1. Franchising - Legal Training Matthew J. Kreutzer, Esq. Partner, Howard & Howard PLLC

2. What We’ll Talk About 1 – What is a franchise? 1 – What is a franchise? 2 – Types of Franchise Laws and Regulation 2 – Types of Franchise Laws and Regulation Federal Laws Federal Laws State Laws State Laws 3 – Franchise Disclosure Document (“FDD”) 3 – Franchise Disclosure Document (“FDD”)

3. What is a Franchise? Traditionally: The right or license granted to an individual or entity to market and sell a company’s goods or services in a particular industry using that company’s intellectual property (i.e., trademark)

4. What is a Franchise? FTC: A franchise is a business opportunity involving three (3) elements: 1. Trademark. Business involves distribution of goods or services associated with the franchisor’s trademark or trade name; 2. Fee. Payment of at least $500 within six months of signing of an agreement; and 3. Significant Control or Assistance. Franchisor exercises significant control over, or provides significant assistance in, franchisee’s method of operation.

5. What is a franchise? (McDonald’s Italy)

6. What is a franchise? (McDonald’s Spain)

7. What is a franchise? (McDonald’s France)

8. Federal Franchise Law Federal Law (called the “FTC Rule”): require franchisors to prepare a Franchise Disclosure Document (“FDD”) which is similar to a securities disclosure, and provide that document to prospective franchisees Federal Law (called the “FTC Rule”): require franchisors to prepare a Franchise Disclosure Document (“FDD”) which is similar to a securities disclosure, and provide that document to prospective franchisees Governs all franchisors operating in the US Governs all franchisors operating in the US Must furnish FDD to all prospective franchisees Must furnish FDD to all prospective franchisees f/k/a the “Uniform Franchise Offering Circular” or “UFOC” f/k/a the “Uniform Franchise Offering Circular” or “UFOC” Disclosure law only Disclosure law only

9. What is a franchise? All three of the definitional elements must be met before a business opportunity will be considered a “franchise” All three of the definitional elements must be met before a business opportunity will be considered a “franchise” The name which the parties give to their relationship is not relevant in determining whether the relationship is or is not a franchise The name which the parties give to their relationship is not relevant in determining whether the relationship is or is not a franchise

10. State Franchise Laws State Laws: State Laws: Disclosure and Registration Laws - Before a franchisor can sell in a jurisdiction or to residents of that jurisdiction, it must file its FDD with the applicable regulatory authority. The regulator will review and, in some instances, comment on the FDD and require the franchisor to make changes. Disclosure and Registration Laws - Before a franchisor can sell in a jurisdiction or to residents of that jurisdiction, it must file its FDD with the applicable regulatory authority. The regulator will review and, in some instances, comment on the FDD and require the franchisor to make changes. - Registration must be renewed annually, and any time there is a material change in the franchisor or the franchise system. Relationship Laws – Govern elements of the relationship between franchisor-franchisee; primarily restrict when a franchisor can terminate or refuse to renew a franchise. Relationship Laws – Govern elements of the relationship between franchisor-franchisee; primarily restrict when a franchisor can terminate or refuse to renew a franchise.

11. Interaction of the Various Franchise Laws Fourteen states have disclosure and registration laws Fourteen states have disclosure and registration laws Some states have relationship laws but no registration laws Some states have relationship laws but no registration laws

12. Franchise Registration States

13. State Franchise Laws State Franchise Registration State Franchise Registration In some states, franchisor must disclose “franchise sellers” who will be selling franchises in-state In some states, franchisor must disclose “franchise sellers” who will be selling franchises in-state “Franchise seller”: a person that offers for sale, sells, or arranges for the sale of a franchise. Includes franchisor’s employees, representatives, agents, subfranchisors, and third-party brokers. “Franchise seller”: a person that offers for sale, sells, or arranges for the sale of a franchise. Includes franchisor’s employees, representatives, agents, subfranchisors, and third-party brokers.

