Adopting NASAA Standard of Franchise Names and Definitions

Last September the North American Securities Administrators Association’s (NASAA) released their multi-unit commentary whose goal is “to provide practical guidance for disclosing certain multi-unit franchising arrangements that have become common in franchising but that are not specifically addressed under NASAA’s 2008 Franchise Registration and Disclosure Guidelines or the Federal Trade Commission’s (“FTC’s”) Franchise Rule.”

The commentary addresses specific disclosure questions brought to their attention by franchise attorneys, their Industry Advisory Committee as well as various state examiners. They concluded that a more uniform approach to disclosing multi-unit franchising arrangements would benefit prospective franchise investors, franchisors, state franchise administrators, and the franchise industry in general.

In a nutshell, the NASAA commentary describes 3 multi-unit franchising structures. These structures are not mutually exclusive; that is, a franchisor may use just 1 structure or may use a combination of 2 or 3 structures. There are no universally accepted terms for these structures within the franchise industry. The terms used to describe the structures in different franchise systems, and in different laws and regulations, vary widely. The commentary adopts 3 terms that are commonly used. However, the principles discussed in this Commentary apply to each structure, regardless of the terms are used by any particular franchisor.

NASAA recommends that franchisors use the terms adopted in this Commentary. They mention that “use of these terms will facilitate review of Franchise Disclosure Documents by state franchise administrators. If a franchisor uses terms different from those adopted, the Project Group recommends that the franchisor identify in cover letters sent to state franchise administrators how the terms the franchisor uses correlate to the terms adopted in this Commentary.”

In line with their announcement, FRANdata has formally adopted NASAA’s names and definitions of franchise programs as part of how we categorize and define certain franchise terms in our database. While not a law firm, FRANdata has a unique view of the practical aspects of this initiative. Because we collect FDDs from every franchise operating in the US every year (more than 40,000 documents in our library and counting), we see how franchisors organize and present the documents.  We struggle constantly to make sense of the information provided and inconsistent labelling of franchise programs is a major challenge.

Transparency of information is a major characteristic that franchisees need to look for in their franchisors. It’s not enough to meet the letter of the law when creating FDDs, franchisors should make sure the information they disclose is easy to understand and useful to their prospective buyers.

Besides franchisees and state regulatory groups, the lending community also requires a franchisor to properly show their information. One of the reasons why the lenders asked us to create our Bank Credit Report product is that the FDD does not provide them with enough useful information in order to underwrite loans. Standardizing definitions is a step in the right direction.

Finally franchisors will help themselves by adopting some basic standards. “When franchisors ask us to benchmark their performance against their peers, it’s important that we all agree on the types of franchising programs being used and their relative historical results,” said Edith Wiseman, President of FRANdata. “Franchisors use single-unit franchising, multi-unit franchising, area representatives, sub-franchising, master franchisees, licensing and other growth channels. It is crucial that we are able to do apples-to-apples comparisons when gauging the relative success of their efforts.”

Based on the NASAA guidelines for definitions, FRANdata is now using the following common definitions to classify offerings:

• Unit (Unit) – The usual offering of a single franchise unit.

• Area Developer (AD) – The right to open and operate multiple units within a designated geographic area. FDDs may also use such terms as multi-unit, area franchisee, or regional developer.

• Area Representative (AR)—The right to recruit third parties as unit franchisees, and/or provide support to third parties entering into unit agreements. The AR may or may not have their own unit.  FDDs may also use such terms as regional developer, area developer, or development agent.  NASAA has mandated that separate FDDs be created for franchisors offering area representative agreements.

• Sub-franchisor (Sub)—Grants unit franchises to third parties with a designated territory. Third parties signing the unit agreements are sub-franchisees.  FDDs may also use such terms as area franchisor, master franchisee, or regional franchisor.  (We use the term “Master” for such offerings outside the U.S.)

Related Links: http://www.nasaa.org/industry-resources/corporation-finance/franchise-resources/