Franchise disclosure documents are dense and complicated for both franchisors and prospective franchisees alike. Because they contain such an abundance of information, FDDs dig into the good, the bad and the ugly.
To learn more about the intricacies of FDDs and how brands can best address potential problems inside these documents with franchise candidates, 1851 Franchise spoke to Aaron Chaitovsky, a partner and franchise consulting and accounting practice co-leader at accounting firm Citrin Cooperman.
Chaitovsky has spent more than 35 years in franchising, working with over 250 franchisors on anything ranging from audits to acquisitions to FDD assembly on a domestic and international scale. His passion for the franchise industry has taken him through many aspects of the franchisor side of the business, including in his current role covering consulting and accounting.
Chaitovsky: The first thing I look at when reviewing FDDs for prospective franchisees are inconsistencies in the brand’s financials. Franchisors often don't realize the financial statement in the document is their financial statement. They hire an accountant, throw the statement in the FDD and don’t think about it again. So when I see a franchisor with inconsistencies and a sloppy document, it tells me the information shouldn’t be relied upon because the franchisor most likely hasn’t reviewed it.
The biggest places these inconsistencies appear are in Item 20 and the financial statement in Item 21. For example, if the number of franchisees in the system as listed in the financial statement footnotes does not agree with the item in the back schedules, that is a huge red flag and prompts the question, what else is off here?
Chaitovsky: Too often, franchisors try to impress readers with their Item 19. They tend to try to exaggerate or window dress it, but the main idea behind the existence of FDDs that I always try to explain to franchisors is transparency. There should be no surprises. The goal of the document is to prepare people for business ownership, so it needs to be realistic and include detailed information about a franchisor’s system.
Including information about franchisees open for 10 or more years and what they are averaging doesn’t relate to what the prospective franchise candidates reviewing the document will experience when they start off. If the Item 19 looks too good to be true, pay attention.
Lastly, franchisors shouldn’t hide certain costs and financial obligations. Make them make sense and be clear about what fees are included and why. I can’t overstate how honest things need to be in this document, for litigation purposes, but also overall. Read your document. If there are things you don’t understand, have a professional explain.
Chaitovsky: Franchisors need to realize prospective franchise candidates will contact the people in their FDD who have left the system. This is unavoidable, so franchisors should make sure those who leave the system have something positive to say. Pave the way so, at the very least, they feel it was fair. Work to make sure franchisees both in and out of system feel supported and informed, and if your story is accurate about why it didn’t work out, tell it. Transparency gets you far.
Chaitovsky: The only thing that works is doing so through their actions. A lot of items in FDDs show trends, and as long as those are trending up and brands aren’t wasting money, that’s strong validation. The trends within Items 19 and 20 tell a story. If they are accurate, there's validation in that there are fewer surprises. The most successful brands out there have happy franchisees. Selling the culture of a franchise concept with a focus on franchisee profitability will lead to growth.
Chaitovsky: A franchisor is not measured by how quickly they can sell franchises, they are measured by how strong the franchisees in their system are. That’s the key. What is your attitude when it comes to the success of your franchisees? Are you trying to put numbers on a page or strong people in your system?
It’s important for franchisors to remember that prospective franchise candidates can call anyone in their system. If they hear them say something different than the FDD does, they won't buy your franchise. Your franchisees are your validation, so make sure their information matches yours. A franchisor’s job is to make sure the franchisee is as healthy and profitable as possible. You will make money in turn, but it needs to be an honest goal. That sells itself.