Do First Generation Franchisees in a Franchise System Get the Shaft from Franchisors?

On numerous occasion former franchisees of variousrules are ridiculous, too cumbersome and a slap in the
franchise system have complained that as theface to the right of citizens and the right to free
franchisor grew the rules changed and eventuallycontract, and to the point of misleading information, well
forced them out of business - is this a commonthat is yet another result of the over regulation and
occurrence? Well, some believe it is and several haveinsanity of the UFOC format.
emailed me about this problem as I am a co-author ofSome believe that some franchisors like the format
Franchising 101, the premier book for those consideringcharts for Item # 20 that allows them to hide negative
on buying a franchise and wishing to learn the ropes.information, yet I know of no one who has ever said
One of these former franchisees, I replied in an emailanything good about it (franchisor, franchising attorney
to recently:or franchisee) and thus, I often recommend the book
I see you seem to be upset with the first generation of"Tips and Traps" for folks who wonder about Item
"franchisees" in a new system. I have generally found#20. One angry former franchisee stated that Item #
that the newest franchisees of a new system either20:
get the red carpet or they are forced out later,It gives the Government deniability because they don't
because the franchisor is able to get more money forreally know what the transfer columns are indicating in
territories sold too cheap or too large.terms of success or failure of the franchise that is
It is unfortunate if indeed a franchisor has forgottenbeing regulated, and they don't want to know.
from hence he came. I can remember first starting outI think most consumers and franchise investors give
in business and running my small business for over athe regulators too much credit. SPAM went up 3000%
decade, which was nearly identical to the franchisedsince the FTC took over that task, Identity Theft is out
units we later sold. Still, the former franchise who feltof control and what do they do, harass the little guy
slighted by their franchisor stated:and make things tougher. Indeed, the biggest purveyor
I know, as a former franchisor, that you defendof American's personal identity is the government and
franchise failure as a failure of the franchisee and notthey give away the most information, now they will be
a failure of the franchised business plan.giving databases to foreign governments under the
Well the fact is that I am not obligated to defendauspice of anti-terrorist information.
anyone, actually, I was for a long time theThus it appears to at least this Franchise Consultant
anti-franchisor, franchisor actually. What I am sayingthat if the consumer is looking to government to
here is that it is not so black and white. I have hadprotect them, and thus believing that they can skip
franchisees from hell, I have had to sell franchises tosome of their own checking and due diligence that
people I did not want to, because of laws in franchisingthey are in for less than they bargained for. Buyer
and then been screwed over by franchisees notbeware, well that's my best advice and it comes from
paying royalties, changing the name of their businessa heck of a lot of experience, there is no substitute for
and continuing, when we lost money setting them updue diligence let me tell you.
and they cheated me. So, that is another thing thatNext in this ongoing debate and saga is the issues of
happens, over time you are less lose in the dealchurning, and how some franchisors who call it
making and a little harsher to prevent being takenre-selling have used this as a franchise system
advantage of.management tool to eliminate first generation
The former franchise then asserted that the franchisefranchisees in order to make money selling them again
failure rates and the information is hidden from viewand tightening the controls of the franchise system, as
and even the SBA does not come clean on theit grows. As a franchise consultant and studier of the
problem. He stated:industry for years, I admit there is a "Re-selling" or the
The SBA uses the Loan Default Rate on Franchisesnot so nice term churning strategy going on in
on the SBA Registry to prepare Risk Profiles and youFranchising today.
can't dispute that the failure rate of first-generationMany attorneys at the ABA forum (which I scan daily
franchisees, if many, does indicate that there isand for the past 5-6 years) are concerned about
something wrong with the plan.these issues also. Indeed not long ago a few were
I do not dispute anything, I tend to agree, although thetrying to figure out what that guy in Las Vegas is
franchisors that are very big, rarely, if ever share theirdoing, he seems to be the outsourcing churning king.
economies of scale with their franchisees, they overSure, this helps franchise systems and it is completely
charge them for supplies and work to squeeze profitslegal, but what about the franchisees who are churned
out of their signed up captured audience. Yet theand counted as transfers instead of failures, having
larger franchisors get carte blanche with regulators,lost all their money and nearly gone into bankruptcy
literally. This can be problematic in my observation andand barely got out by the skin on their teeth in order to
first hand experience, thus I am not amused and fearsave their credit or prevent a larger debt as they
that someone somewhere named Adam Smith didleave?
indeed warn us all of some of the problems withAs good as this new lady is at the FTC, Deborah, a
government regulators who cozy up to one business,President Bush appointment, she has no clue as to the
against another.blatant incompetence of the FTC in the Franchising
I have found that there is something wrong with everyRealm (my opinion, I have plenty of documentation, if
business plan, even the ones I have created. You see,anyone is interested to back up my comment). Many
planning is about change and adapting so you mustformer franchisees and franchise rights advocates in
change with the flow, but over regulation prevents that,Online Franchising Forums and Blogs state there are
this is why Schlotsky's Deli got caught with their pantsnumber of large Corporate franchises that do a
down with the Atkins and South Beach Diets were allsignificant amount of churning.
