Informal Staff Advisory Opinion 99-6

This staff advisory opinion is issued in response to your request for our views on the extent to which business consultants may be obligated to furnish prospective franchisees with disclosure documents under the Franchise Rule.

I. INTRODUCTION

In your letter, you state that your firm represents several franchisors. Some of these franchisors have signed contracts with independent business consultants or broker networks ("consultant")(1), under which the consultant is paid either a flat fee or a commission in the event the consultant refers a person who ultimately purchases a franchise to the franchisor. You further state that the contract prohibits the consultant from furnishing prospective franchisees with any earnings claims. Rather, the consultant may provide brochures and sales information about the franchisor, as well as copies of franchise disclosure documents.

Consultants typically market their services to the public by representing that they provide assistance in finding businesses for sale. A consultant generally interviews a prospect, asking about the prospect's interests and the assets he or she has available to invest, among other things. Based upon the answers to these and other questions, the consultant may suggest several franchises tailored to the prospect's interests and give the prospect a copy of the franchisor's brochure. The consultant then typically suggests that the prospect contact the franchisor directly. Quite often, the consultant assists the prospect in completing the franchisor's application form (which includes the prospect's financial information) and sends it to the franchisor. After submitting an application, a prospect then deals with the franchisor and its staff directly. The franchisor provides the prospect with a disclosure document prior to any personal meeting with any of its employees. If the prospect does, in fact, purchase a franchise, the franchisor pays the consultant the pre-arranged fee.

You now ask whether the consultant's activities, as described in your letter, require the consultant to give the prospective franchisee a disclosure document (or Uniform Franchise Offering Circular) at the time the consultant suggests that a prospect may be interested in a particular franchise.

II. BROKERS ARE LIABLE FOR FAILING TO FURNISHING DISCLOSURE DOCUMENTS TO PROSPECTIVE FRANCHISEES

We begin our analysis with the text of the Franchise Rule. 16 C.F.R. Part 436. Section 436.1 makes clear that both franchisors and franchisor brokers are responsible for furnishing complete and accurate disclosure documents to prospective franchisees in the time frame required by the Rule. Id. at § 436.1. The Franchise Rule defines the term "franchise broker" to mean "any person other than a franchisor or a franchisee who sells, offers for sale, or arranges for the sale of a franchise." Id. at § 436.2(j). Accordingly, any person who engages in such conduct will be considered a franchise broker under the Rule, regardless of what the person may call him or herself.

Further, the original rulemaking record indicates that the Commission included franchise brokers within the Rule in order to impose disclosure obligations not merely on the franchisor, but also on independent brokers deriving commissions or other significant consideration from franchise sales. For example, in the Statement of Basis and Purpose accompanying the Rule, the Commission found that: "[t]he public record clearly indicates that franchisees who purchase franchises from franchise brokers or promoters need protection as much as those who purchase from the franchisor itself." 43 Fed. Reg. 59614, 59717 (December 21, 1978). Similarly, citing from the rulemaking record, the Commission noted that the activities of "overzealous independent commission agencies" and "sales companies who specialize in merchandising several franchises" were causing considerable harm to purchasers. Id. & notes 176 and 178 ("Given that such persons act on behalf of the franchisor, and receive their commissions from the franchisor only if a sale is made, the Commission has placed them within the ambit of the rule.").

III. BUSINESS CONSULTANTS MAY BE BROKERS UNDER THE RULE

There is little doubt that a consultant who either offers or sells a franchise directly to a prospective franchisee or otherwise arranges for the sale of a franchise, and who receives commissions from the franchisor for the franchise sale, will be covered by the Rule's disclosure obligations as a "franchise broker." Although the consultants apparently do not sign franchise agreements on behalf of the franchisor, they do "arrange" for the sale of the franchise by discussing the prospects' specific business interests, recommending specific franchise options, and even in some instances assisting prospects in completing the franchisor's application form. More important, the consultants have signed contracts with the franchisor and are paid by the franchisor for their efforts. This clearly indicates that both the consultants and franchisors consider the consultants' role in prescreening prospects an important part of the overall franchise sales process.

