send us a message for a FREE consultation!
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