MORSE,BARNES-BROWN &PENDLETON, P.C.
The Business Law Firm on Route 128®
Franchisesand
Business Opportunity Ventures
Disclosure, Registration, Going Global …
and a Trap for the Unwary
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Before we begin …
Q: Why do we care ?
A: Because franchises are BIG business
Franchised businesses experience lower default rates than independent businesses
Securing financing often easier because the franchisor typically has an established trademark and goodwill, as well as marketplace experience
Can achieve levels of brand awareness, market penetration and purchasing power not readily achieved by individual business owners
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Franchise Overview: Main Considerations
Disclosure Federal Government and Some States
Require Disclosure
Registration Some States (but not the Federal
Government) Require Registration
Going Global UNIDROIT (Model Franchise Disclosure Law)
Trap for the unwary
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Franchise Law: Where to Begin?
Federal 416 C.F.R. 436.1-3 (the “Rule”) Mandates Disclosure Alternatively may disclose under UFOC
(Uniform Franchise Offering Circular) State
15 states regulate franchises 23 states regulate business opportunities
International National Laws UNIDROIT
(Model Franchise Disclosure Law)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Franchise Law: Where to Begin?
THE RULE: 16 C.F.R. 436 (the “Rule”) compels and provides the minimum requirements for disclosure regardless of which state(s) the franchise operates in
UFOC: Alternatively, one may disclose under UFOC (Uniform Franchise Offering Circular)
Promulgated by NASAA (North American Securities Administrators Association)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Franchise Law: Where to Begin?
Roughly half of the 15 states that regulate franchises will not accept the Rule document but will accept the UFOC document
For this reason, many franchisors offer disclosure by means of the UFOC; but several UFOC requirements are awkward so consider disclosure under the Rule if limited geographic scope and/or in certain states
The FTC will presume adequacy of a UFOC when registered by a state, but several key provisions of the Rule will govern
Therefore, understanding the Rule is the best place to begin
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Franchise Defined
Q: What is a Franchise?
A: The Rule under 16 C.F.R. 436.2 captures two types of continuing commercial relationships:
Traditional FranchisesBusiness Opportunities
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Traditional Franchises
Three definitional prerequisites:1. Trademark
The franchisor offers to the franchisee the right to offer to sell, sell or distribute the franchisors goods or services under the franchisors commercial symbol
2. Significant Control or AssistanceFranchisor exerts significant control or assistance over the franchisee’s method of operation (significant assistance over promotion, without more, does not meet the test)
3. Required PaymentFranchisee required to make payment, or commitment to make payment, to franchisor or affiliate
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Business Opportunities
Three Definitional Prerequisites:1. No Trademark
The seller simply offers the right to offer to sell, sell or distribute goods or services supplied by the seller, its affiliate, or a supplier with which the seller requires the franchisee to do business
2. Location AssistanceSeller offers to secure retail outlets or accounts for the goods or services to be sold, to secure locations or sites for vending machines or rack displays, or to refer franchisee
3. Required PaymentSame as for traditional franchise.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Exemptions Minimum Investment (Under $500)
Fractional Franchises (Existing business adds a franchised product or service to its other lines of business )
Simple TM License (Licensee lacks the right to use the mark in connection with a business system; licensor lacks control over the licensee’s business and typically does not provide significant assistance to the licensee)
Employer-Employee & General Partnership Relationships (not Limited Partnerships)
Verbal Agreements (Only if no material term is in writing)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Exemptions
Coops (agricultural coops; retailer-owned coops
Leased Departments (lease space in the premises of a franchisor but not required or advised to buy the goods or services it sells from the retailer or affiliate)
Statutory Exemptions (petition the Commissioner)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule:When Is Disclosure
Required? If business is
(i) a “traditional franchise” or (ii) a “business opportunity” and (iii) no exemption applies then
