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Stick to the Path

Get your trip down franchise-buying lane off on the right foot with a little how-to help.

This story appears in the January 2003 issue of Entrepreneur. Subscribe »

Digging into the franchise mine for that perfect nugget of afranchise program presents a serious challenge: not finding willingsellers, but rather, being swamped by the number of programs fromwhich to choose.

The best defense you have against the franchise-sellingonslaught is to have a sharp idea of what will bring you happinessand what you can afford. This requires some planning before youjump into the marketplace. Jot down your real interests in businessownership. Do you want to own a business that serves the generalpublic? Or would you prefer to cater to business customers? Are younuts about specialty foods? Do you need part-time work or highlevels of flexibility? Do you want to get family members involved?The planning questions are endless. The point is to think out yourpersonal business goals. As any navigator will tell you, if youdon't know where you're going, you won't know whenyou've arrived.

The sources of information on franchises are plentiful. One ofthe easiest ways to get a feel for the marketplace is to attend afranchise and business opportunity trade show. A handful oforganizations run trade shows in major cities throughout theyear.

When you get to the show, spend a few minutes going over theexhibitors listed in the show brochure. Identify companies yourecognize and especially those that fit into your planning profile.Work your way through the aisles systematically, stopping by everybooth you've noted in your brochure. Dress for casual business.Leave your personal business cards with companies that interestyou, and plan to follow up for more information.

The Internet is an indefatigable source of franchiseinformation. The hype-to-fact ratio is high, but you can gather alot of basic information. Check out Entrepreneur'sFranchiseZone for comprehensive sectorcoverage. Magazines and books also offer good material, includingmy new book, Franchises & Business Opportunities. Anddon't hesitate to contact a franchisor directly for programinformation.

Once you've identified a few franchise offerings thatintrigue you, it's time to dig deeper. You probably have acollection of promotional information, and that's fine as faras it goes, but as a franchise investor, you have a great advantageover people buying an independent business: the Uniform FranchiseOffering Circular. The UFOC is an offering prospectus prepared byevery franchisor, required by law to be delivered to a prospectivefranchisee at least a couple weeks before the contract is signed oryou invest money in the franchise.

Mining the UFOC

What a gold mine of information! A UFOC contains a sample copyof the franchise agreement, a set of financial statements to tellyou about the financial health of the franchisor, and a runningdescription (in plain English, no less) of the key aspects of thefranchise investment:

  • The business background of the franchisor, and its keyexecutives, as well as the company's litigation and bankruptcyhistory
  • The franchisee's fees and total initial investment
  • The purchasing requirements and product restrictions imposed onthe franchisee
  • Financing offered by the franchisor, and other franchisorobligations under the franchise agreement
  • Your territorial, patent, copyright and trademark rights
  • A summary of provisions describing renewal, termination,transfer and dispute resolution
  • Earnings claims and system performance information
  • Statistics about the national franchise system, including alist of the names, addresses and telephone numbers of franchiseesin your region

Read this important document. Get franchisor representatives toanswer all your questions, and leave no stone unturned. Take theUFOC to your accountant and a good attorney, so you know exactlywhat you're getting into.

The single most important step in your franchise evaluation isto talk to current franchisees. Use the contact list in the UFOC,get in your car and visit their businesses. Find a convenient timeto talk to the owners and find out what they like and don'tlike about being a franchisee.

How Uncle Sam ProtectsYou
As a franchise buyer, you need Uncle Sam. Here's how thegovernment helps to protect you from illegitimate franchises:

  • The Feds: For more than twodecades, the FTC has been in the business of insisting thatprospective franchisees receive full pre-sale disclosure. TheFTC's Franchise Rule, adopted in the dark ages of the pastcentury (OK, 1979), requires franchisors to deliver an offeringdisclosure document the size of a small phone book to everyprospective franchisee at least a couple of weeks before thecontract is signed. The intended result: fully informed franchiseinvestors. Franchisors aren't required to register or otherwisefile with the FTC; they satisfy the Franchise Rule by deliveringfull disclosure on time.

    The FTC may bring an enforcement action against any franchisorthat doesn't meet its disclosure obligations or exhibits moreserious problems. Most of its cases have targeted businessopportunity sellers, not franchisors. The FTC's Web site is a great sourceof information.

  • Sale Regulation: Fourteenstates require franchisors to deliver a pre-sale offeringprospectus (the UFOC), register the offering with a state agencyand renew the registration annually.

    These laws create a private right of action for investorsinjured by franchisors who don't comply with the rules, and theadministering agencies (usually the attorney general or thesecurities agency) can provide information to investors aboutspecific franchise companies. The franchise registration states areCalifornia, Hawaii, Illinois, Indiana, Maryland, Michigan,Minnesota, New York, North Dakota, Rhode Island, South Dakota,Virginia, Washington and Wisconsin.

  • State Relationship Laws:Eighteen states, the District of Columbia, Puerto Rico and the U.S.Virgin Islands have adopted laws that protect franchisees fromarbitrary termination of their franchise without good cause. Underthese laws, an injured franchisee has the right to sue for damages.The franchise relationship law states are Arkansas, California,Connecticut, Delaware, Hawaii, Illinois, Indiana, Iowa, Michigan,Minnesota, Mississippi, Missouri, Nebraska, New Jersey, SouthDakota, Virginia, Washington and Wisconsin.

Before You Sign on the Dotted Line

Once the franchisor has thoroughly checked out theapplicant's qualifications, and the applicant has reviewed allthe documents, seen an accountant and attorney, scraped togetherthe money required to buy the franchise, and completed all thenecessary discussions, it is time to close on the transaction.

