What is the Franchise Disclosure Document (FDD)?
Prior to purchasing any franchise, a potential franchise owner must be given a copy of the franchisor’s Franchise Disclosure Document (FDD) at least 14 days before the completion of the franchise purchase. But what exactly is the FDD and why is it required?
In short, buying a franchise is a complex investment, and the FDD provides buyers with the necessary information to make a well-informed buying decision. The FDD ensures that every franchisor discloses all facets of franchise ownership, including both the positives and perceived negatives.
Created by the Federal Trade Commission in 1978, and made a requirement for franchisors in 2008, the FDD exists for two primary reasons:
- To protect potential buyers as a candidate
- To protect the franchisor against allegations of misleading claims
The FDD includes 23 items, including the franchisor’s franchise agreement and various exhibits that include a list of current and past franchise owners and audited financials of the franchisor. To ensure accuracy, franchisors are required to update their FDD annually or when there is a material change.
Broken into two different pieces, the first half of the FDD describes in straightforward language what is in the actual franchise agreement that makes up the second piece of the FDD, which is written with more high level legal jargon.It is important to note that franchisors are not able to change the terms of the FDD or the information provided in it, as the FTC requires that franchisors play by the same rules. Franchisors can, however, provide an explanation or clarification of the information if there is a question.
The FDD includes the history of the franchisor, which can help to provide a more complete understanding of the company’s future growth and success. This includes the location of the franchisor and how long the company has been in business, as well as information about the leadership team. The FDD is so comprehensive that it includes background information - including anything negative like bankruptcy or legal trouble - for each member of the leadership team.
Of course, the FDD also lays out the initial costs involved in starting and operating a franchise, including the franchise fee and the initial overhead costs necessary to get the business operational. In the case of Fresh Coat, the FDD outlines the Winner’s Circle program, which provides a way for franchise owners to recoup their initial franchise fee by hitting specific milestones during the first five years of franchise ownership.
Also included in the costs associated with franchise ownership are the royalties, which are usually collected by the franchisor on a monthly basis and are based on a percentage of revenue. Royalty fee rates vary among franchisors, typically from 4% to 12% of revenue, depending on the type of franchise business. Both parties benefit from the franchise fees and royalties if the franchisor offers a good business system, and the franchise owner follows it.
Another note about the expenses listed in the FDD is the requirement that any fee that could ever possibly be incurred by a franchisee at any time during franchise ownership must be showcased. Of course, a franchise owner may never come across a number of those fees. Some of the fees act as a safeguard to protect franchise owners from one poor-performing franchise, ensuring that the actions of one do not negatively impact the entire brand. When read from the perspective that the language included is to protect everyone’s business, the FDD language makes more sense.