Could a Franchise Be a Viable Opportunity for a Michigan Entrepreneur? (Part 3) -- Franchisors' Federal Disclosure Obligations
Franchisors have a number of obligations to both prospective and actual franchisees. The main obligation is one of disclosure regarding the franchise system and the business opportunity available to the franchisee. This post discusses the Federal disclosure obligations imposed on Franchisors.
Under federal law, a franchisor is required to furnish to prospective franchisees a certain disclosure regarding the franchise at a specified time. Disclosure is only required to be made to prospective franchisees. A prospective franchisee is any person, including any representative, agent, or employee of that person, who approaches or is approached by a franchisor or franchise broker or any representative, agent, or employee thereof, for the purpose of discussing the establishment, or possible establishment, of a franchise relationship involving such person.
Federal law provides for the offering circular to be provided to the prospective franchisee at the earlier of the first personal meeting (i.e., face to face meeting) or the “time for making disclosures.” The time for making disclosures is defined as ten business days before the earlier of:
1. The execution by a prospective franchisee of any franchise or any other agreement imposing a binding legal obligation on a prospective franchisee about which the franchisor knows or should know, in connection with the sale or proposed sale of a franchise; or
2. The payment by a prospective franchisee about which the franchisor knows or should know, of any consideration in connection with the sale or proposed sale of the franchise.
The disclosure required by federal law must be made in a single prospectus or offering circular. The prospectus must have a cover page bearing specified language, a table of contents, and a response to each item of a designated format of disclosure. The designated format of disclosure may be either, at the franchisor’s option, the format prescribed by the Federal Trade Commission (FTC) or the Uniform Franchise Offering circular (UFOC), prescribed by the North American Securities Administrator’s Association.
In practice, an overwhelming majority of franchisors use the UFOC format because FTC approved disclosure format has been accepted for use in only 6 of the 15 states that require franchise registration and/or disclosure. However, the UFOC format may be used to comply with all of the state franchise registration and/or disclosure laws, as well as with federal law. As a result, for a national franchisor or a franchisor with plans to franchise nationally, the uniformity afforded by using the UFOC makes it a logical choice. On the other hand, if a franchisor intends to limit its sales activity to states in which only the FTC format may be used, that format may be more advantageous, since it is generally simpler to prepare than UFOC format.
However, even franchisors intending to limit their sales activity to states in which the FTC rule format may be used may find the UFOC format more desirable, because the particular disclosure requirements of the UFOC may be more favorable than the requirements of the FTC rule format. Similarly, certain franchisors finding the FTC rule format substantially advantageous may tailor their sales activity so that it may be used.