14. State Franchise Laws Franchise Seller disclosure: Current position Current position 5 year employment history 5 year employment history Pending /completed actions (5 years) involving fraud, embezzlement, violation of franchise law, unfair / deceptive practices, or similar allegations Pending /completed actions (5 years) involving fraud, embezzlement, violation of franchise law, unfair / deceptive practices, or similar allegations Felony /no contest pleas within 10 years Felony /no contest pleas within 10 years Injunctive /restrictive order relating to franchises, securities, antitrust laws Injunctive /restrictive order relating to franchises, securities, antitrust laws

15. State Franchise Laws Franchise seller disclosure must be updated annually, or when the information on the form changes (e.g., address, position, civil / criminal actions) Franchise seller disclosure must be updated annually, or when the information on the form changes (e.g., address, position, civil / criminal actions) Generally the responsibility of the Franchisor to provide franchise seller disclosure as part of its annual registration Generally the responsibility of the Franchisor to provide franchise seller disclosure as part of its annual registration State Licensing of Franchise Brokers State Licensing of Franchise Brokers 48 states: no license needed for “finders” who simply refer candidates to franchise companies 48 states: no license needed for “finders” who simply refer candidates to franchise companies Exceptions: NY and WA – it is your responsibility to become licensed there Exceptions: NY and WA – it is your responsibility to become licensed there

16. Disclosure Requirement Contents of FDD per regulation – 23 separate Items Contents of FDD per regulation – 23 separate Items FTC and the Disclosure/Registration States have created a set of guidelines that generally make FDD’s uniform across states FTC and the Disclosure/Registration States have created a set of guidelines that generally make FDD’s uniform across states As a result, FDDs will look substantially the same regardless of prospect’s state of residence As a result, FDDs will look substantially the same regardless of prospect’s state of residence “Plain English Rule”: No legalese or technical jargon “Plain English Rule”: No legalese or technical jargon

17. Timing of Disclosures FDD must be given 14 calendar days before signing binding agreement or accepting payment (certain states: first personal meeting or 10 business days) FDD must be given 14 calendar days before signing binding agreement or accepting payment (certain states: first personal meeting or 10 business days) Critically, no money or signed agreements can be accepted before 14 day review period has passed Critically, no money or signed agreements can be accepted before 14 day review period has passed Signed, dated receipt is critical Signed, dated receipt is critical Signatures can be handwritten or use security codes, passwords, electronic signatures, and similar devices through which a person’s identity can be authenticated. Signatures can be handwritten or use security codes, passwords, electronic signatures, and similar devices through which a person’s identity can be authenticated.

18. Method of Transmission Electronic disclosure is encouraged (but not required) Electronic disclosure is encouraged (but not required) Before disclosure, Franchisor must advise franchisee of different formats in which disclosure document is available Before disclosure, Franchisor must advise franchisee of different formats in which disclosure document is available Paper copies always okay Paper copies always okay

19. FDD Cover Page Caution – investment and initial fee amounts Caution – investment and initial fee amounts Contact person to discuss available e-disclosure formats Contact person to discuss available e-disclosure formats FTC contact info FTC contact info

20. State Cover Page Risk Factors: including a warning regarding choice of law and choice of forum clauses Risk Factors: including a warning regarding choice of law and choice of forum clauses Warning about Franchise Broker involvement: Warning about Franchise Broker involvement: We use the services of one or more FRANCHISE BROKERS or referral sources to assist us in selling our franchise. A franchise broker or referral source represents us, not you. We pay this person a fee for selling our franchise or referring you to us. You should be sure to do your own investigation of the franchise. We use the services of one or more FRANCHISE BROKERS or referral sources to assist us in selling our franchise. A franchise broker or referral source represents us, not you. We pay this person a fee for selling our franchise or referring you to us. You should be sure to do your own investigation of the franchise.

21. Contents of FDD – In Brief Items 1, 2 Items 1, 2 Franchisor’s parent, predecessor, affiliates Franchisor’s parent, predecessor, affiliates History and background of franchisor History and background of franchisor 5 year employment history of key officers and employees 5 year employment history of key officers and employees Items 3, 4 Items 3, 4 Litigation history (system and officers) Litigation history (system and officers) Bankruptcy history (system and officers) Bankruptcy history (system and officers)

22. Contents of FDD – In Brief Items 5, 6 Items 5, 6 Discloses costs – $$$ paid to franchisor Discloses costs – $$$ paid to franchisor Item 7 Item 7 Discloses total estimated initial investment (range) including monies to be paid to third parties Discloses total estimated initial investment (range) including monies to be paid to third parties Item 8 Item 8 Sourcing restrictions Sourcing restrictions Item 11 Item 11 Franchisor’s assistance and training Franchisor’s assistance and training Franchisee must either have reasonable opportunity to review Operating Manual or the TOC must be an exhibit Franchisee must either have reasonable opportunity to review Operating Manual or the TOC must be an exhibit

