Thoroughly examining key sections of the Franchise Disclosure Document—including litigation history, financial representations, unit turnover rates, franchisee contacts, detailed cost breakdowns, and operational restrictions—provides essential insights beyond marketing materials to make an informed franchise investment decision.
- Begin with Item 3 (Litigation) to assess the franchisor's legal history. Multiple lawsuits from franchisees often indicate systemic problems, while excessive litigation against franchisees may suggest an overly controlling franchisor.
- Next, scrutinize Item 19 (Financial Performance Representations), which provides the only legally permitted earnings claims—though importantly, franchisors aren't required to include this section at all. If present, analyze whether the figures represent averages or medians, include expense information, and what percentage of locations achieve these results.
- Item 20 (Outlets and Franchisee Information) reveals growth patterns and turnover rates. Calculate the turnover percentage by dividing terminated/transferred units by the total number of units. Anything exceeding 10% annually warrants investigation. This section also lists current and former franchisees—your most valuable resource. Contact at least 10-15 current franchisees across different tenure lengths and geographic regions, plus several former franchisees to understand why they left the system.
- Item 7 (Estimated Initial Investment) deserves line-by-line scrutiny. Note the wide ranges provided for many expenses and assume your costs will trend toward the higher estimates. Item 6 (Other Fees) catalogs ongoing expenses beyond the widely discussed royalty fees, including technology fees, renewal charges, and transfer costs that impact long-term profitability.
- Items 8 and 9 (Restrictions on Sources of Products/Services and Franchisee Obligations) reveal how tightly controlled your business operations will be. Excessive restrictions may limit your ability to adapt to local market conditions or reduce costs through alternative suppliers.
Finally, have an experienced franchise attorney review the actual franchise agreement in Item 22, as this binding legal document often contains provisions more restrictive than the sales discussions implied.
