Explanation

This risk was not identified in the FDD package. High turnover, revealed in Item 20, can be a major red flag indicating systemic problems, such as franchisee unprofitability, dissatisfaction with the system, or a flawed business model. It is a crucial indicator of the health of a franchise system that warrants careful review.

Potential Mitigations

• Developing a system with your accountant to track key performance indicators from the outset can help monitor your own business health.
• Engaging a business advisor to create a strong local marketing and operational plan can help bolster your individual success.
• Your attorney should review the termination and renewal clauses to understand your rights and obligations if you decide to leave the system.

Explanation

This risk was not identified in the FDD package. A fad business is one that enjoys rapid, short-lived popularity. Investing in such a concept is risky because long-term franchise obligations, such as royalty payments and lease commitments, can continue long after public interest has faded, potentially leading to financial failure. A sustainable business model should show evidence of long-term consumer demand.

Potential Mitigations

• A business advisor can help you independently research the long-term market trends for the products or services offered.
• Analyzing the business model's resilience to economic shifts and changing consumer tastes with a financial advisor is a prudent step.
• Discuss the franchisor's long-term vision and plans for innovation with them directly.

Explanation

This risk was not identified in the FDD package. When a franchisor is owned by a private equity firm, there's a risk that decisions may prioritize short-term investor returns over the long-term health of the system. This can sometimes lead to increased fees, reduced franchisee support, or pressure to use specific vendors to maximize profits for the ownership group.

Potential Mitigations

• If a franchisor is PE-owned, researching the firm's history with other franchise brands with a business advisor is wise.
• It is important to understand the typical investment timeline and exit strategy for a PE firm by consulting with your financial advisor.
• Your attorney should carefully review clauses related to the sale or assignment of the franchise system.

Explanation

This risk was not identified in the FDD package. The FDD must disclose any parent companies and provide their financial statements if they guarantee the franchisor's performance. A failure to do so can hide the true financial condition of the entity ultimately backing the franchise system. This omission could mask financial instability, preventing you from accurately assessing the investment risk.

Potential Mitigations

• Your attorney can help verify the franchisor's corporate structure and identify any undisclosed parent companies.
• If a parent company exists and provides guarantees, an accountant should review their financial statements for stability.
• Understanding the legal and financial relationship between a parent and the franchisor entity is a key discussion point with your attorney.

Explanation

This risk was not identified in the FDD package. FDD Item 1 requires disclosure of any predecessors. If a franchisor acquired the system from a prior entity, it's important to understand that predecessor's history, including any litigation, bankruptcy, or franchisee turnover. Omitting or downplaying this history can obscure systemic problems that may still affect the franchise system today.

Potential Mitigations

• Your attorney should carefully review Item 1 for any mention of predecessors and their history.
• If a predecessor is identified, conducting independent research into that entity's public record can be a valuable task for your business advisor.
• Asking long-term franchisees about their experience under any previous ownership can provide important context.

Explanation

This risk was not identified in the FDD package. A pattern of litigation against a franchisor, particularly suits from franchisees alleging fraud or misrepresentation as disclosed in Item 3, is a significant red flag. It may indicate systemic problems within the franchise, issues with disclosure practices, or a contentious relationship between the franchisor and its franchisees.

Potential Mitigations

• Your attorney should always carefully review Item 3 for any disclosed litigation.
• If litigation is present, having your attorney research the specific case files can provide more detail than the FDD summary.
• A business advisor can help you assess how any disclosed litigation patterns might affect the franchisor's reputation and your potential business.