FDD stands for “Franchise Disclosure Document”. The purpose of this document, which is required under federal law, is to give buyers of a franchise information to help them make a decision in a uniform format. The uniform format of 23 Items theoretically allows buyers to compare one system to another. The FDD however is not the contract between the franchisor and the franchisee, although it does have a copy of the contract (the Franchise Agreement) as one of its exhibits.

An analogy are the multiple disclosures that public companies have to make to give their shareholders inside information that unless required by law to disclose they would not otherwise get. As a franchisor, you are a semi-public company and viewed that way under federal and many state laws. The law requiring you to prepare an FDD is to help level the information playing field so that anyone signing a franchise agreement can make an informed decision. You can’t legally sell a franchise (signing a contract or collecting money) unless you have a valid FDD and give (disclose) it to a prospective franchisee in advance.

Before we get into the specifics on the various sections of the FDD, let’s start with what a franchise is. In its simplest form, a franchise is a license agreement for the use of your intellectual property. When someone purchases a franchise, they’re not actually buying a business; they are starting their own business whose foundation is renting your intellectual property. As a franchisor, you will teach someone how to use your brand and share your previous successes and failures. They will also be joining a network of peers that are in the same business. As the brand leader, your role is to create a successful ecosystem around your brand and business practices.

Franchisees don’t own the brand. They are licensed to use the brand and operating system for a period of x-number of years. As the owner of the brand, it is your role to ensure they operate it in such a way that it enhances the overall system. The contract you will sign with them, the Franchise Agreement, gives you that legal authority to enforce your brand standards and gives them the right to use your brand. The FDD is the document you must give them before they sign the Franchise Agreement and commit to being a franchisee.

In Item 1 of the FDD, you must disclose all parents, predecessors, and affiliates that will provide goods or services to your franchisees. You must also describe the franchise business offered, the franchisor’s prior experience in this business, and any industry-specific regulations that impact this business.

  • A parent is an entity that controls the franchisor, either directly or indirectly. This control is usually in the form of ownership. An entity that owns more than 50% of the franchisor entity is a parent.
  • A predecessor is an entity or individual that previously owned the franchise system. You are required to disclose all predecessors of the franchise system within the ten-year period before the Issuance Date of your FDD.
  • An affiliate is an entity that provides products or services to the franchisee and is under the common control with the franchisor. If an entity has the same parent, the same owners or the same directors as the franchisor entity, this entity would be under common control and would be an affiliate. Often, the owners of a franchise system will form a holding company, and the holding company will form two subsidiaries – a franchisor entity and an IP entity. In the FDD, the franchisor entity will disclose information about the holding company, which is the parent, and information about the IP entity, which is the affiliate that provides goods and services (the trademarks) to franchisees. Other affiliates that may need to be disclosed in the FDD are entities under common control with the franchisor that sell inventory or other goods to franchisees or provide services to franchisees, such as design, construction, or marketing services. Affiliate entities that operate the franchisor’s corporate outlets do not need to be disclosed until these outlets serve as a franchisee training center.

You need to disclose in Item 1 any industry-specific licensing or regulations that your franchisee needs to be aware of to operate a business using your brand and system. The more complex and locally regulated the business is, the more robust this section will be. This is where we need your help, as you are the expert on your business and what hoops a franchisee needs to jump through to operate. Examples of industry-specific disclosures are: licensing requirements for teachers, healthcare professionals, or estheticians; serve-safe certificates for food handlers; sports coach certifications; sound-proofing requirements for certain premises; and procedures for hazardous waste storage and disposal. You need to tell us the specific requirements that apply to your concept, so we can put it in a form that is easy for your prospective franchisees to understand. Although it will ultimately be the franchisee’s responsibility to comply with industry-specific licensing and regulations, your goal in the FDD is to let them know in general terms what that may look like.

Throughout this guide, we will present sample sections from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Sample Item 1

ITEM 1: THE FRANCHISOR, PARENTS, PREDECESSORS, AND AFFILIATES

To simplify the language, this disclosure document uses “we” or “us” to mean Belmont Mufflers, Inc., the franchisor. “You” means the individual, corporation, or other entity that buys a Belmont Muffler franchise.

Franchisor, Parent, and Affiliates

We conduct business under the name Belmont Muffler Shops. Our principal business address is 111 First Street, Jackson, Minnesota 55000. We are a Minnesota corporation that was incorporated on September 3, 1983. We do not conduct business under any other name.

Our corporate parent is CTF International, Inc. Its principal business address is 100 Main Street, Chicago, Illinois 77000.

Our affiliate is Belmont Muffler Manufacturers, Inc. Its principal business address is 222 Second Street, Jackson, Minnesota 55000. Belmont Muffler Manufacturers produces and supplies mufflers and related parts to Belmont and other muffler shops.

Agent for Service of Process

Our agent for service of process is Mr. John Smith. His principal business address is 185 Westfield Avenue, St. Paul, Minnesota 55111.

