The infamous FDD
Every item in the Franchise Disclosure Document, or FDD is essential in evaluating an opportunity. Most of my clients, however, zero in on item 19 “Financial Performance Representations. They want to know how much money they can make. Essential of course, but its an incomplete picture. If the item 19 depicts the average franchisee earning 15% margins, the prospect may feel confident to proceed in his decision. However, these numbers mean very little should the franchise itself be stagnant or declining. So. How do you tell?
You take a deep look at the overlooked but critically important item 20. Item 20 is a systemwide outlet summary. This information is provided primarily to give you a numerical breakdown of locations and growth or regression trends.
Several tables are detailed here and each table includes three years of data. Table One is a summary of System Wide Outlets. Table Two is Transfers of Outlets from Franchisees to New Owners (other than the Franchisor). Table Three provides information on the Status of Franchised Outlets. Table Four provides information on the Status of Company-Owned Outlets. Table Five is a table of Projected New Franchised Outlets. So what does this all mean?
From this vital information we will ascertain many things. The most critical 4:
New units of course depict how many new franchises opened in a given year. You are looking here for year over year steady growth. If this number is declining or erratic investigate further.
Attrition shows how many franchises left the system. In a healthy franchise the attrition should be nominal. Why are they closing and not selling? You definitely want to call all of those that closed their doors rather than sell to a new owner.
The Continuity rate of a franchisor refers to the number of units open during a period of time which remain continually operating. If there are a high number of closures or non-renewals with a system there is definitely an issue. A high continuity rate is evidence of strong support systems. If you would like to learn more about determining the continuity rate connect with me at firstname.lastname@example.org
And finally Churn. Again we want to see resales, not terminations. Churning is when the franchisor takes back a failing unit (usually with no restitution to the franchisee) and sells it again. This is a powerful red-flag. Pay attention to this.
For assistance in analyzing item 20 in an FDD, contact me at Holly@zarianfirm.com