IV. A BROKER'S OBLIGATION TO FURNISH DISCLOSURE DOCUMENTS

The next step in our analysis is to determine when a franchise broker has an obligation to furnish disclosure documents to a prospect. Franchisors and franchise brokers are obligated to furnish disclosures at the earlier of the "time for making of disclosures" or the first "personal meeting." The "time for making of disclosures" means 10 business days before the prospect signs a binding agreement or pays a fee in connection with the franchise sale. 16 C.F.R. § 436.2(g). The term "personal meeting," in turn, is defined as "a face-to-face meeting between a franchisor or franchise broker . . . and a prospective franchisee which is held for the purpose of discussing the sale or possible sale of a franchise." Id. at § 436.2(o). There can be no question that the consultant and the prospect have a personal meeting. The question is whether the meeting held between the consultant and prospect, as described in your letter, constitutes the first personal meeting for purposes of the Rule.

In the Interpretive Guides to the Rule the Commission elaborated upon the term first personal meeting, as follows:

Even where a face to face meeting occurs, it is not necessarily a "first" personal meeting. In interpreting this term, the Commission will consider such factors as whether the franchisor clearly indicated at the outset of the discussion that it was not prepared to discuss the possible sale of a franchise at that time, whether the meeting was initiated by the prospective franchisee rather than the franchisor, whether the meeting was limited to a brief and generalized discussion and whether earnings claims are made.

44 Fed. Reg. 49966, 49970 (August 24, 1979).

At the same time, the Commission made clear in the Statement of Basis and Purpose that prescreening of prospects may constitute a first personal meeting:

The Commission cannot accept the "distinction" made by several franchisors that such initial personal meetings as those involving group discussions of franchising led by franchisor salesmen, or review and discussion of franchise "interest questionnaires," are not meetings involving the "possible sale" of a franchise. . . . The term "prospective franchisee," is defined as including any person who approaches, or is approached by, a franchisor or its agent or representative "for the purpose of discussing the establishment, or possible establishment, of a franchise relationship involving such a person." The rule therefore seeks to protect all such persons from the commission of unfair and deceptive trade practices by the franchisor through timely disclosure."

43 Fed. Reg. at 59713, n.138.

Accordingly, we conclude that a face-to-face meeting in which any independent consultant or other sales agent of the franchisor prescreens prospects for the possible sale of a franchise constitutes a "first personal meeting" under the Rule. Moreover, our conclusion is bolstered by your observation that the consultants not only prescreen, but often assist the prospect in completing the application form, which includes their financial information. Thus, the consultants have an economic incentive to promote franchise sales and engage in the possible sale of specific franchise systems through prescreening, recommending individual franchise systems, informing the prospect how to contact the franchisor, and assisting the prospect in completing the necessary sales application form.(2) This is sufficient to constitute a "first" personal meeting under the Rule. Accordingly, we would expect the consultant to furnish the prospect with a copy of the franchisor's disclosure document at that time.

V. STATUTORY EXEMPTIONS

Finally, your letter seeks a statutory exemption from the Franchise Rule on behalf of consultants if we determine that consultants have an obligation to furnish prospects with disclosures during the first personal meeting. We take no position on this issue. However, we note that such an exemption cannot be granted by staff through an informal staff advisory opinion. If you or your clients believe that consultants qualify for an exemption, the proper course of action is to file a petition with the Commission for an exemption under Section 18(g) of the FTC Act. 15 U.S.C. 18(g).

Please be advised that our opinion is based on all the information furnished in your request. This opinion applies only to your client and to the extent that actual company practices conform to the material submitted for review. Please be advised further that the views expressed in this letter are those of the FTC staff. They have not been reviewed, approved, or adopted by the Commission, and they are not binding upon the Commission. However, they do reflect the opinions of the staff members charged with enforcement of the Franchise Rule.

Date: July 2, 1999 Franchise Rule Staff

1. The consultants described in your letter are not employees of the franchisor. They are typically independent businesses that have contracts with several franchisors, and they may represent non-franchised businesses for sale as well.

2. In your letter, you state that the consultant will not make any earnings claims to prospects. As noted above, however, the making or earnings claims is only one factor the Commission will examine in determining whether a meeting constitutes a "first personal meeting." We also note that you state that the consultants may provide brochures and other sales materials to the prospects. It is possible that these sales materials might also contain earnings representations. Moreover, based upon our law enforcement experience, we know that sales representatives who have an economic incentive to promote franchise sales may provide earnings information to prospects despite any restrictions placed on them by the franchisor. Thus, in determining whether earnings claims are made to prospects at a meeting, we will examine the actual representations made at the meeting on a case-by-case basis, not just the franchisor's statements that it does not authorize the making of any earnings claims.