… then you must meet federal disclosure requirements under the Rule
This applies in all 50 states
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
1. Identifying info (Name, address, mark, etc.)
2. Prior 5 years business experience of franchisor's directors and executive officers.
3. Business experience of franchisor in connection with the type of franchise offered (not just any type of franchise).
4. Litigation history: Criminal, emphasizing felony convictions; or Civil, emphasizing fraud convictions.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
5. Bankruptcy history: Prior 7 years.
6. Description of franchise.
7. Initial funds: Fees, deposits, inventory, etc.
8. Recurring funds: Royalty, lease, etc.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
9. Affiliated persons with whom the franchisee is required or advised by the franchisor to do business.
10. Obligations to purchase: Signs,
supplies, fixtures, etc.
11. Consideration received by the franchisor or affiliate from suppliers for franchisee purchases.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
12. Statement of material terms of financing
offered by franchisor or affiliate to franchisee
13. Restriction of sales (goods, customers, geography) & territorial protection
14. Personal participation required of the franchisee in the operation of the
franchise. 15. Term, termination, cancellation, renewal,
assignment, etc., of the franchise.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
16. Statistical information concerning the number of franchises (number of renewals, number of renewals refused, number cancelled, etc.)
17. Site selection: Time from execution to site selection.
18. Training programs: Type, amount, cost
19. Public figure involvement in the franchise:
Endorsement; involvement.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
20. Financial information concerning the franchisor:
Balance sheet for most recent fiscal year
Income statement
Statement of changes
All for the most recent three years
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
The foregoing 20 disclosures shall be contained in a single disclosure statement or prospectus which shall not contain any materials or information other than that required by this part or by State law not preempted by this part. (16 C.F.R. 436.1)
In addition, this disclosure statement shall carry a cover sheet with the magic language ….
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
The Rule: Disclosure Requirements
The Magic Language ... in bold 12 point font …
Information for Prospective Franchisees Required by Federal Trade Commission
****************To protect you, we've required your franchisor to give
you this information. We haven't checked it, and don't know if it's correct. It should help you make up your mind. Study it carefully. While it includes some information about your contract, don't rely on it alone to understand your contract. Read all of your contract carefully. Buying a franchise is a complicated investment. Take your time to decide. If possible, show your contract and this information to an advisor, like a lawyer or an accountant. If you find anything you think may be wrong or anything important that's been left out, you should let us know about it. It may be against the law.
There may also be laws on franchising in your state. Ask your state agencies about them.
Federal Trade Commission,
Washington, D.C.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
UFOC:Disclosure Requirements
As with disclosure under the Rule, disclosure under UFOC consists of:
The foregoing 20 disclosures; and
A cover sheet with the magic language ….
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
UFOC:Disclosure Requirements
Q: So what makes UFOC so much more desirable to most states that regulate franchises?
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
UFOC:Disclosure Requirements
A: (i) Less legalese;
and
(ii) Expanded disclosure requirements in
the following areas:
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
UFOC:Disclosure Requirements
The franchisee's potential market. (Marks, territory, relocation, option to acquire others)
Items that enhance the franchisor/franchisee relationship (termination, option to purchase)
Expanded treatment of potential earnings claims (range of actual or potential sales, costs or profit)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
UFOC:Disclosure Requirements
Lists of outlets (should total at least 100)
Financial statements balance sheet for the last two fiscal years plus the statement of operations, equity and cash flow for the last three fiscal years)
Patents, Copyrights and Proprietary Information
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
State Franchise Law
15 states require franchisors to provide pre-sale disclosures, known as "offering circulars," to potential purchasers.
13 of these 15 states treat the sale of a franchise like the sale of a security. Typically prohibit the offer or sale of a franchise
within their state until a franchise offering circular has been filed on the public record with, and registered by, a designated state agency.
