Explanation

The franchisor's outlet growth as detailed in Item 20 does not appear to be dangerously rapid at this time. However, rapid expansion can strain a franchisor's ability to provide adequate support. If a franchisor grows faster than its support systems, new franchisees may suffer from inadequate training, site selection assistance, and ongoing operational help, which can jeopardize their success despite their investment and payment of fees.

Potential Mitigations

• It is wise to ask the franchisor about their future growth plans and how they intend to scale support systems to match.
• A discussion with your business advisor can help you assess if the franchisor's current infrastructure seems adequate for its projected growth.
• Your accountant should review the franchisor's financial statements to determine if they have the capital to fund support for new units.

Explanation

This risk was not identified in the FDD package. A fad business is one tied to a fleeting trend, which can be a significant risk for a franchisee. When consumer interest wanes, the business may fail, but your contractual obligations to the franchisor, such as royalty payments and non-compete clauses, typically continue for the full term of the agreement. This can leave you with a failing business and ongoing financial liabilities.

Potential Mitigations

• A business advisor can help you conduct independent market research to assess the long-term consumer demand for the products or services.
• You should evaluate whether the business model is adaptable and has plans for innovation beyond the current trend.
• A financial advisor can help you consider the business's resilience to economic shifts and changing consumer tastes.

Explanation

This risk was not identified in the FDD package, as Item 1 does not indicate ownership by a private equity firm. When a franchisor is owned by a private equity firm, there is a potential risk that business decisions will prioritize short-term investor returns over the long-term health of the system. This can sometimes manifest as reduced franchisee support, increased fees, or a focus on rapid franchise sales rather than unit-level profitability.

Potential Mitigations

• It is wise to research a private equity firm's history with other franchise brands it has owned.
• Discussing any changes in the system since a private equity acquisition with current franchisees can provide valuable insight.
• An attorney should review the franchise agreement for any terms that might change upon a sale of the franchise system.

Explanation

This risk was not identified in the FDD package, as Item 1 does not disclose a parent company. Sometimes a franchisor is a subsidiary of a larger parent company. If the parent company's financial health is not disclosed, it can obscure potential risks. A financially weak parent may be unable to support the franchisor subsidiary, jeopardizing the entire system, especially if the franchisor itself is thinly capitalized and relies on the parent for backing.

Potential Mitigations

• An attorney can help investigate the corporate structure to identify any undisclosed parent companies or controlling entities.
• If a parent company exists and provides a guarantee, your accountant should insist on reviewing its financial statements.
• Understanding the full corporate structure is crucial for assessing the true financial stability of the franchise system with your business advisor.

Explanation

This risk was not identified in the FDD package, as Item 1 does not disclose any predecessors. A predecessor is a company from which the franchisor acquired the business or that previously offered similar franchises. Failing to disclose or downplaying a predecessor's history can hide important information about past challenges, such as high franchisee failure rates, litigation, or bankruptcy, which could be relevant to your investment decision.

Potential Mitigations

• An attorney should carefully review Item 1 for any mention of predecessors or business acquisitions.
• If a predecessor is mentioned, your business advisor can help you research its history and reputation.
• Asking long-term franchisees about their experiences under any previous ownership can reveal important historical context.

Explanation

This risk was not identified in the FDD package, as Item 3 discloses no litigation. A pattern of litigation against a franchisor, especially lawsuits from other franchisees alleging fraud, misrepresentation, or breach of contract, can be a major red flag. It may indicate systemic problems within the franchise, such as unfulfilled promises, a flawed business model, or unethical sales practices, suggesting a higher risk of disputes and dissatisfaction for new franchisees.

Potential Mitigations

• An attorney should always carefully review the details of any lawsuits disclosed in Item 3.
• It is prudent to discuss any disclosed litigation with current and former franchisees to get their perspective.
• A high number of lawsuits initiated by the franchisor against franchisees can also be a warning sign of an overly aggressive relationship, a point to discuss with your attorney.