| Licensing, Technology Transfers, |
At the risk of repeating myself, we live today in
a world of high risk small business investment opportunities.
The hoards of potential investors with access to
over $ 500,000, coming out of downsizing companies and merger resulting
reductions of work forces, have brought sharp practitioners to the small
business opportunities field. These phony franchise opportunities masquerade as
real business prospects, using the same descriptors as the legitimate franchise
opportunities. They claim to be proven concepts; to have name recognition; to
have buying power; to be able to reduce start up expenses; to have site location
expertise; and numerous other advantages that a legitimate franchisor might use
to describe what it is offering.
The potential franchisees that attend franchise
expos and fairs have no capability to sift out the scams from the real deals.
Many of them find it hard to believe that someone would stand there and tell you
to your face bald face lies they know not to be true. More of them find it even
harder to believe that these companies would actually put the misrepresentations
in print in the marketing and sales brochures and Franchise Disclosure Documents
they hand out.
The contracts they give you to sign recite
specifically that they did not say the things to you that were false and
misleading, and, moreover, that if anything was said to you that was out of
order, you agree that you did not rely on it in making your investment decision.
Some courts will actually enforce these contract provisions. The rationale is
that if something was stated to you that you agree was not said to you, and that
you agree that you did not rely upon, you cannot later claim such statements to
have been fraudulent inducements that caused you to invest in the bad franchise.
The epidemic has reached such enormous
proportions that the new FTC Franchise Rule adopted this year prohibits the
enforcement of those exculpatory acknowledgements.
That Rule does not, however, provide any reliable
investment protection. The reason for this is that when you have parted with
your total initial investment of upwards of $ 350,000 or more, and are on the
hook for a ten year lease and to repay a large SBA business loan, and have
personally guaranteed the performance of the franchise agreement (as they all
now require), and have agreed to pay upwards of $ 100,000 to the franchisor as
liquidated damages if you fail (which they all now also require), you have no
resources left to pay for expensive litigation when you realize you were
defrauded and are just plain broke. You are looking at bankruptcy as your only
avenue of escape.
Thousands of victims of these scams are strewn
across the landscape of franchising, many of them appearing daily on
www.BlueMauMau.org lamenting what happened to them and furious that the
government does not have any apparatus whatsoever to prevent franchise fraud and
franchisee abuse through opportunistic enforcement of draconian franchise
agreement provisions. Among the most vocal of them are the franchisees of the
Quiznos sandwich system who claim and are in litigation over the allegations
that Quiznos requires them to buy everything from vendors that pay Quiznos
commissions on the sales, making the prices for everything so noncompetitively
expensive as to preclude any possibility of profit. Moreover, so every sandwich
franchisee complains, price competition has so lowered their sandwich sales
prices that they are squeezed dry and find it impossible to make any profit. The
UPS franchisees claim in their litigation that they are going broke due to
overcharges by UPS. The fitness franchisees claim that they were lied to about
the ability of the fitness franchise concept to succeed, and those franchisees
are up for resale by the hundreds all over the country. The Cuppy”s Coffee
franchisees who claim that substantial deposits were required of them, only to
find out that they were not going to be franchisees and that the deposits were
claimed by the franchisor’s affiliated company to be not refundable.
In this particular instance, the dishonest
franchisor was awarded a fair franchise contract seal of approval by the AAFD, a
phony association of franchisee groups that claims to be a “leader” in the
battle for franchisee rights. When these useless associations present fairness
awards to scoundrels, who then tout the award as evidence of their investment
worthiness, you get the smell of what franchising is really like today.
The horror stories go on and on across the
franchising landscape. The franchise sales people never tell you about these
nightmares. You find out that you have been fleeced only after it is too late to
extricate yourself from the investment trap. Your calling franchisees on the
list of franchisees given to you to ask them about their experiences as
franchisees of any given franchise company do not yield the input you expect.
Existing franchisees won’t give out the bad news, because they believe you are
an agent of the franchisor trying to find out who is badmouthing the company.
They also don’t want to say things that might make it harder for them to sell
their bad franchises to some other poor guy so that he can take the financial
lumps. They won’t say good things either, more and more these days, because some
of them have been sued claiming that they were part of the fraudulent franchise
sales scheme.
While that isn’t so in every instance, it is so
with sufficient frequency that the value of the list of franchisees to call as a
due diligence quality control facility has been completely compromised. It is
simply no longer a reliable indicator of the quality of the franchise
relationship in any franchise system.
You simply cannot sort out the risks by yourself.
You don’t know enough about the industry to spot the traps. A general business
lawyer without a great deal of experience in the franchise industries providing
due diligence for franchise investors is also not of competent quality to advise
on franchise investment opportunities. There are a few – a very few – franchise
lawyers who have sufficient knowledge about how everything works in franchising
to be of real use to you. You have to get on the Internet and find them. If you
don’t know how to go to a resource like Google or MSN.com or Yahoo.com and do a
search using the words “franchise lawyer”, you are not ready to invest in a
franchise. Even among the lawyers who do turn up on that search, you have to ask
them when you call them whether their practice focuses on pre investment due
diligence.
You have to budget for this assistance. Most
franchise due diligence specialists will offer a flexible fee structure to fit
what you want to accomplish. You can pay them to vet one deal at a time or a
larger flat fee to vet as many proposals as may interest you over a period of
six months or more. You need to count on devoting between $ 3,000 and $ 5,000 to
this resource by the time you are done. You should never assume that you will
end up buying the first franchise you bring to the lawyer for due diligence. The
usual pattern is that the first deal doesn’t work for you and that you will go
through three of four additional investment concepts before you find one that
fits. Hiring some lawyer to “read the contract” or “read the disclosure
documents” is useless. It’s cheap. But it won’t provide any insight into the
most serious business risks. Every failed franchisee hired some cheap lawyer to
“read the contract” When you add up what you are risking, you will appreciate
that a few hundred dollars for an incompetent review of documents by someone who
doesn’t know where else to look for what needs to be considered is really
stupid. You can’t afford that approach. But it’s your money and your decision.
Litigation and arbitration are not acceptable
ways to deal with the risks inherent in franchise investment fraud. Only killer
pre investment due diligence can serve to identify and reduce critical risks. If
you have read the other franchise fraud tutorial articles on this web site, you
will appreciate that this is not a safe investment environment.
Copyright 1997 - 2008 || Richard A. Solomon
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