the rage, belly up along with Krispy, that got Kremed.They name names like MBE - UPS Store, Quiznos,
Franchising does best when the government stays outSubway and 100s of others and state they are hiding
of the way and allows free-enterprise to work. Thinkall the failures and bankruptcies in the "Transfer
on this.Column" of the UFOC in Item # 20. I have seen it too,
Some say that in the UFOC - Uniform Franchisenot necessarily with those particular companies, I have
Offering Circular that is required to be given to newnot checked, but I have seen this scenario too many
franchise buyers that in Item # 20 franchisor are abletimes to mention, thus I realize it is an issue.
to hide franchise failures as transfers. These criticsIn fact these comments appear to be spot on with
state that regulators allow this musical chair game andregards to Large Corporate Franchisors and Susan
it impedes the franchise buyers knowledge of the trueKezios, President of "Women in Franchising" and "The
success rate and hides their failed business plans.Franchisee Association" in Chicago told me the same
Therefore all the original founding franchisees, whichthing. It seems rather than addressing this issue at the
may have failed or been sacrificed for growthFTC, since it is fully legal, the regulators will go after
strategies in some cases are not recorded as havingcompanies they think will not fight back or that are
failed, even if they transferred in a "fire sale" typeslightly outside the protection of the Industry and much
situation.smaller and bury them in court paper work. To me it
Of course, once the franchisor is up and running withseems outrageous and disgusting, but I did not make
100s of franchisees the Business Plan, system andthe law.
such is completely different and changed. The originalOnce, I sat in on an MBE franchise seminar once to
founding franchisees generally have lots of othersee what they do, I felt bad for those investing in such
advantages too. Although you are correct about thefranchises, indeed, I felt sick to my stomach, many
original franchisees. The franchisor is busy trying tolarge franchisor put on what appears to be more of a
make it work and balance while trying to comply withdog and pony show in franchise sales seminars. Some
all the insanity, rules, the changes and modificationsformer franchisees say that the SBA helps hide the
needed for regional variation and dealing with newrisks in modern day franchising. In my opinion this is a
things that they are not use to. Franchising is a lothalf correct statement. Other critics say that the
different than running company owned units, it isFranchising Industry is subsidized by government, again,
unbelievable the transition.in observation that is also hard to argue.
Critics remind folks like me on this side of the debateYou know this goes way back to when all the gas
that under the 1970's Franchise Rule, the FTC was tostations were selling to foreigners after the fall of the
protect franchisees by requiring franchisors to discloseShaw of Iran. Folks came to the US and wanted to
information to allow the franchise buyer relevant datastart a business and many would buy gas stations
to make an informed investment decision andbecause the understood that Oil and Fuel = Wealth.
ascertain the risk.Then these immigrants who came with down
Indeed this is the actual history of franchising law andpayment monies, business skills would buy a fuel
the FTC perhaps, but those laws have grown andstation franchise. When they were not making money
now you see the 250 + pages of disclosureas fuel re-sellers and franchisee gas station owners,
documents that are needed to comply, which in thethen they would sell the non-performing business to
end serve no real purpose. Imagine the barriers toanother immigrant.
entry for new franchisees $45,000 to produceOften this went on and on, churning, sometimes over
documents, $25,000 per year to stay registered in the5-6 sales. Yes, all SBA loans the price was 60% over
registration states, $30,000 minimum for audits.its value - hello taxpayer on the last loan that defaulted.
Meaning a new franchisor has to pass those onto theI thought that was unfortunate, but when you talk
new franchisees. Pretty unfair, especially as a newabout subsidy, are at least partially correct, probably
franchisor has a tough time getting going, after all whomore than they even realize, as most folks are not
would buy a franchise if there are none already? Thusvery aware of this issue, which is water under the
the franchisor has to make deals, cannot be toobridge now.
choosy and this is the basis for most of the originalMost of those buying a franchise borrow money in
franchisee failures, but remember the over regulation isorder to attain the American Dream of owning their
a factor hurting the franchisor.own business. They are not gambling in the stock
One recent knowledgeable franchising critic to thesemarket as one critic of franchising stated, nor are they
issues and a former franchisee, who felt slighted by hisusing discretionary funds to buy the business. They are
franchisor, stated that the columns in Item # 20 of thelooking for self-employment as an answer.
UFOC are severely misleading. He pointed out that theI concur with these critics actually. In fact, this is what
transfer columns in Item #20 were a solution to theevery single franchise buyer told me, and they were
dilemma of ambiguous information in the disclosureserious, most I sent away, as our franchise is hard
document, but all this has done is allow for manipulationwork and lots physical work and as labor got tight.
of franchisee failures that are then hidden from theApparently, this is why we have franchise laws to
franchisee buyer.protect the investing consumer, but these franchise
Yes, this does occur, whether by design or necessitylaws are not serving anyone, not the consumer or the
or dodging the truth in disclosure and since it is legal, itfranchisor therefore both are hurt in the end with
appears that it is done more often than it ought too.bureaucracy, over regulation and huge legal fees. Since
Nevertheless, we are talking a legal technicality, but iffranchising is a win/win, no one is well served. It is time
we ditch this all together then the franchisee buyerto de-regulate the franchising industry, and get
would still not know. The entire UFOC and the newgovernment out of the way.