Explanation

The system shows some signs of franchisee turnover. In 2022, there were two terminations out of 17 franchises, a relatively high rate. Disclosed litigation indicates one franchisee dispute was settled by the franchisor taking back the territory. Additionally, a franchisee is listed in Exhibit H as having left the system in 2024, which is not reflected as a termination in the Item 20 table. This turnover could suggest underlying issues with profitability or franchisee satisfaction.

Potential Mitigations

• With your business advisor, you should contact a significant number of former franchisees listed in Item 20 and Exhibit H to understand their reasons for leaving.
• It is important to discuss the circumstances surrounding the terminations and litigation mentioned in Items 3 and 20 with the franchisor.
• Your accountant can help you analyze the turnover rates in Item 20 relative to the system's rapid growth.

Explanation

The system is experiencing very rapid growth, expanding from 8 to 51 franchised outlets in three years. While growth can be positive, such a rapid expansion, especially following a period of financial weakness (as seen in 2023 financials), may strain the franchisor's resources. This could potentially compromise the quality and availability of essential training, site selection assistance, and ongoing operational support for all franchisees, including new ones like you.

Potential Mitigations

• Engaging a business advisor to question the franchisor on how they have scaled their support staff and systems to manage this rapid growth is recommended.
• A conversation with franchisees who opened at different stages of this growth can provide insight into the consistency of franchisor support.
• Your accountant should review the most recent financial statements to assess if the franchisor's current resources appear adequate for the expanded system size.

Explanation

SOS began franchising in late 2018 and has a relatively short operating history as a franchisor, which is highlighted as a 'Special Risk'. While the management team has experience in the underlying business, franchising adds a different layer of complexity. Investing in a newer system carries inherent risks, such as less-developed support structures, limited brand recognition in new markets, and an operational model that is still being proven at scale across a diverse franchisee base.

Potential Mitigations

• A thorough due diligence process, guided by your franchise attorney, is essential to vet a newer franchise system.
• Speaking with the earliest franchisees in the system can provide valuable insights into how the franchisor's support and systems have evolved.
• Your business advisor should help you evaluate the experience of the management team specifically in the context of supporting a franchise network.

Explanation

Item 2 outlines the business experience of the management team. While some executives have experience with the affiliate-owned centers, their collective experience in managing a rapidly growing franchise system is less clear. For example, the Director of Franchise Development has prior experience with a large franchise group, but the overall depth of franchising-specific expertise across the team could be a consideration. Inadequate franchise management experience could impact the quality of system-wide support and strategic guidance.

Potential Mitigations

• It is wise to discuss the management team's specific franchise support experience with your business advisor.
• When speaking with existing franchisees, ask specific questions about the quality and expertise of the support they receive from the corporate team.
• In your discussions with the franchisor, inquire about how their team's experience translates to supporting franchisees in a regulated healthcare field.

Explanation

The franchisor discloses two material civil actions in the last year. One involved a franchisee alleging breach of contract, which was settled by the franchisor taking back the territory. The other involved a prospective franchisee over professional fees, which was also settled. While not an extensive history, the presence of two recent lawsuits, including one with a franchisee that resulted in a unit changing hands, may indicate potential for disputes within the system.

Potential Mitigations

• A detailed review of the litigation disclosed in Item 3 with your franchise attorney is essential to understand the nature of the disputes.
• You should ask the franchisor for more context regarding these lawsuits and how they have addressed the underlying issues.
• It may be beneficial to have your attorney attempt to contact the former franchisee involved in the litigation for their perspective.