Explanation

This risk was not identified in the FDD package. Item 20 indicates there are no existing or former franchisees, so there is no history of franchisee turnover. High turnover is generally a significant red flag in a franchise system, as it can indicate problems with profitability, support, or the business model itself. Careful analysis of Item 20 data is a critical step in franchisee due diligence to gauge the health and stability of a mature system.

Potential Mitigations

• For any franchise system, it is crucial to have your accountant analyze the franchisee turnover rates in Item 20 over a three-year period.
• A business advisor can help you compare these rates against industry averages to identify potential red flags.
• Your attorney can help you formulate questions for former franchisees to understand why they left the system.

Explanation

This risk was not identified in the FDD package because the system has no franchisees and is not growing. Rapid system growth can strain a franchisor's resources, potentially leading to inadequate support for new and existing franchisees. Prospective franchisees should typically assess whether a franchisor's support infrastructure, as described in Item 11 and reflected in its financials in Item 21, is capable of keeping pace with the outlet growth shown in Item 20.

Potential Mitigations

• A business advisor can help you assess whether a franchisor's growth plans are sustainable and supported by adequate infrastructure.
• Asking existing franchisees about the quality and timeliness of support during periods of growth is a key due diligence step your attorney can guide you on.
• Your accountant should review the franchisor's financial statements to determine if they have the capital to support planned expansion.

Explanation

This risk was not identified in the FDD package. The business model, which focuses on hamburgers, hot dogs, and fries, operates in a well-established and enduring market segment rather than being based on a new or fleeting trend. Fad-based businesses can pose a risk because their long-term consumer demand may be uncertain, potentially leaving you with a long-term contractual obligation for a business with waning public interest.

Potential Mitigations

• It is wise to have a business advisor help you research the long-term market demand and competitive landscape for any franchise concept.
• Your financial advisor can assist in evaluating a business model's resilience to changing consumer tastes and economic conditions.
• Discussing the franchisor's strategy for innovation and staying relevant with your attorney can provide insight into long-term viability.

Explanation

This risk was not identified in the FDD package, as there is no indication in Item 1 that the franchisor is owned or controlled by a private equity firm. When PE ownership exists, there can be a risk that decisions are focused on short-term investor returns rather than the long-term health of franchisees. This can sometimes manifest as reduced support, increased fees, or a quick sale of the franchise system.

Potential Mitigations

• If a franchisor is owned by a private equity firm, a business advisor can help research the firm's history with other franchise brands.
• Interviewing franchisees about any changes in the system since a PE acquisition can provide valuable insights; your attorney can guide this process.
• Your attorney should review any clauses in the Franchise Agreement that permit the franchisor to sell or assign the system.

Explanation

This risk was not identified in the FDD package. The FDD does not mention a parent company. In situations where a franchisor is a subsidiary of a larger entity, the parent's financial health can be material, especially if the franchisor is thinly capitalized or relies on the parent for support or guarantees. The FTC Rule may require the parent's financial statements to be disclosed in such cases to provide a complete picture of the system's stability.

Potential Mitigations

• Your attorney should verify the corporate structure if a franchisor appears to be a newly formed or thinly capitalized entity.
• If a parent company guarantee is provided, it is essential that your accountant review the parent's financial statements for signs of strength or weakness.
• A business advisor can help you understand the relationship and dependencies between a franchisor and its parent company.

Explanation

This risk was not identified in the FDD package, as Item 1 states that the franchisor has no predecessors. When a franchise system has been operated by a predecessor, it is important to review the predecessor's history regarding litigation (Item 3), bankruptcy (Item 4), and franchisee turnover to get a complete picture of the system's historical challenges. An incomplete disclosure of predecessor history can obscure inherited problems within the system.

Potential Mitigations

• An attorney's review of Item 1 is crucial to understand the franchisor's history and identify any disclosed predecessors.
• When a predecessor exists, independent research into their business record can provide valuable context, a task a business advisor may assist with.
• Speaking with long-term franchisees who operated under a predecessor is a key due diligence step.

Explanation

This risk was not identified in the FDD package, as Item 3 discloses no litigation. A pattern of lawsuits, especially those initiated by franchisees alleging fraud or misrepresentation, is a significant red flag. Likewise, a high volume of litigation initiated by the franchisor against its franchisees can indicate an unusually aggressive or problematic relationship. Reviewing Item 3 is a critical step in assessing a franchisor's legal and ethical track record.

Potential Mitigations

• A franchise attorney's careful review of any lawsuits disclosed in Item 3 is essential to understand the nature of the disputes.
• If litigation is present, a business advisor can help you assess whether it indicates a systemic problem within the franchise.
• You should discuss any pattern of fraud claims or other significant litigation with your attorney to evaluate the potential risks.