Prior Experience

We started operating muffler businesses in 1983. We started to sell Belmont Muffler Shops franchises in 1993. We currently own and operate 12 Belmont Muffler Shops. Each of these shops is located in urban areas, has approximately 8,000 square feet of floor space, and is located on a busy street. We also sell pipe bending machines, mufflers, and related automotive parts to various muffler shops.

Since 1983, Belmont Muffler Manufacturers, Inc., has been providing mufflers and related parts to muffler shops, including Belmont Muffler Shops franchises. It does not offer or sell franchises in any line of business.

From 1993 to 2003, we also offered franchises for “Repair-All Transmission Shops.” “Repair-All” franchises repaired and replaced motor vehicle transmissions under a marketing plan similar to the franchise offered in this document. Belmont sold 40 of these franchises, primarily in Minnesota, Michigan, Wisconsin, and Illinois. In 2003, Belmont sold this transmission repair company to CTF International, Inc., which no longer offers new “Repair-All” franchises for sale.

The Business We Offer

Your muffler shop franchise will sell and install mufflers, and related automotive parts and service to the general public. You must honor our guarantee to replace mufflers or exhaust pipes that wear out if the vehicle ownership has not changed. Our franchisees often operate their muffler shop franchise with their service stations or tire center. The market for muffler repair is fully developed. Your competitors include department store service departments, service stations, and other national chains of muffler shops.

Applicable Regulations

You must comply with federal, state, and local health and environmental safety regulations concerning the proper handling and disposal of oils, lubricants, cleaning fluids, and other products used in the business. You should investigate the application of these laws further.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 2 of the FDD must disclose a 5-year work history for each of the franchisor’s general partners, directors, officers, and other individuals who have management responsibility relating to the sale or operation of franchises. Management Responsibility means that an individual can exercise discretion in decision-making, without having to first seek approval from a supervisor. For each position, we must include all of the following, and nothing more:

  • Name of Employer
  • Job Title
  • Start Date and End Date of Employment (month and year)
  • Location of Employment (city and state)

This content should be very straightforward with no flowery language, awards, or volunteer work. There are other places to puff up your management team, but the FDD is not the best place to do it, so keep it simple.

Good Example:

Batman has been a Team Member of the Justice League in Metropolis since April of 2017. Prior to that, he was an Independent Contractor for Wayne Enterprises in Gotham, New Jersey from September 2005 to April 2017.

Poor Example:

As a Team Member of the Justice League, Batman increased brand awareness by 32% and successfully reduced training deaths by 15%. In his spare time, he has developed a variety of martial arts techniques.

Sample Item 2

ITEM 2: BUSINESS EXPERIENCE

President and Director: Jane J. Doe

Ms. Doe became President of Belmont Mufflers, Inc., in June 2006. From May 2004 until June 2006, she served as our Vice President. From June 2000 until April 2004, Ms. Doe was Vice President of Atlas, Inc., a Houston, Texas, manufacturer of automobile wheels.

Vice President: Henry Moore

On July 1, 2006, Mr. Moore joined Belmont as Vice President. From January 2000 until July 2006, Mr. Moore served as a manager of Belmont Muffler Manufacturers, Inc.

Franchise Coordinator: Phillip E. Smith

On January 1, 2006, Mr. Smith joined us as a franchise coordinator. From July 2001, until September 2005, Mr. Smith was a manager at Bishop Wash, Inc., a Denver, Colorado, manufacturer and distributor of car wash detergents.

Manager of Franchise Development: Ann Howard

Ms. Howard has managed franchise development at our parent company – CFT International, Inc., since 1995. She oversees the development of all franchise systems owned and operated by CFT International, including Belmont Mufflers, Inc.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Best Practices

If a franchisor hires a broker or an outside franchise sales organization directly, and that broker/OFSO uses the franchisor’s email address, they can be construed as a franchise salesperson for the franchisor, and they should be included in Item 2.  If a franchisor is working with a broker group and those brokers are only referring prospects, they do not need to be included in Item 2.

Topics in the following two sections may be uncomfortable to discuss. But it is far better to disclose something on your terms, and tell your side of the story, versus not being transparent and having it come back later that you not only had the issue, but you withheld it from prospective franchisees. The coverup is worse than the crime.

