Franchise Relationships 101 – An Overview of the Franchise Disclosure and Negotiation Process

The economic impact of franchising is undeniable. According to the International Franchise Association, franchising accounts directly for more than 8% of private sector jobs nationally, and more than 3% of all establishments in the United States are franchised businesses.

There are two primary ways in which franchising is regulated in the United States. First, the FTC Revised Franchise Rule and the laws of several states impose complex disclosure obligations on franchisors. Thirteen states also have franchise registration requirements, and many other states have “business opportunity” registration requirements that have filing implications for franchisors. Second, several states have specific laws or laws of general applicability that apply to ongoing franchise relationships and/or the termination thereof. An understanding of and adherence to these laws is critical for franchisors, and franchisees need to be knowledgeable about these laws as well in order to protect themselves both before and after entering into a franchise relationship.

Subject to certain limited exceptions, all franchisors must provide all prospective franchisees with a Franchise Disclosure Document (“FDD”) at least fourteen calendar days before accepting any payment or obtaining any signed agreement from a prospective franchisee. Certain states have different disclosure timing obligations. The FDD is a complex, integrated, highly-regulated yet highly-customized legal document that is intended to provide prospective franchisees with all information that could reasonably be considered material to a decision whether to commit to a particular franchise opportunity.

Included as exhibits to the FDD should be copies of all agreements that the franchisor requires its franchisees to sign before acquiring a franchise. The most well-known of these agreements is the franchise agreement. The franchise agreement should outline and define with specificity the parties’ respective rights and obligations throughout the entire term of the franchise relationship. It should also govern to a limited extent the parties’ rights and obligations following termination of the relationship. Franchisors may also offer area developer, area representative or subfranchisor opportunities, and each of these requires its own unique and specially-tailored agreement.

Contrary to popular understanding (but, again, subject to certain limitations), all franchise agreements may be freely negotiated prior to their execution. Franchisors—especially those with large networks of franchisees—may adopt a policy of non-negotiation, but nothing in the law prohibits negotiation of franchise agreements. Indeed, state franchise laws typically promote such negotiation, particularly where it enhances the rights of individual franchisees. While items such as initial franchise fees and royalty fees are understandably less likely to be considered negotiable by franchisors, items such as territorial rights, renewal terms and termination options are often the subject of heavy negotiations. It is often in the best interests of both franchisees and franchisors to engage in reasonable, good faith efforts to structure a deal that adequately serves and protects the interests of all parties involved.

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