THE ‘REVOLUTION’ IN FRANCHISING
FRANCHISORS FACE NEW REGU-LATIONS AND A RISING WAVE OF FRANCHISEE DISCONTENT

By David M. Griffith, Esq.

The New Uniform Franchise Offering Circular (UFOC)

The first major change in the UFOC format since 1975 was recently approved by the Federal Trade Commission after a three year drafting effort by the North American Securities Adminstrators Association (NASAA), the national association that represents state securities agencies regulating the sale of franchises in their states. The changes took effect on January 1, 1995. California adopted the guidelines early last year and gave franchisors an option to comply with either the old or the new guidelines until December 31, 1994, after which they were required to meet the new standards. The new guidelines were a direct result of the recent intensifying scrutiny of the franchising industry by state legislatures. They represent a middle of the road approach that hopes to avoid more instrusive so-called ‘relationship’ laws that have been adopted in certain states and are under consideration by numerous others, including California.

A Short History of Franchise Regulation

Regulation of franchise sales is relatively new, first having been adopted by the State of California in 1971 with its “Franchise Investment Protection Act.” The Federal Trade Commission followed later in 1979 with its own regulations which mandate disclosure as a prerequisite to sales of franchises. The so-called “FTC Rule”, however, does not require federal registration for sales of franchises (franchisors are not even required to file their disclosure document with the FTC). This is left to the states and so far only California and 14 other states require pre-registration. Generally, franchisors selling franchises in the State of California comply with both federal and state law by filing a Uniform Franchise Registration Application with the Department of Corporations, which contains the required disclosure document, known as the Uniform Franchise Offering Circular (UFOC), and key exhibits such as the franchise agreement and financial statements, all of which must be given to a franchisee prior to the time that a franchise agreement is executed. Sales of franchises are not allowed in California until the Department of Corporations reviews this application and the UFOC, the franchisor makes any requested changes, and the registration is declared effective.

New Items Required by the Revised UFOC

Some of the new items required by the revised UFOC include:

• A list of marketing agents in the franchisee’s state
• A list of state laws or pending bills that could affect the franchisor’s business
• Information on past franchisor litigation and bankruptcies, if any
• Information on franchisor advertising must be detailed as to amount spent and type of media used
• Franchisors must explain their training programs and the subject matter and training time
• Detailed information about affiliates under common control of the franchisor
• An estimate of initial fees and start up time
• A more detailed account of site selection procedures
• A chart outlining fees collected and imposed by the franchisors and potential payments to third parties, such as vendors
• A chart of 24 items outlining franchisee obligations containing information that previously was available only by consulting the franchise agreement
• Information about financing programs and potential liabilities upon default
• The Table of Contents from the franchise operating manual and the instructions for operating the franchise must be provided.
  

Recommended Actions

1. Get Started Early on Renewal Applications. Allow at least 75 days before your registration expires to start preparing your renewal application. For example, if your registration expires April 15, 1995 you should try to commence work by February 1, 1995 to allow for filing with the California Department of Corporations no later than March 1, 1995 to avoid the tremendous ‘logjam’ expected as the regulators sort through year-end renewal applications. Failure to get started early could result in your franchise sales effort being interrupted for several weeks or even months.

2. Work With a Professional. It is recommended that you utilize a franchise consultant or attorney familiar with the new UFOC Guidelines. Alternatively, you may know an associate who has been through the process and is willing to assist you. Working with such individuals may ensure timely renewal of your registration and no downtime in your franchise marketing program.

3. Take the New UFOC Guidelines Seriously. The regulators and their enforcement personnel have been instructed to apply the new guidelines rigorously. Because the franchising industry is presently under scrutiny by Congress and numerous state legislatures the regulators are unlikely to provide much leeway to franchisors. Not only do they have the ability to shut down your franchising program, but even criminal sanctions are possible for flagrant violations. And franchisees may use non-compliance with the guidelines in a ‘private right of action’ to sue for rescission of their franchise agreement plus damages.

CRA offers a copy of the new UFOC Guidelines and a reprint explaining in greater detail the changes that have taken place and what they mean for restaurant operators. For a copy, please contact the Publication Department at 800/794-4CRA.

David M. Griffith is a real estate and business attorney with offices in Long Beach. For more information please contact 310/983-8017.