In this section of the FDD, for the franchisor, predecessor, parent, any affiliate that either financially backs the franchisor or offers franchises using the franchisor’s trademarks, or anyone disclosed in Item 2, you need to disclose the following litigation:

  • Any action pending against the entity or individual that is administrative, criminal, or a material civil action that alleges some kind of violation of franchise law, securities law, fraud, or unfair or deceptive trade practices.
  • Any civil actions pending against the entity or individual, other than routine business litigation incidental to business operations, that are material because of the number of franchisees involved and the size, nature and financial condition of the franchise system. Examples of lawsuits incidental to business operations are car accidents, slip and falls, and landlord-tenant disputes, and these need not be disclosed.
  • Any civil action during the last fiscal year in which the entity or individual was a party and which involved a franchise relationship. The purpose of this particular disclosure is to show how litigious the franchisor is. If an action is resolved during the last fiscal year, you need to disclose it. If it was resolved the previous fiscal year, you don’t necessarily need to disclose it.
  • Any conviction or nolo contendere plea to a felony charge, or any civil action alleging violation of franchise law, securities, antitrust or deceptive trade practices in which the entity or individual was held liable, within the preceding 10 years. Held liable means that the entity or individual either had to pay money, give up rights (such as forego a non-compete) or take an action against his, her or its interest. The exception to the 10-year look back is New York, where a felony has no time limit, so a 20-year-old felony conviction, would need to be disclosed.
  • Any action by a public agency relating to franchise, securities, antitrust or unfair or deceptive trade practices that resulted in a currently effective injunctive order or restrictive decree against the entity or individual.

If your eyes glazed over reading the above, you are not alone. That is why you hired us to exercise our judgment into what needs to be disclosed and what doesn’t. If anyone mentioned in Item 2 or any entities associated with the franchisor has been a party to any litigation in the last ten years, just let us know, and we will talk through whether or not it needs to be disclosed.

For the required disclosures of litigation, we need the case number, parties, a brief description of the underlying circumstances, and the current status or how it was resolved. Even if there was a settlement and the settlement says that it’s confidential, it still needs to be disclosed according to the guidelines. That is why you have a franchise law firm helping you prepare your FDD, for us to walk you through this part of the disclosure. And remember, we are your lawyers and bound by confidentiality. So, like the privilege you have with your doctor, you can feel free to tell us anything related to an ugly event in your past that we will work through as your advocate.

Sample Item 3

ITEM 3: LITIGATION

Pending Actions

Blank v. Belmont Mufflers, Inc., No. 06-111 (M.D. Fla. filed August 1, 2007).

Five franchisees filed suit against us for breach of contract, alleging that we failed to furnish equipment in the time period stated in our franchise agreement. These franchisees seek damages of $350,000. A trial is scheduled for later in 2007.

Prior Actions

Doe v. Belmont Mufflers, Inc., No. 05-312 (IRT) (S.D.N.Y. filed March 1, 2005).

Our franchisee, Donald Doe, sought to enjoin us from terminating him for nonpayment of royalty fees. On April 3, 2006, Doe withdrew the case when we repurchased his franchise for $90,000 and agreed not to enforce non-compete clauses against him.

Governmental Actions

Indiana v. Belmont Mufflers, Inc., No. 05-123 (S.D. Ind. filed April 1, 2005).

The Attorney General of Indiana sought to enjoin us, our president Jane Doe, and franchise coordinator Phillip E. Smith, from offering unregistered franchises and using false income representations. The court found that we had offered franchises, that the offers were not registered, and that we had made the alleged false representations. The court enjoined us from repeating those acts.

FTC v. CFT, International Inc., No. 03-222 (D. Minn. filed March 1, 2003).

The Federal Trade Commission filed suit against our parent CFT International, Inc., that guarantees delivery of pipe and equipment to our franchisees. The Commission alleged that CFT violated the Commission’s Mail or Telephone Order Merchandise Rule. The Commission obtained an injunction and a civil penalty of $20,000.

Litigation Against Franchisees in the Last Fiscal Year

During fiscal year 2007, Belmont Mufflers initiated seven lawsuits against franchisees as follows:

Suits to Collect Royalty Payments

Belmont Mufflers vs. Smith, No. 457-123 (E.D. La. 2007) Belmont Mufflers vs. Jones, No. 07-890 (S.D. Fla. 2007) Belmont Mufflers vs. Taylor, No. 07-123 (D. Nev. 2007)

Suits to Enforce System Standards

Belmont Mufflers vs. Stevenson, No. 28-098 (C.D. Cal. 2007)

Belmont Mufflers vs. Rogers, No. 2244 (D. R.I. 2007)

Suits to Enforce Covenant-Not-To-Compete

Belmont Mufflers vs. Baker, No. 07-123 (S.D. Fla. 2007)

Belmont Mufflers vs. Harris, No. 072244 (D. Nev. 2007)

Other than these actions, no litigation is required to be disclosed in this disclosure document.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

If the franchise, parent, predecessor, or affiliate, or anyone listed Item 2 has had a bankruptcy in the last 10 years, including personal bankruptcies, you will need to provide the case number, the Court in which the bankruptcy case was filed, the status, and a short blurb of explanation. In addition to it being a legal obligation to disclose all bankruptcies, our opinion is that transparency is always better, so you don’t cede the moral high ground in a future dispute. For example, if you got divorced five years ago and went bankrupt but don’t disclose it, later a franchisee could fail and then claim, “I have this problem with people who go bankrupt, and if I knew he went bankrupt, I never would have signed the franchise agreement.” You can’t prove the statement is true, but you’ve put yourself in a challenging situation. If you are ever unsure if something should be disclosed, discuss this with your Spadea Lignana legal team.

