Explanation

This risk was not identified in the FDD Package. Rapid system growth can strain a franchisor's ability to provide adequate support to all franchisees. It is important to assess whether a franchisor's support infrastructure, staffing, and financial resources are keeping pace with its unit expansion to ensure new and existing franchisees receive the assistance they need to operate successfully.

Potential Mitigations

• Have your accountant review the franchisor’s financial statements in Item 21 to assess if they have the capital to support growth.
• Your business advisor can help you interview existing franchisees to determine if they feel the franchisor’s support has diminished as the system grows.
• In discussions with the franchisor, inquire about their specific plans for scaling support services and personnel.

Explanation

This risk was not identified in the FDD Package. A fad business is one tied to a fleeting trend, which can threaten long-term viability after public interest fades. Your franchise agreement, however, is a long-term contract that will outlast the trend. It is important to assess whether a business concept has sustained consumer demand and can adapt to changing market tastes to ensure its longevity.

Potential Mitigations

• Your business advisor can help you research the industry to determine if the core product has long-term market sustainability.
• Asking the franchisor about their research and development plans for new products and services is a wise step.
• Analyzing whether the business model can withstand economic downturns or shifting consumer preferences is a crucial discussion to have with a financial advisor.

Explanation

This risk was not identified in the FDD Package. Franchising requires a different skillset than simply operating a business. When a franchisor's management team lacks specific experience in managing a franchise system, it can lead to underdeveloped support structures, poor strategic decisions, and an inability to meet franchisee needs effectively. Assessing the team's background in both the industry and franchising is crucial for evaluating the quality of support you are likely to receive.

Potential Mitigations

• A thorough review of management's background in Item 2 with your business advisor is important to assess their franchise-specific experience.
• It is wise to ask existing franchisees about the quality and effectiveness of the management team's support and guidance.
• Seeking legal counsel to understand the franchisor's contractual support obligations is a prudent measure.

Explanation

This risk was not identified in the FDD Package. Private equity ownership can introduce a focus on short-term returns, which may not align with the long-term health of the franchise system or its individual franchisees. This can sometimes lead to increased fees, reduced support, or a quick resale of the franchise system. The franchise agreement often allows the franchisor to be sold or assigned without your consent, which could change the nature of your partnership.

Potential Mitigations

• Your business advisor can help you research the track record of any private equity firm involved with the franchisor.
• Discussing any changes in the system since a private equity acquisition with current franchisees can provide valuable insight.
• An attorney should review the assignment clause in the franchise agreement to explain your rights if the system is sold.

Explanation

This risk was not identified in the FDD Package. The FDD must disclose any parent company. If the franchisor is a thinly capitalized subsidiary, the parent company's financial statements may also be required for a full risk assessment. Failure to disclose a parent or its financials when required can obscure the true financial backing and stability of the system you are investing in.

Potential Mitigations

• Your attorney can help verify the franchisor's corporate structure and determine if any undisclosed parent entity exists.
• If a parent company is disclosed and provides guarantees, an accountant should confirm if their financials are required and, if so, review them carefully.
• Understanding the legal and financial relationship between the franchisor and any parent entity is a key discussion to have with your attorney.

Explanation

This risk was not identified in the FDD Package. A predecessor is a company from which the franchisor acquired the business. Failing to disclose a predecessor, or not providing their full litigation and bankruptcy history, can hide a troubled past. Understanding the complete history of the franchise system is vital to assessing its stability and the risks you might be inheriting.

Potential Mitigations

• Your attorney should carefully review Item 1 for any mention of predecessors.
• If a predecessor is identified, it is wise to ask your attorney to help you investigate its history for any red flags.
• Discussing the system's history with long-term franchisees can provide insight that may not be in the FDD.

Explanation

This risk was not identified in the FDD Package. Item 3 did not disclose any litigation. A pattern of lawsuits filed by franchisees against the franchisor alleging fraud or misrepresentation can be a significant red flag, indicating systemic problems. Conversely, a high number of lawsuits filed by the franchisor against franchisees might suggest an overly aggressive or litigious culture. Reviewing Item 3 is critical to understanding the legal health of the franchise relationship.

Potential Mitigations

• A careful review of Item 3 with your attorney is crucial, even if it reports no litigation.
• Your attorney can conduct independent searches for litigation that may not have been required to be disclosed.
• Asking current and former franchisees about their experiences with disputes, whether they resulted in litigation or not, can provide valuable context.