Franchising is a major force in the US economy. With total franchise output increasing by 4.1%, it is expected to continue growing throughout 2024 despite economic uncertainties.
Anyone starting a business in the US will be subject to various laws and regulations. Franchising is no exception. In addition to federal laws, many states have their own franchise laws that may impose additional requirements on franchisors. While the laws may be complex, they serve to ensure clear guidelines and protect the interests of all parties involved. A franchise attorney can help you navigate these regulations and understand how they apply to you.
The Key Federal Law: FTC Franchise Rule
The most pivotal franchise law to be aware of is the Federal Trade Commission (FTC) Franchise Rule. Introduced in 1979 and updated over the years, it remains the cornerstone of federal franchise law. With a focus on transparency and disclosure, the rule aims to ensure prospective franchisees receive critical information needed to make an informed decision. It also seeks to protect franchisees from misleading information and deceptive practices in the franchising world.
Role of the Federal Trade Commission (FTC)
The FTC is a federal agency tasked with protecting consumers and ensuring fair competition in the marketplace. Enforcing the Franchise Rule fulfills their mission in two ways.
- Consumer Protection – One of the FTC’s goals is to protect consumers from deceptive practices. By enforcing the Franchise Rule, the agency is able to protect individuals (consumers) who are considering franchise ownership.
- Marketplace Transparency – The FTC also seeks to promote fair competition in the marketplace. The Franchise Rule contributes to this by ensuring all parties have access to critical information before signing a franchise agreement. Keep in mind that the FTC does not approve or regulate the terms of franchise agreements.
Furthermore, while the FTC enforces disclosure requirements, it does not evaluate the fairness or profitability of any franchise opportunity.
Purpose of the FTC Franchise Rule
Franchisors typically have more knowledge and experience related to franchising than franchisees. The FTC Franchise Rule helps level the playing field by giving potential franchisees the necessary tools for evaluating the risks and benefits of a franchise opportunity. This is important for two reasons:
- Informed Decision-Making – Buying a franchise requires a significant investment of time and money. Prospective franchisees can make an informed decision when they have access to details about the franchise system, fees, obligations, potential earnings, franchisor history, and more.
- Fraud Prevention – Franchisors are less likely to mislead franchisees with unrealistic promises or hiding unfavorable conditions if a federal rule requiring clear disclosures is enforced.
Disclosure Requirements Under the FTC Franchise Rule
The Franchise Disclosure Document (FDD), a key aspect of the Franchise Rule, consists of 23 items that the franchisor must disclose. Information that the franchisor must disclose includes:
- Franchisor Background – History and business experience of the franchisor and its key executives.
- Litigation History – Any legal issues the franchisor has been involved in, including previous lawsuits, bankruptcy filings, or disputes with other franchisees.
- Initial & Ongoing Costs – A detailed breakdown of all costs associated with purchasing and running the franchise, such as initial franchise fees, royalties, marketing fees, and other ongoing payments.
- Territorial Rights – Clarification on whether franchisees will have exclusive rights to a specific geographic area or whether the franchisor can establish competing franchises nearby.
- Training & Support – Information on the type and extent of support that the franchisor will provide, such as training programs, marketing assistance, and operational guidance.
- Financial Performance Representations – Data on the earnings potential of the franchise, if provided (though the franchisor is not legally required to provide earnings claims).
- Dispute Resolution – Mechanisms for resolving disputes between franchisors and franchisees, such as arbitration clauses or legal procedures.
Enforcement of the FTC Franchise Rule
While the FTC enforces the Franchise Rule, the agency won’t intervene in individual disputes between franchisors and franchisees. Rather, if a franchisor has violated the rule, a franchisee can seek remedies through a private lawsuit focusing on misrepresentation or failure to comply with disclosure requirements. Franchisees should still file a complaint with the FTC, who can take action against franchisors consistently violating the rule, issuing fines or other penalties.
Looking to Buy a Franchise Business?
Entering the franchise world can be intimidating, but fortunately there are both federal and state regulations aimed at protecting franchisees. If you’re interested in buying a franchise, FranNet is here to help you get started. Our expert franchise consultants can help you find the right franchise opportunity while answering any questions you have along the way. Schedule your free consultation today!