Sample Item 4

ITEM 4: BANKRUPTCY

On March 2, 2004, Belmont filed a petition to reorganize under Chapter 11 of the U.S. Bankruptcy Code in the District of Minnesota, 04-BR-3344. We continued to operate our business and manage our assets as a debtor-in-possession under bankruptcy court supervision. On October 2, 2005, the bankruptcy court confirmed our plan of reorganization, which restructured the rights of creditors by providing for certain payments and discharged their claims.

On March 1, 2007, Belmont Muffler Manufacturers, Inc., our affiliate, filed a petition to reorganize under Chapter 11 of the U.S. Bankruptcy Code in the District of Minnesota, 06-BR-4455.

Belmont’s president, Jane Doe, was president of Atlas, Inc., a Houston, Texas, manufacturer of automobile wheels from June 2000 until March 2002. On June 6, 2002, creditors filed an involuntary petition against Atlas for liquidation under Chapter 7 of the U.S. Bankruptcy Code. In re Atlas, Inc., No. 04-BR-555 (S.D. Tex. 2002). On July 14, 2002, the bankruptcy court entered an order for relief against Atlas. A trustee was appointed; she closed Atlas’ operations, sold its assets, and distributed the proceeds to creditors in accordance with the priorities of the Bankruptcy Code.

Belmont manager of franchise operations, Philip E. Smith, filed a bankruptcy petition under the liquidation provisions of Chapter 7 of the U.S. Bankruptcy Code on September 7, 1999, after obtaining employment with Belmont on January 1, 1998. In re Smith, No. 06-BR-6789 (D. Minn. 1999). On January 10, 2000, the bankruptcy court entered a discharge.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 5 contains the initial franchise fee and any other fees a franchisee must pay the franchisor or affiliate before opening the franchised outlet. Other fees may include items like equipment, software, marketing materials, pre-opening inventory or vehicle wrap. Only goods and services purchased from the franchisor or an affiliate before opening belong in Item 5. If these items are purchased from a third-party supplier, we don’t include those expenditures here.

Keep in mind that the total of the initial fees is referenced on the cover page. A franchisor will usually get the question each year about why a franchisee’s range of initial fees paid to the franchisor is so high. You have to remember to explain to your prospective franchisees that it is more than just an initial franchise fee, it is all fees paid to the franchisor or an affiliate, and these fees will all be listed in this section.

Discounts for Candidates

Franchisors can choose to offer discounted franchise fees to qualified candidates. Many offer discounts, the amount is up to you, to U.S. Veterans, first responders, first “x” amount of franchisees, etc. If you are going to offer discounts, first you should organize what requirements are needed to be met to be eligible to receive them and what the percentage or dollar amount they will be discounted. If a franchise candidate is applicable for a discount you will need to note this within an addendum for their agreement.

If you are considering offering discounts to honorably discharged U.S. veterans, you can learn more about marketing this through VetFran, if interested.

Tips

Not sure how much to charge for your franchise fee… converse with your consultant or reach out to your Spadea Lignana team for further assistance. You are also encouraged to research your competitors too.

Sample Item 5-1

ITEM 5: INITIAL FEES

All Belmont Muffler Shops franchisees pay a $42,000 lump sum franchise fee when they sign the franchise agreement. Belmont will refund the entire amount to you if we do not approve your application within 45 days. Belmont will refund $9,000 of this fee if you do not satisfactorily complete your two-week training. No refunds are available under any other circumstances.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Sample Item 5-2

ITEM 5: INITIAL FEES

You must pay a franchise license fee of $1,000 per thousand licensed drivers who reside within your exclusive area when the franchise agreement is signed. The number of licensed drivers is determined by the latest abstract of the state agency which issues driver’s licenses. The minimum fee is $20,000. When you send your application, you must pay a non-refundable $500 application fee. You must pay an additional $5,000 when you receive your equipment. The balance of your fee is payable in 12 equal monthly installments of $1250 in the case of the minimum fee. The first installment payment is due 1 year after your shop opens. Belmont charges 10% interest, on an annual basis, on the unpaid balance. Interest compounds daily and accrues from the date that you receive your equipment. All buyers pay this uniform fee and receive the same financing terms on the fee. If your application is not accepted, Belmont retains the $500 for investigative costs, but you are not liable for the remainder of the initial fee. Belmont does not give refunds under any other circumstances.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 6 is a Table of all other fees imposed and collected by the franchisor throughout the life of the franchise agreement. This includes any niche charges, late fees, indemnification, etc. In some instances where the fee can be variable, you will want to list both an upper and lower limit.

We encourage you to be thoughtful and intentional when laying out these fees. Once your brand starts to expand nationally, these fees will be scrutinized by state examiners who regularly push back on open-ended fees. Open-ended fees are also subject to push back from attorneys hired by your prospective franchisees. It is better, when constructing this chart, to be as clear and unambiguous as possible.

