Prospective franchisees think reading an franchise disclosure document, FDD, is hard.
They are wrong - not reading and losing your life savings is hard. This article is about how to read and understand Item 5 disclosures - what happens when you pay your franchise fee. What you get for paying the initial fee.
Before I tell you why I think that the Taco John's franchise disclosure of Item 5 is so admirable, I want to tell a different story, a contrasting picture.
(The following story is a parody, no lawyers were harmed in its production.)
You walk into your business lawyer's office. You want him to review your FDD. He has a new associate, who beckons you forth.
You move forward, and notice another new wrinkle - a VISA machine smack on top of the associate’s desk. The associate apologetically explains that due to the economy all clients are on a pay before you go plan.
Fortunately, there is now a fixed fee schedule and you are relieved to see that the associate only charges $800 for a review of the FDD.
You hand over your FDD, sign the standard retainer agreement, and shell out $800 on your VISA debit card.
The associate confirms the transaction, ruffles through the FDD, and smiles at you expectantly.
This isn't going well, you think. So you venture, "Well what did you think?"
"The FDD", you persist. "The Franchise Contract."
"Oh that. "It is the standard franchise agreement." He then drones on something about France, the Singer Sewing Machine and something about a Lanham Act.
You really aren't interested and wish the associate would begin earning the retainer.
Abruptly, the monologue ends, but now the associate seems to have dozed off.
You want to shake him or worse. But, you resort only to pounding the desk with your shoe.
The associate snaps to attention, looks around, fixates upon the classic timepiece on his desks and blurts: “Times up, next. Agreement is terminated.”
“But, you haven’t done anything!”, you protest.
“Fulfilled the terms of the contract as per the standard retainer clause, paragraph 42.”, says the associate as you are ushered out the door.
Paragraph 42, you wonder? So you flip open the retainer agreement –you just signed without reading. You get out your magnifying glass and read:
"You will pay us $800.00 for a FDD agreement review, the Retainer Contract.
Your contract is likely to contain several contingencies that will allow you, your attorney to terminate your Retainer Contract if such contingencies are not met.
The types of contingencies that may be included in Retainer contract are, by example:
· obtaining appropriate approval;
· obtaining adequate financing;
· receiving 3 acceptable bids for your Retainer contract, and:
· obtaining required municipal licenses.
If a contingency is not met as described above and your Retainer Contract is terminated, we will not refund any of the payments you have already made to us.
And, we reserve the right to determine in our sole and unreasonable discretion whether the contingency is met or not.
These payments will have been fully earned by the Attorney as a result of our lost and deferred opportunity costs, corporate expenses, and all efforts performed on your behalf before the termination of your Retainer Agreement.
We will, however, assist you in your efforts to locate another attorney and fully support your efforts to acquire another Franchise Disclosure Document review.”
So, you are now out $800 because you failed to understand the significance of a deeply convoluted legal clause buried deep within your retainer agreement.
Even if it was marked in red, bold print, and had the notation "Here is a VERY DANGERGOUS CLAUSE", its significance would not have been apparent until you were "terminated".
(The above story is a parody, no lawyers were harmed in its production.)
Could things get any worse for you?
No, things are going to get better for you because your FDD is written with admirable clarity, and lays out exactly when and what happens to your franchise fee.
Your FDD might be written as well as the Taco John's 2012 FDD:
"If you terminate the Franchise Agreement any time before all persons required to complete initial training have been certified by us, or if we terminate the Franchise Agreement because of your (or your owner’s or manager’s) failure to meet our initial training requirements (see Items 6, 11 and 17 of this Disclosure Document), we will refund the Initial Franchise Fee less the actual expenses we incur due to your acquisition of the Franchise, but we will not retain more than 30% of the Initial Franchise Fee to cover our expenses."
This is terrifically clear. If you want to bail out, it will cost you 30% of your franchisee fee at most. If they want you to bail out, it will cost them 70% of what what you have paid them.
There are no tricks to this clause, and the attorney who drafted it should be congratulated. So should the franchisor who has explained with clarity and transperancy the risks of not completing the intial training. More importantly, there are no gotcha's in this clause - no unforeseen conditional contingencies which may rob you of your initial franchisee fee.
Review the item 5 disclosure. It should read more like Taco John's item 5, and not at all like your lawyer's paragraph 42.