What is an FDD?Charles Willis
The Franchise Disclosure Document (FDD), mandated by the Federal Trade Commission, is the legal document presented to all potential franchise candidates a minimum of two weeks prior to signing the Franchise Agreement. While thorough, the FDD explains the Franchise Agreement in easy to understand terms and outlines the history of the franchise company. The purpose of this is to allow potential franchisees to do their due-diligence before deciding to sign an agreement. This document is broken out into 23 items describing every aspect of the company.
There are a few sections that are very important to understand before signing the agreement:
Items 1-4 – These sections explain the history of the company, the business experience and roles of anyone involved in the sales process, litigation and bankruptcy information for the company and/or management (if any).
Item 5 – Initial Fees – You’ll want to check the initial franchise fee and determine what’s included with it. This is also where a franchise outlines any discounts on the initial franchise fee such as a veterans discount. Not all franchises offer the same discounts.
Item 6 – Other Fees – This section explains any fees you can expect during your time as a franchisee. This is to protect the franchisees from being hit with any unexpected fees. One thing to check is the royalty and system ad fund rates. The way these rates are calculated depends on the franchise. Some calculate your royalties based on gross sales while others use NAT sales (Net after taxes, refunds, discounts, and donations). If Company A’s royalties are 6% NAT sales and Company B’s are 6% gross sales, you’ll end up paying less in royalties with Company A.
While reviewing this section, you’ll want to ask yourself, “What is this fee, and what am I getting out of this fee?” You need to weigh the value vs. the cost of the fee. The value you get from the service should exceed the price you pay for the fee. Be sure to ask the franchisor questions when you review the FDD with them. Some fees are contingent upon certain situations such as transferring your store or overdue payments. These fees are avoidable if you follow the terms of your franchise agreement.
Item 11 – Franchisor’s Assistance, Advertising, Computer Systems and Training – In regards to Advertising, this section lets you see a breakdown of how the system ad fund is spent. It’s important to know where your money is going in terms of advertising that benefits your studio. You can also see a breakdown of the training hours by classroom and on-the-job training. This is an opportunity to see how thorough the franchise is in preparing franchisees for business ownership.
Item 19 – Financial Performance – This may be the most important section of the entire FDD. The number one question every candidate has in mind: “How much money can I make owning a paint and sip franchise?” We cannot provide estimates of profits or revenue because franchises are independently owned, and performance is based on the unique business decisions of each owner. This section is where the franchisor presents “Earnings Claims.” While the earnings claims section is not a guarantee that new franchises will perform the same, it does provide practical information that allows candidates to build a business plan and set financial goals.
These are a few sections that I like to look at when evaluating franchise companies, but every section is important to understand thoroughly. Take your time to read all of the details, be thorough when asking the franchisor questions, and review with trusted professionals.