Sample Item 6

ITEM 6: OTHER FEES

Type of Fee Amount Due Date Remarks
Royalty (note 1) 4% of total gross sales Payable monthly on the 10th day of the next month Gross sales include all revenue from the franchise location. Gross sales do not include sales tax or use tax.
Advertising (note 1) 2% of total gross sales. Same as royalty fee
Cooperative Advertising (note 1) Maximum – 2% of total gross sales Established by franchisees Franchisee may form an advertising cooperative and establish local advertising fees.

Company-owned stores

have no vote in these cooperatives.
Additional Training (note 1) $1,000 per person Two weeks prior to beginning of training Belmont trains two persons free. See Item 11.
Additional Assistance (note 1) $500 per day Thirty days after billing. Belmont provides opening assistance free. See Item 11.
Transfer (note 1) $1,000 Before the transfer. Payable when you sell your franchise. No charge if franchise transferred to a corporation that you control.
Audit (note 1) Cost of audit plus 10% interest on

underpayment (note 2).

 Thirty days after billing. Payable only if audit shows an understatement of at least 2% of gross sales for any month.
Renewal Fee (note 1) $1,000 Thirty days before renewal.

Note 1: All fees are imposed by and are paid to Belmont. All fees are non-refundable.

Note 2: Interest begins from the date of the underpayment.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 7 is a Table of the franchisee’s estimated initial investment. The Table lists the expenses that a franchisee is expected to incur prior to opening the franchised outlet and for the initial first months of operation. You must provide an estimate of each expense and explain the factors you relied on in calculating the amounts. These factors could be your own experience in opening corporate outlets, your franchisees’ experience, or estimates received from industry professionals. Franchisors often want to show the lowest amounts possible in Item 7, but this tendency works against them. If franchisees are consistently spending way more than the estimated range in Item 7, they may not have sufficient capital to open their business strong, and in extreme cases, may have a claim against you for misrepresentation.

Franchisors win when they have long-term successful units. Just because you started your business on a shoestring budget doesn’t mean the franchisee should. Franchisees want success in the shortest time frame possible with the least risk. That is why they buy a franchise. If you know that spending $10,000 in grand opening advertising is the way to jump-start the business, then put that in your FDD. If a $30,000 piece of equipment is necessary, put it in your Item 7 without apology. The franchisee who chooses a system based on the low end of an Item 7 investment range is the least likely to be successful.

The old saying that “it takes money to make money”, is another reason why franchise units outperform unbranded startups. Through experience, trial and error, and by measuring results year after year, you as a franchisor should know, or at least be in the best position to estimate, what it costs to launch a unit properly. That doesn’t mean you still don’t look for the most effective solution; it just means that you disclose to your prospects what you think it will take for them to win.

Buying a franchise is an investment. If you approach the process as if you are in a bidding war, so will your prospects. Going into business is a huge decision for a franchisee, and a few thousand dollars in either direction is not going to make the difference for the right candidate. In fact, the risk is all in understating what it really takes. The only risk in overstating the low end is losing some candidates that might not have been a good fit in the first place. If you understate the investment, those who move forward may be undercapitalized and fail. Even those that don’t fail may not spend what is necessary to come out of the gate strong, which hurts the average unit economics, validation, and increases the risk of litigation. When it comes to Item 7, keep the low-end up!

Best Practices

  • Ranges from low to high costs should be used to help represent the different prices depending on a variety of factors; i.e. location, demographics, etc. Franchisors have the tendencies to low-ball their high ranges, they think it will make them more “attractive” to candidates and sales consultants, but a low high-end range can come off as misleading to new signing franchisees that their individual costs are higher than the high-end range presented in the FDD. Adding in a buffer or cushion amount within the range will protect you and the franchisee from situations like inflation and location dependent cost differences. Franchisees will not be mad if they do not spend the high-end dollar amount.
  • Learn more by reading:

Sample Item 7

ITEM 7: YOUR ESTIMATED INITIAL INVESTMENT

Type of expenditure Amount Method of payment When due To whom payment is to be made
Initial franchise fee $15,000 (note 1) Lump sum At signing of franchise agreement Belmont Mufflers, Inc.
Travel and living expenses while training $2,500 to $5,000 As incurred During training Airlines, hotels, and restaurants
Real estate and improvements (Note 2) (Note 2) (Note 2) (Note 2)
Equipment $40,000 (note 3) Lump sum Prior to opening Belmont or vendors
Signs $2,200 Lump sum Prior to opening Abbey Sign Company
Miscellaneous opening costs $8,000 (note 4) As incurred As incurred Suppliers, utilities, etc.
Opening inventory $8,800 (note 5) Lump sum Prior to opening Belmont or vendors
Advertising fee – 3 months $500 As incurred (% of gross sales) Monthly Belmont
Additional funds – 3 months (note 6) $23,000 to $45,000 As incurred As incurred Employees, suppliers, utilities
TOTAL (note 7) $100,000 to $124,500 (note 8) (Does not include real estate costs)

Notes:

(1) See Item 5 for the conditions when this fee is partly refundable. W e do not finance any fee.

