Explanation

The franchisor, Gong Cha USA Franchising, LLC (Gong Cha LLC), is a very new entity, formed in January 2023. While its 2024 financials show positive income, its initial year relied on a significant member contribution. This limited operating history, combined with a complex international corporate structure and a history of regulatory actions against its predecessors for illegal franchise sales, suggests potential financial and operational instability that could impact the franchisor's ability to provide long-term support.

Potential Mitigations

• Have an experienced franchise accountant thoroughly review the franchisor's and any parent company's financial statements, including all footnotes and cash flow statements.
• Your attorney should help you understand the implications of the complex corporate structure and the predecessor's regulatory issues.
• Engaging a business advisor to assess the long-term viability and stability of the U.S. operations is crucial.

Explanation

Item 20 disclosures reveal a significant and concerning level of conflict within the master franchisee system. In 2024, the franchisor terminated the development rights for three of the seven existing U.S. master franchise businesses. This represents a major disruption for nearly half of the master franchisee network in a single year and strongly suggests potential systemic problems, significant franchisee-franchisor disputes, or issues with the viability of the development model.

Potential Mitigations

• It is imperative to contact the master franchisees who had their development rights terminated to understand the reasons.
• Your attorney should help you prepare questions for both current and former master franchisees listed in Exhibit C.
• A business advisor can help assess if the development obligations are realistic or if there is a pattern of conflict.

Explanation

You are considering a franchise from a very new US-based franchisor entity, formed in January 2023 as part of a corporate restructuring. While the Gong Cha brand is established internationally, this specific franchisor has a limited operating history. This newness, combined with a history of regulatory issues from its predecessors, introduces risks related to the franchisor's ability to provide stable, effective, and compliant support in the U.S. market.

Potential Mitigations

• It's vital to conduct extensive due diligence on the new management team's experience in the U.S. market and franchising with help from a business advisor.
• Your accountant should scrutinize the new entity's financial statements for adequate capitalization.
• Your attorney should advise on the risks associated with the recent corporate restructuring and predecessor's legal history.

Explanation

The franchisor's predecessors have a significant and troubling history of regulatory violations, as disclosed in Item 3. These include consent orders and penalties in multiple states (California, Maryland, Virginia) for offering and selling franchises without being properly registered and for failing to provide proper disclosure documents. This history of non-compliance raises serious questions about the corporate culture and operational competence that may have been inherited by the new U.S. franchisor entity.

Potential Mitigations

• Your attorney must conduct a thorough review of the litigation and regulatory actions detailed in Item 3 to assess the severity and pattern of these issues.
• Discussing these past problems with the franchisor to understand what has changed to prevent recurrence is essential.
• Speaking with long-term franchisees about their experiences during these periods could provide valuable insight.

Explanation

Item 3 reveals a distinct pattern of litigation and regulatory enforcement actions against the franchisor and its predecessors. These cases, brought by state agencies in California, Maryland, and Virginia, concern illegal franchise sales and disclosure violations. This history, along with past litigation with a master franchisee over renewal rights, suggests a potentially contentious or non-compliant operational history that could pose a risk to you as a new master franchisee.

Potential Mitigations

• A detailed analysis of each legal action in Item 3 with your franchise attorney is critical to understand the nature and resolution of these disputes.
• Your attorney can help you understand the implications of this pattern of litigation on your own relationship with the franchisor.
• It is advisable to discuss the franchisor's approach to compliance and franchisee relations with a wide range of existing master franchisees.