When a Franchisor Gives an Out of Date FDD
It’s February, 2016, and your prospective Franchisor gives you an Franchise Disclosure Document or FDD dated April 2015, and that FDD contains information as of December 31, 2014. Huh? While this sounds like it is inappropriate and perhaps not in compliance with franchise disclosure laws, in fact it is the scenario for nearly every Franchisor in the 1st quarter of every year in California, and many other states. WHY? Because in California, and many other registration states, Franchisors are required to register to sell franchises using their FDD as of their last fiscal year, usually 12-31-XX. And with a 12-31 fiscal year, in California, all Franchisor registrations expire April 20th of every year, regardless of when they initially registered or were renewed. This creates what is called a “dark period” which Franchisors will sometimes tell a prospective franchisee when it is past April 20th but they haven’t yet received approval on their renewal application. They legally cannot sell a franchise, and their current FDD is expired.
So in the first quarter of every year, prior to April 20th Franchisors will give prospective franchisees a FDD that contains information that is generally MORE THAN a year old. Specifically, the lists of Current Franchisees, List of Former Franchisees, the Item 20, Tables of franchisee and company owned unit information, and the audited Financial Statements, will all be over a year old. Additionally any changes to franchise system, and model, equipment, fees and costs listed in Items 5, 6, and 7 marketing information, training, computer systems, and site selection (Item 11), and territory (Item 12) and requirements etc., will all be out of date in the FDD you may be given. By law, this is the correct FDD version, and the Franchisor will not give you an unregistered newer version that has not yet been approved by the State.
But is this old, out of date FDD really helpful, even though legal? NO IT IS NOT!
It is generally useless, if there have been a lot of changes in the past over 12 months to the system. When a prospective Franchisee comes to me for a Legal Review of an FDD in this timeframe, my advice is quite frankly, to wait until the newer version is approved and go from there. However there is the situation where Franchisors may persuade prospective Franchisees to sign on to the OLD Franchise Agreement, because prices are “going up” in the new FDD. To me, that reason alone, is not sufficient to sign onto a Franchise Agreement not even knowing what the other changes are or will be. Perhaps the newer equipment purchases are more expensive, but more efficient and more productive-and the reason the Franchisor is changing. On the other hand in all likelihood there may be more onerous or unappealing additional obligations in the newer Franchise Agreement, a prospective Franchisee might be able to avoid, without jeopardizing the quality and integrity of the business.
Thus, in these situations, I conduct the FDD Legal Review on the OLD FDD, noting all red flag areas, and I advise the prospective Franchisee to ask the Franchisor for the redlined version the FDD, which the Franchisor sent to the State for their renewal, in order to compare the changes directly. I would not trust a generic statement “we did not change anything but the …..”-I would want to see exactly what they changed, and if nothing else, most certainly the new List of Current and Former Franchisees, the current Item 20 tables, and the new Audited Financials. This information would at least give a lot of important trends and show the strength of the company a year later in a comparison. That way, a prospective Franchisee will have not only the up to date information but can see how the Franchisor is evolving, or not, and be much more informed in this big purchase, and long commitment.
Remember, the prospective Franchisee must have received the FDD at least 10 business days or 14 calendar days, prior to signing the Franchise Agreement. Be on caution you cannot receive an Old FDD then sign a newer version of the Franchise Agreement. And in no case do you sign a Franchise Agreement on an FDD, which has expired.