(2) If you do not own adequate shop space, you must lease the land and building from us. Typical locations are light industrial and commercial areas. The typical Belmont Mufflers Shop has 8,000 square feet. Former three-or-four-bay gasoline service stations have been converted into a Belmont Mufflers Shop. Rent is estimated to be between $52,000 – $120,000 per year depending on factors such as size, condition, and location of the leased premises.

(3) This payment is fully refundable before equipment installation. After installation, we deduct $3,000 installation costs from your refund.

(4) This includes security deposits, utility costs, and incorporation fees.

(5) This payment is fully refundable before we deliver your inventory. After delivery, we will deduct a 10% restocking fee from your refund.

(6) This estimates your start-up expenses. These expenses include payroll costs. These figures are estimates and we cannot guarantee that you will not have additional expenses starting the business. Your costs will depend on factors such as: how much you follow our methods and procedures; your management skill, experience and business acumen; local economic conditions; the local market for our product; the prevailing wage rate; competition; and the sales level reached during the initial period.

(7) Except as indicated, we do not offer direct or indirect financing to franchisees for any items.

(8) We have relied on our 24-years of experience in the muffler business to compile these estimates. You should review these figures carefully with a business advisor before making any decision to purchase the franchise.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 8 describes the limitations that a franchisor places on its franchisees with regard to the furniture, fixtures, equipment, supplies, inventory, computer systems, and other goods and services that the franchisee will need to lease or purchase to open and operate the franchised business. If you require the franchisee to lease or purchase items that meet particular specifications, or if you require the franchisee to lease or purchase items from only certain suppliers, this information must be disclosed in Item 8. In Item 8, you will need to disclose:

  • Any item where the franchisee must abide by standard specifications that the franchisor requires. Many franchisors require their franchisees lease or purchase items that meet certain specifications. Common examples are computer hardware and software and the types and coverage minimums of insurance policies.
  • Any item where the franchisee must use a designated supplier. For example, Joe’s Place may require franchisees purchase their French fries from a particular potato supplier. This restricts the franchisee from shopping around to maybe get a better price elsewhere. Importantly, you must disclose whether the franchisor itself or one of its affiliates is a designated supplier, or the only approved supplier, of any required good or service. You must also disclose whether any of your officers owns an interest in any designated supplier.
  • Any situation where there may be a financial gain for the franchisor from purchases made by the franchisee. If the franchisor, or one of its affiliates, receives any revenues from leases or purchases by franchisees, it must be listed in Item 8. If the franchisor or one of its affiliates is the only approved supplier for a certain good or service, then the total amount of annual revenue received will be included here. If any supplier will make payments, or provide other material benefits, to the franchisor based on franchisees’ purchases, that needs to be explained here, too. For example, if a supplier will pay a rebate to the franchisor, we need to state how that rebate is calculated (whether it is a flat amount, such as $1/case of syrup, or a percentage, such as 2% of franchisee’s invoice price). Also, if a supplier gives the franchisor a break on the costs of certain items for corporate-owned outlets, that also needs to be disclosed. So, if a designated supplier charges your franchisees $5/case of product but only charges you $3/case of product, you need to disclose this.   

You also need to disclose in Item 8 the percentage of overall required purchases that are restricted by your specifications or required suppliers. This information lets prospects know their freedom to shop around for better prices or for items of their own personal preference.

Best Practices

We encourage you to stay away from product markups as it is an irritant to franchisees. For example, rather than charging an extra $2 a case for an item the franchisee can get at a local supplier, go to that supplier and suggest that rather than pay you $2 a case, where you estimate you’re going to sell 10,000 cases to your franchisees next year, have the supplier give you a $20,000 sponsorship to support your annual meeting. It’s the same dollars, but now it’s viewed as a loyal supplier supporting the education and betterment of the franchisees instead of a kickback.

Be greedy long-term. You’re in this business, not for $2 for a case, but to sell the system for $20 to $30 million. And you get there by having happy franchisees that feel you are on their side. Your franchisees need to make money. It might sound obvious and straightforward. However, it is the single most crucial factor in your long-term success. If all you’re doing is milking your franchisees, you’re not going to build long-term sustainable value.

Sample Item 8

ITEM 8: RESTRICTIONS ON SOURCES OF PRODUCTS AND SERVICES

Required purchases

You must purchase your pipe bending machine, hoist, cutting torch, mufflers, exhaust pipe, and other supplies under specifications in the operations manual. These specifications include standards for delivery, performance, design, and appearance. Our specifications are formulated by our engineering department and may be modified periodically, in consultation with the Belmont Franchisee Advisory Council.

Required and approved suppliers

You must purchase required equipment from Belmont or an approved supplier. Belmont’s affiliate, Belmont Muffler Manufacturers, Inc., is an approved supplier of mufflers. Our President, Jane Doe, owns an interest in Belmont Muffler Manufacturers, Inc. We have also approved three other suppliers of mufflers and exhaust pipe, as listed in our operations manual.

