Copyright:  / 123RF Stock Photo
Copyright: / 123RF Stock Photo

I continue with the fourth installment on Observations from the IFA Convention on the Ins and Outs of Financial Performance Representations (“FPRs”).  Again, my thanks to Max Schott of Gray Plant Mooty for co-authoring this summary with me.  This time, we warn of the dangers of a couple behaviors which can be claimed as an unlawful FPR.

Directing prospects to existing franchisees:  the dos and don’ts.  Prospective franchisees should be encouraged to reach out to existing franchisees, which is why their contact information is included in the Franchise Disclosure Document.  Many franchisors even require that all prospects contact a certain number of existing franchisees.  Where franchisors get themselves into trouble is when they start directing prospects to a specific subset of existing franchisees.  Clearly, a franchisor does not want to steer prospects to its top five or ten performing franchisees.  This practice may very well result in a claim of an unlawful FPR by a franchisee that does not achieve the same results as the top performers it contacted.  In some cases, however, there may be legitimate reasons to direct a prospect to a certain subset of existing franchisees.  For example, the prospect may have specifically requested the names of existing franchisees that have been open for less than a year or are operating units of the same size or type as the prospect may operate.  Further, a franchisor, especially one with a smaller system, may want to limit the number of calls each existing franchisee receives and therefore put together a rotating list of existing franchisees and when they will be available.  As part of providing subsets of existing franchisees, however, we recommend that franchisors document why the subset is being provided and continually analyze the risk of a claim of unlawful steering.

A Cautionary Tale Regarding the Use of a Blank Pro Forma.  To aid prospective franchisees in conducting due diligence, many franchisors provide them with a fill-in-the-blank pro forma.  These are not considered FPRs and should not be included in Item 19.  While the use of a pro forma is fine, franchisors must be careful not to comment on completed versions of them before a prospect signs a franchise agreement or it may run the risk of a claim that it provided an unlawful FPR.  You may recall the story of the “cloudy day,” “cloudy day,” “sunny day” responses a franchisor gave to different iterations of a prospect’s pro forma, which later came back to haunt it.

Next week, we will give a few tips about some new guidance from the FTC regarding how to deal with the variety of comments often received from state regulators.