23. Contents of FDD – In Brief Item 10 Item 10 Whether or not the franchisor provides financing to its franchisees, must be disclosed here Whether or not the franchisor provides financing to its franchisees, must be disclosed here If yes, financing documents must be included as exhibits in the FDD If yes, financing documents must be included as exhibits in the FDD Item 12 Item 12 Must warn franchisee if no territorial exclusivity is offered Must warn franchisee if no territorial exclusivity is offered Must disclose “alternate channels of distribution” Must disclose “alternate channels of distribution” Internet, catalog sales, telemarketing, or other direct marketing sales Internet, catalog sales, telemarketing, or other direct marketing sales

24. Contents of FDD – In Brief Items 13, 14 Items 13, 14 Trademarks (registered vs. non-registered; indemnification obligations, use restrictions) Trademarks (registered vs. non-registered; indemnification obligations, use restrictions) Patents and copyrights (same) Patents and copyrights (same) Item 15 Item 15 Discloses the requirement that the franchise owner MUST participate in the actual operation of the franchised business Discloses the requirement that the franchise owner MUST participate in the actual operation of the franchised business Item 17 Item 17 Explains and discloses various provisions of franchise agreement, including non-competes, renewal, termination, transfer, and other key points Explains and discloses various provisions of franchise agreement, including non-competes, renewal, termination, transfer, and other key points

25. Contents of FDD – In Brief Item 19 Item 19 “Financial Performance Representations” (a/k/a “earnings claims”) “Financial Performance Representations” (a/k/a “earnings claims”) Many franchisors do not make claims (not required to by law) Many franchisors do not make claims (not required to by law) Franchisors must state that they are permitted to disclose financial performance information, but choose not to Franchisors must state that they are permitted to disclose financial performance information, but choose not to Addresses common complaint under prior rule: sales people claiming “not allowed” to disclose earnings Addresses common complaint under prior rule: sales people claiming “not allowed” to disclose earnings

26. Financial Performance Representations Defined: “Any oral, written, or visual representation for general dissemination... which states a specific level of sales, income, gross or net profits, either actual or potential, of existing or prospective outlets of the named franchise business or which states other facts which suggests a specific level.” As you can see, an FPR can take many, many different forms.

27. Financial Performance Representations RULE OF THUMB: To avoid liability as the franchisor’s agent, do NOT make any statements about a prospect’s earnings potential. Refer prospect to Item 19 of the FDD. If the Franchisor does not make an Item 19 disclosure, then refer prospect to Item 20 – list of existing and former franchises.

28. Contents of FDD – In Brief Item 20 – Outlet Information Item 20 – Outlet Information Number of outlets per state Number of outlets per state Information regarding system change (terminations, transfers, new outlets) Information regarding system change (terminations, transfers, new outlets) Includes information regarding corporate-owned and franchised outlets Includes information regarding corporate-owned and franchised outlets Also, franchisor’s projections for new outlets in coming year Also, franchisor’s projections for new outlets in coming year List of existing and former franchisees List of existing and former franchisees Confidentiality clauses disclosed Confidentiality clauses disclosed Prohibit or restrict existing or former franchisees from discussing their experience with prospective franchisees Prohibit or restrict existing or former franchisees from discussing their experience with prospective franchisees

29. Contents of FDD – In Brief Item 21 - Audited Financial Statements Item 21 - Audited Financial Statements Phase-in of audits permitted but not if prior audits were conducted or the entity was previously involved in franchising Phase-in of audits permitted but not if prior audits were conducted or the entity was previously involved in franchising Parent statement must be included if it guarantees franchisor’s obligations Parent statement must be included if it guarantees franchisor’s obligations

30. Contents of FDD – In Brief Item 22 – A Description of Exhibits to Items 1 through 23 of the FDD Item 22 – A Description of Exhibits to Items 1 through 23 of the FDD All contracts the franchisee will or may sign during the franchise relationship All contracts the franchisee will or may sign during the franchise relationship Item 23 – Receipt Page Item 23 – Receipt Page

31. Resource Links FTC’s Franchise Rule: FTC’s Franchise Rule: www.ftc.gov/bcp/franchise/netfran.shtm www.ftc.gov/bcp/franchise/netfran.shtm www.ftc.gov/bcp/franchise/netfran.shtm International Franchise Association: International Franchise Association: www.franchise.org www.franchise.org www.franchise.org Matt’s Franchising Blog – “Forward Franchising” Matt’s Franchising Blog – “Forward Franchising” www.forwardfranchising.com www.forwardfranchising.com www.forwardfranchising.com

32. The End Thank you! Matt Kreutzer Howard & Howard PLLC Email: mkreutzer@howardandhoward.com Telephone: (702) 667-4827 Websites: www.forwardfranchising.com www.howardandhoward.com