Approval of alternative suppliers

Belmont may approve other suppliers of mufflers and exhaust pipe who meet the specifications set forth in the operations manual. If you would like to purchase these items from another supplier, you must request our “Supplier Approval Criteria and Request Form.” Based on the information and samples you supply to us and your payment of a $500 fee, we will test the items supplied and review the proposed supplier’s financial records, business reputation, delivery performance, credit rating, and other information. Our review typically is completed in 30 days. Approval of alternative suppliers may be revoked if our engineering department determines that their mufflers and exhaust pipe fail to satisfy the specifications set forth in the operations manual, as it may periodically be updated.

Revenue from franchisee purchases

In the year ending December 31, 2007, Belmont’s revenues from the sale of equipment to franchisees was $500,000, or 5% of Belmont’s total revenues of $10,000,000. The cost of equipment and supplies purchased in accordance with our specifications will represent 50-60% of your total purchases in establishing the business and 20-30% of your total purchases during operation of the business.

In the year ending December 31, 2007, Belmont Muffler Manufacturer’s Inc.’s revenues from the sale of mufflers to franchisees was $2,000,000. The purchase of mufflers from Belmont Muffler Manufacturers will represent 10 to 15% of your overall purchases in establishing and operating the business. Belmont Muffler Manufacturers, Inc., pays us a .05% rebate on all mufflers purchased from franchisees.

One of the three approved suppliers of mufflers and exhaust pipe pays Belmont a rebate of 1% of all franchisee purchases.

Cooperatives

We do not have any purchasing or distribution cooperatives.

Negotiated prices

We negotiate purchase arrangements with Belmont Muffler Manufacturers, Inc., including the price terms.

Material benefits

We do not provide any material benefits to you if you buy from sources we approve.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

Item 9 is a chart identifying the franchisee’s obligations. We will develop this section for you as it will cross-reference various areas in the FDD and Franchise Agreement. The purpose of this section is the comparing “apples to apples” goal of the disclosure rules. The Item 9 Chart acts as an index, which enables prospects to quickly locate in the FDD and Franchise Agreement certain franchisee obligations so that they can compare multiple systems to see if they have different requirements. The good news for you is it is one of the sections that will not require any effort from you!

If you are willing to finance any part of the initial fees for your franchisees, Item 10 is where we disclose that information. Many franchisors choose not to provide financing to their franchisees. However, if you intend to do so, we need to disclose the specifics of this arrangement. This includes the amount you will finance, the payback period, the interest rate, whether you will have a security interest in the franchisee’s assets (we recommend you do), who must personally guarantee the loan, and the consequences of default.

You may see in some FDDs, especially older FDDs, information related to SBA Guaranteed loans. Based on feedback and requirements from State Examiners, we don’t believe it is proper to disclose information related to SBA loans in your FDD.

Sample Item 10

ITEM 10: SUMMARY OF FINANCING OFFERED

Item Financed Source of Financing Down Payment Amount Financed Term (Years) Interest Rate Monthly Payment Prepay Penalty Security Required Liability Upon Default Loss of Legal Right on Default
Initial Fee Belmont (note 1) $10,000 10 18% $180 None Personal Guarantee Loss of franchise-unpaid loan Waive notice. Confess judgment
Land/ Constr None
Leased Space Belmont (note 2) $2,000
(security deposit)		 7-10 N/A $3,000-$6,000 None Personal Guarantee Loss of franchise; back rent plus 2 months; franchise rights, collection costs incl. attorneys fees None
Equip. Lease USA Credit Corp.
(note 3)		 None $5,000 5 15% $100 None Personal Guarantee Equip. removed; past due payments; $1000 liquid damages; costs of collection Lose all defenses
Equip. Purchase Belmont (note 4) $1,250 (25%) $3,750 2-7 15% $72-$182 $500 Personal Guarantee Loss of franchise, equip. removal; overdue payments; collection costs, incl. attorneys fees None
Opening Inventory None
Other Financing None

Notes:

(1) If you meet Belmont’s credit standards, Belmont will finance the $10,000 initial franchise fee over a 10-year period at an interest rate (rate of interest, plus finance charges, expressed on an annual basis) of 18%, using the standard form note in Exhibit E. The only security we require is a personal guarantee of the note by you and your spouse, or by all the shareholders of your corporation. (Loan Agreement, Section) The note can be prepaid without penalty at any time during its 10-year term. (Loan Agreement, Section A.) If you do not pay on time, we can call the loan and demand immediate payment of the full outstanding balance and obtain court costs and attorney’s fees if a collection action is necessary. (Loan Agreement, Section B.) We also have the right to terminate your franchise if you do not make your payments on time more than three times during the note term. (Loan Agreement, Section C.) You waive your rights to notice of a collection action and to assert any defenses to collection against Belmont. (Loan Agreement, Section D1.) Belmont discounts and sells these notes to a third party who may be immune under the law to any defenses to payment you have against us. (Loan Agreement, Section D2.)

