Franchise Investments - Competent Interdisciplinary Due Diligence
You think you want to buy a franchise. You’ve had the sales pitch and been to Discovery Day, the day the franchisor sets apart to razzle-dazzle franchise buyers. You’re hotter’n a ten dollar pistol for this deal that you think is your future, financially and in terms of personal career achievement satisfaction. You are sold. But you probably don’t really understand what you are looking at. Why not? The reason you lack insight into the proposition before you is that you have not had any experience in small business investment vetting. You may have an MBA and twenty years corporate business experience. You may have more awards than Tiger Woods. But this is a different world than you could possibly imagine.
It is a world in which what you see is probably not real; and what is told to you is probably false, no matter how sound it seems and how much sense what has been said to you seems to make.
You have in your possession an FDD, a Franchise Disclosure Document. It says – because it is required to say – that you should not rely on it alone to acquire an understanding of the agreement/contract you are thinking of signing. Since the reference is “contract”, your mind turns to “legal” and “lawyer”. But it says you should consult a legal or other advisor. What does than mean?
It means that knowing the legal side of the proposition is insufficient for the making of an informed investment decision.
Practically every provision of the franchise agreement has an economic/financial consequence. It is not just what the initial fee and the royalty rate may be, or the advertising requirements. Every term in that document has economic risk implications. It presents a profile of economic/financial risk that is not fully accounted for in the FDD. If you can’t determine what that is, and if you can’t estimate competently what resources you must have in order to acquit yourself in the face of that risk profile, you will probably end up in bankruptcy court instead of as a member of some country club with money in the bank and a secure future.
Franchising today is full of scams – deals that are not real and that are masquerading as real investment opportunities. These scams abound and are operated by professionals who have fleeced smarter people than you. Go to www.BlueMauMau.org, the leading franchise investment blog site and read all the stories of people like you who have been fleeced and left totally destroyed. Read the expert advice articles and start to get a real appreciation of the extreme risk of investing in a franchise opportunity today. Then take a deep breath and step back from the deal on the table in front of you.
You don’t have to lose everything because you invested in a business relationship you don’t fully understand. But you can’t possibly sort it out by just going to a general practice business lawyer and having a “legal” evaluation of the proposition. You must have both a legal and a business issue evaluation of it. Your professional resource must be able and willing to provide both sides of it. Without that you are just trying to play football on one leg.
Interdisciplinary vetting of any franchise is absolutely necessary in order for you to understand the real risks. Even the most astute expert may miss something that a sophisticated crook may try to pull on you. But reducing the investment risks is something you cannot afford to forego. The disciplines of law, economics, financial planning, operational feasibility, market place analysis and knowledge of the franchising business are all indispensible. If the lawyer you choose can’t do it all, you are putting yourself at a serious disadvantage when you sign the agreement and write the big check and take out the big loan and sign the long term retail location lease. You are, although you may not fully appreciate it, taking on over one million dollars of risk in a deal that says that the total initial investment is from $ 200,000 to $ 300,000. The total initial investment information in every FDD in the world today is vastly understated. If your lawyer doesn’t understand what that is and how to evaluate it, you will not know whether you are adequately capitalized for the investment risk. You will find out too late that you face gambler’s ruin – an economic doctrine that says that even if the risk is possible of successful assumption over the long run, if you don’t have enough money to get you through it all, you will go broke before the goal is reached. That is precisely where the total initial investment information provided in the FDD is always misleading. The reason is that if you knew the truth of the matter, you would know that the investment is not a sound investment. And that is only one easy example of what you are dealing with.
The list of FDD inadequacies and the explanations why would fill a book. I can’t list all the variations of inaccurate statements about each aspect of a franchise agreement within the space of this article. This is intended to tell you that you need to assure that the person who is assisting you in evaluating a franchise opportunity must have not only a law degree and business law experience, but also a solid background in franchise business law and the ability to go beyond mere legal explanations of what legal documents say.
Very few lawyers can or will go there. Their errors and omissions insurance probably doesn’t cover their giving business advice. They don’t know enough about the subject to do it competently anyway. If you don’t use a lawyer who can cover all the interdisciplinary requisites of this assignment, you will never know the risks until it is too late for you to hedge against them. How do you find the right person?
You go to Google or any other search engine, and you do a search using the words Franchise Lawyer. You then call every one of them that shows up on the first two pages of search results and you ask them the following questions. Do you practice franchise law as your main professional activity? How much of your practice is focused upon franchising? How much of your practice is focused on pre investment franchise due diligence? Do you provide advice about the business and financial aspects and risks of franchise investments in addition to the legal advice about it? If the lawyer you are speaking to does not give you affirmative and definite answers to show that franchise pre investment due diligence is what he focuses upon, and that what he provides includes business and financial analysis as well as legal analysis, call the next person on the list and ask the same questions.
You can’t make an economically and legally rational decision relying on a one trick pony.
Do yourself and your loved ones the justice you want for them. It may mean changing your mind on things you have already decided to do and having to tell your family that you were about to make a terrible mistake. But that is a lot better than having to tell them later on that you have lost everything and have to file bankruptcy.