The FDD Details Important Information for Prospective Franchise Owners
A Franchise Disclosure Document (FDD) is a 100–200-page legal document that details important information about a franchise. Before you consider investing in a franchise read the entire document, ideally with the help of a franchise attorney or broker. All franchises have an FDD.
Under Federal Trade Commission regulations, the Franchise Rule states that franchisors must disclose the FDD to the prospective franchise owner two weeks prior to the signing of the franchise agreement or payment of any fees. The 14-day period commences when the franchisee signs the FDD receipt page contained in Item 23.
There are 23 items in the FDD. Item 19, which discusses financial performance, is very important but some brands leave it out. It can be a bit controversial and can elicit fear in some franchisors because it answers the question most prospective franchise owners have: How much money can I make with this franchise? This section shows you how profitable a franchise can be. Since there is no standard format for this section, it significantly varies from brand to brand.
There is an added level of transparency when Item 19 is completed. But there are reasons why it is left out. Some brands may omit it because they are newer franchises. Additionally, there may be other circumstances like a pandemic, for example, that hit a brand particularly hard.
No matter the reason for leaving out Item 19, you shouldn’t dismiss a franchisor for not including it. Instead, find out why it was omitted and use your judgment to determine if it’s a reasonable explanation.
23 Sections of the FDD
The 23 sections of the FDD are:
- Item 1: Provides a history and description of the company.
- Item 2: This section provides a prospective franchisee with biographical and professional information about the franchisors and other higher-ups in the franchise company.
- Item 3: This section provides the franchisee with information about any legal issues the franchisor has had.
- Item 4: This section tells the franchisee if the franchisor has ever declared bankruptcy.
- Item 5: This section discusses the initial fees the franchisee has to pay.
- Item 6: This section discusses the other fees the franchisee is responsible for.
- Item 7: This section is in a table format and includes all expenditures the franchisee must make.
- Item 8: This section establishes the restrictions the franchisor has on the source of products and services.
- Item 9: This item includes a reference table that states the franchisee’s obligations in the franchise agreement.
- Item 10: This item discusses the financing agreements the franchisor offers.
- Item 11: This section describes the franchisor’s services that will be provided to the franchisee.
- Item 12: This section describes any exclusive territory and if there can be any modifications to the territory.
- Item 13: This section describes the franchisor’s trademarks.
- Item 14: This section provides information about how the franchisee can use copyrights and patents.
- Item 15: The franchisee’s obligations to the operation of the business are established in this section.
- Item 16: Item 16 alerts the potential franchise owner of any restrictions regarding selling products to the public.
- Item 17: This section provides information to the potential franchisee about the rights and restrictions in the event of a disagreement with the franchisor. Additionally, they will know if this agreement can be renewed or terminated.
- Item 18: This section provides information about how much public figures are paid if the franchisor chooses to use a celebrity.
- Item 19: As mentioned above, this section discusses financial performance and may or may not be included.
- Item 20: This section provides contact information and locations of existing franchises.
- Item 21: This section discloses three years of audited financial information.
- Item 22: This section provides the potential franchisee with all agreements they are required to sign.
- Item 23: This is a receipt that franchisees must sign to indicate they received the FDD.
What is a Franchise Disclosure Document?
The FDD is an important legal document that details every aspect of a franchise opportunity you need to know before investing. The document is 100-200 pages long and contains 23 items that provide potential investors with a history of the franchise, legal disputes the franchisor has been involved in, financial performance (item 19), royalty fees, and so much more. According to the FTC’s Franchise Rule, prospects must be provided with the FDD at least two weeks prior to signing the franchise agreement or paying fees.
Part of the due diligence process before investing in franchise ownership is speaking with a franchise consultant. Not only do these professionals help determine if franchise ownership is right for you, but they are also a top source of conversion. When done well, referral marketing can result in a 10 percent to 30 percent increase in sales.