Purchasing the franchise rights for a business that has not yetbeen built is not a complicated transaction, and the closinginvolves nothing more than signing a few contracts and sliding acheck across the table for the initial franchise fee. Most"closings" for franchise sales do not take place in aroom face-to-face with the franchisor. They take place through themail. The company sends you a final package with tabs showing whereyour signature is needed and a cover letter starting the amount ofthe initial franchise fee. You sign and return, and it'sdone.

However, you should pay attention to the following before yousign on the dotted line:

  • The franchise agreement:This contract should have been in your hands with all blanks filledin for at least five business days before you sign and date it.That's a requirement imposed on the franchisor by state andfederal law; it's not the franchisee's responsibility tosee this is met. Make sure your attorney has reviewed the contractand signed off on it. If you've requested any changes toaccommodate you, make sure they appear in the final form of thecontract.

    Many companies ask you to sign two originals and return them tothe company. The franchisor then executes the agreement and returnsone original to you for your records.

  • Always date your signature:Begin the habit of adding a date to any legal document thatcontains your signature. If the form you're signing doesn'thave a space to show the date, simply jot it immediately after yoursignature. Dates are important in the regulation of franchisesales, and you may be called upon to swear as to a series of datedevents. The date of delivery of the UFOC, the date you first had aface-to-face meeting with the franchisor, the date on which youreceived a completed franchise agreement and the date on which yousigned the franchise agreement are all important.

    Never backdate a document, even if asked to do so by thefranchisor; it will only confuse your recollection of events. Makesure your document record is clear on the dates.

  • Other contracts: You may bepresented with other contracts to sign that are ancillary to thefranchise agreement. All such documents should be included in theUFOC and not come as a surprise at closing. If you do receive asurprise contract, check it with your attorney. Ancillary contractsmay include a site selection agreement (if you don't have asite selected yet), an agreement regarding necessary lease termsand an acknowledgment of the training schedule.
  • UFOC: If you have notreceived the franchisor's UFOC at least 10 business days beforeyou're asked to sign the franchise agreement, stop. Don'tsign the contract; don't send any money. This could indicate amere oversight, or it could mean you have a more serious problem.Contract your franchisor representative.
  • Lease paperwork: Ifyou've selected a location for the franchised business, youprobably have received a proposed lease from the landlord. Makesure your attorney sees this lease form and that you understandwhat requirements the franchisor might impose on the lease terms.It probably won't hold up the closing if this isn'tresolved, but you want to give all parties--and their attorneys--asmuch notice as possible regarding the potential terms of anylease.
  • Bank paperwork: Ifyou've arranged a loan from a bank or other lendinginstitution, it'll want a copy of the franchise agreement (andevery other piece of paper related to the franchise) as soon aspossible. Talk to your banker about the steps necessary to providethe money you're borrowing, and when it'll be available.Make sure all is in order before you close.

Excerpted from Franchise & Business Opportunities:How to Find, Buy and Operate a Successful Business by Andrew A.Caffey

Now That You're an Owner...

You sign the franchise agreement and celebrate taking such agiant step in your business career. Then what? What can you expectof the franchisor and the business development process? Thoughthere are too many variables to pinpoint a "typical"process, expect some common steps in your franchise'sdevelopment.

A well-organized franchisor will have every step in thedevelopment of your new business mapped out in detail. You'llprobably be assigned a lead person to help you push through thestages necessary to open on time.

  • Site location: Your firsttask is to find a site. You'll rely on the expertise andguidance of the franchisor for the business features of a strongsite. What levels of automotive and pedestrian traffic should youlook for? What neighborhood demographics make an ideal site foryour business?

    Finding a location takes time, and you should jump into it withenthusiasm. Locate a commercial real estate broker. Manyfranchisors will visit your market to discuss possibilities.

  • Orientation: Mostfranchisors schedule a visit to company headquarters soon after yousign the franchise agreement. Expect to spend the better part of aweek meeting with franchise representatives and receiving thecomplete introduction to the company, top to bottom.
  • Team-building: One of themost critical steps in preparing for business is to find a solidteam of managers and line employees. Expect to tackle thisyourself, taking out newspaper ads and interviewing candidates. Thefranchisor can tell you how many people you need to hire before youbegin the business.
  • Training: You and yourmanagers will probably attend a full training program at thefranchisor's training center, covering everything from openingthe front doors in the morning to cleanup procedures at the end ofthe day. Great training is the hallmark of the best franchiseorganizations.
  • Build-out: The franchisorusually provides a set of standard architectural drawings, whichyou and your contractor can adapt to your specific location. Atthis point, you tap into the financing you have lined up for thebusiness. With money flowing, you buy operating equipment, smallwares, signs, fixtures and build-ins for installation. Thecontractor and his or her team will pull it together into acomplete business. Remember that the franchisor will have toapprove all aspects of the build-out, so make sure you touch baseat all critical stages with your franchisor company representative.Now the business starts to take shape, leaping out of yourimagination into a real commercial space.
  • Opening: Ah, theunparalleled excitement of opening day! Many franchisors send outan entire training team that does nothing but train new employeegroups for store openings. The opening team arrives about 10 daysbefore opening day and trains all your employees in the variousparts of operation.
  • Field support: Yourfranchisor will visit your operation regularly to discusswhat's going right and what needs to be improved. Somefranchise programs have adopted elaborate evaluation pointssystems, but the thrust of the concept is the same: giving you anevaluation of the strengths and weaknesses of the business, and anexpert assessment of where and how you can make improvements.

Andrew A. Caffey is a franchise attorney in the Washington,DC, area and a former general counsel for the InternationalFranchise Association. He is also the author of Franchises andBusiness Opportunities.

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