(2) In most cases, Belmont will sublease the franchised premises to you, but will guarantee your lease with a third party if you have acceptable credit and that is the only way to obtain a location. (Lease Section B.) The precise terms of Belmont’s standard lease in Exhibit B will vary depending on the size and location of the premises, but the chart reflects a typical range of payments for Belmont’s standard 6 bay franchise outlet, including payment of one month’s rent as a security deposit. (Lease Section C.)

The only other security we require is a personal guarantee of the lease by you and your spouse, or by all the shareholders of your corporation. (Lease Section D1.) The lease can be prepaid without penalty at any time during its term. (Lease Section D2.) If you do not make a rent payment on time, we have the right to collect the unpaid rent plus an additional two months’ rent, as liquidated damages. (Lease Section E.) Belmont can also obtain court costs and attorney’s fees if a collection agency is necessary. (Lease Section F.) If you are late with your rent more than three times during the lease term, we have the right to terminate the lease, take over the premises, and terminate your franchise. If Belmont guarantees your lease, we will require you to sign the guarantee agreement in Exhibit F. (Lease Section G.) This gives us the same legal rights as the sublessee but requires you to give Belmont the right to approve your lease and pay the rent for you if you fail to pay on time. (Lease Section G.)

(3) If you want to lease the pipe bending machine and other equipment you need, Belmont has arranged an equipment lease (Exhibit C) from USA Credit Corporation of Las Vegas, Nevada. If you choose this option, you will pay $100 a month for 60 months (5 years) at an interest rate (rate of interest, plus finance charges, expressed on an annual basis) of 15% based on a cash price of $5,000, with no money down. (Equipment Lease, Section A.) At the end of the lease term, you may purchase the equipment with a one-time payment of $2,500. (Equipment Lease Section B.) USA Credit requires a personal guarantee from you and your spouse, or from all the shareholders of your corporation, and retains a security interest in the equipment. (Equipment Lease, Section C.) The equipment lease can be prepaid at any time. (Equipment Lease, Section D.) If you do not make a payment on time, USA Credit can demand payment of all past due payments, remove the equipment, and charge you $1,000 as liquidated damages. (Equipment Lease, Section E.) USA Credit can also cover its costs of collection, including court costs and attorney’s fees. (Equipment Lease, Section E.) W hile Belmont does not know USA Credit’s policies, USA Credit may discount and transfer the lease to a third party who may be immune under the law to claims or defenses you may have against USA Credit, the equipment manufacturer, or Belmont. We receive a referral free of $500 from USA Credit for every franchisee who leases equipment from it.

(4) If you prefer, Belmont will sell you the pipe bending machine and other necessary equipment on time. (Equipment Purchase Agreement, Section A.) We require a 25% down payment of $1,250. (Equipment Purchase Agreement, Section A.) We will finance the remainder over a 2–7-year period at your option at an interest rate of 15%. (Equipment Purchase Agreement, Section B.) Payments range from $228.11 a month over 7 years to $821.58 a month over 2 years. (Equipment Purchase Agreement, Section C.)  Belmont’s standard equipment financing note in Exhibit D must be personally guaranteed by you and your spouse, or by all the shareholders of your corporation, and we will retain a security interest in the equipment. (Equipment Purchase Agreement, Section D.)  You may purchase the equipment at any time during the lease period by paying the remainder of the principal plus a $500 prepayment penalty. (Equipment Purchase Agreement, Section E.)  If you do not make a payment on time, we can demand all overdue payments, repossess the equipment, and terminate your franchise. We can also recover our costs of collection, including court costs and attorney’s fees. (Equipment Purchase Agreement, Section E.)

Except as disclosed in Note 1, Belmont does not offer financing that requires you to waive notice, confess judgment, or waive a defense against us or the lender, although you may lose your defenses against us and others in a collection action on a note that is sold or discounted, as disclosed in Notes 2 and 3.

Except as disclosed in Note 3, Belmont does not arrange financing from other sources.

Except as disclosed in Notes 1 and 3, commercial paper from franchisees has not been and is not sold or assigned to anyone, and we have no plans to do so.

Except as disclosed in Note 3, Belmont does not receive direct or indirect payments from placing financing.

Except as disclosed in Note 2, Belmont does not guarantee your obligations to third parties.

This is a sample section from a fictional FDD for Belmont Muffler Shops that was prepared by the Federal Trade Commission as a compliance guide for franchisors preparing their FDD. These are used to provide an idea of what these items may look like in an FDD, but keep in mind, your FDD will most likely vary significantly from these examples.

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These pages are for informational purposes only and do not establish an attorney-client relationship between the author and the reader. Additionally, we make no representations or warranty to any of the information as legal information is subject to change over time. Before taking action on any of the information presented, you must discuss this with your attorney to ensure it is relevant and applicable to your current situation.