2 of these 15 states require use of a disclosure document but do not require that such a document be filed with the state.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
State Franchise Law:
The Following 13 states treat the sale of a franchise like the sale of a security requiring registration:
California North DakotaHawaii Rhode Island Illinois South DakotaIndiana VirginiaMaryland WashingtonMinnesota WisconsinNew York
The Following 2 states require disclosure but not registration:
Oregon (no filing) Michigan (file notice only)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
State: Business Opportunities
The Following 23 states regulate business opportunities: California Connecticut Florida Georgia Illinois Indiana Iowa Kentucky Louisiana Maine Maryland Michigan Minnesota Nebraska New Hampshire North Carolina Ohio, Oklahoma South Carolina South Dakota Texas Utah Virginia Washington
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Massachusetts
Massachusetts is not one of the 15 states with special rules or laws governing franchises or one of the 23 governing business opportunities
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Massachusetts
“The Federal Trade Commission requires that many types of business opportunities, such as franchise offers, provide a disclosure statement with pertinent information about the business and its owners. Ask for one if you are considering a particular offer.”
Source: Massachusetts Attorney General’s Office http://www.ago.state.ma.us/sp.cfm?pageid=1202 (August 7, 2004)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Massachusetts
For a Massachusetts franchisor (or franchisee or franchise broker), we care about: The Rule or UFOC (whichever disclosure
mechanism is at issue); and Remedies under 93A
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Remedies for Failure to Disclose and/or Register
The Rule The Rule is a trade regulation rule with
the full force and effect of federal law.
The courts have held it may be enforced by the FTC only, not by private parties
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Remedies for Failure to Disclose and/or Register
FTC Action: Injunctions Asset Freezes (corporate and personal) Civil Penalties ($11,000 per violation) Monetary redress on behalf of investors Other redress, e.g., rescission or
reformation of contracts
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Remedies for Failure to Disclose and/or Register
What’s a private party to do? Each of the franchise laws in the 15
states with franchise registration and/or disclosure requirements authorizes actions for state franchise law violations
The courts in some states have interpreted state deceptive practices laws (“little FTC Acts”) as permitting private actions for Rule violations: 93A
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global
National laws
National Model Law Model Franchise Disclosure Law UNIDROIT
International Model Law Model International Franchising Agreement International Chamber of Commerce (ICC)
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global: National laws
Only a relative handful of countries have laws specific to franchises
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global: Model Law (National)
Model Franchise Disclosure Law UNIDROIT
International Institute For the Unification of Private Law
Drafted by Committee of Governmental Experts
Endorsed by the Governing Council Limited to Disclosure (like the Rule in
U.S.)
Source: Peters, Lena, Franchising: Recent Legislation and the UNIDROIT Model Franchise Disclosure Law, Bus. Law J. Jan. 2004.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global: Model Law (National)
Based primarily on review of franchise laws in: Italy Korea Japan Canada (Ontario) Canada (Alberta)
Source: Peters, Lena, Franchising: Recent Legislation and the UNIDROIT Model Franchise Disclosure Law, Bus. Law J. Jan. 2004.
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global: Model Law (National)
The disclosure requirements under the Model Franchise Disclosure Law are remarkably similar to those required by the Rule and UFOC
http://www.unidroit.org/english/modellaws/2002franchise/main.htm
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Going Global: Model Law (International)
ICC Model International Franchising Agreement
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Trap for the Unwary
Is your license, distribution, partnership or other “agreement” actually a franchise?
Does the “licensor” assist significantly with its client’s “method of operation” ?
Does the “licensor” charge its client a fee for its services?
Can the “licensor” permit it’s client to use the licensor’s mark?
If the answer to these three questions is ‘yes’ then a franchise agreement exists and the “licensor” must comply with franchise laws
By Thomas F. Dunn, Esq. ([email protected]) © 2004 Morse, Barnes-Brown & Pendleton, P.C.
Franchise Law: Contact Information
Thomas F. DunnMorse, Barnes-Brown & Pendleton, P.C.
1601 Trapelo RoadWaltham, MA 02451Tel: 781.622.5930Email: [email protected]: www.mbbp.comBio: www.mbbp.com/thomasd.html
Directions: www.mbbp.com/directions.html
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