The Federal Trade Commission announced Friday multiple actions to discourage “unfair and deceptive” practices by franchising organizations.
The FTC released new guidance mandating that franchisors cannot collect fees that were not previously disclosed. Federal officials have heard from franchisees about increasing payment processing and technology fees as well as surprise training, marketing, and property improvement fees that weren’t clearly stated by the franchisor. The FTC called these “undisclosed junk fees,” or expenses that inflate costs and may make a difference in profitability and loss.
Another move includes a policy statement emphasizing the illegality of contractual language that prevents franchisees from talking to the government. The FTC stated it’s been concerned for several years about current and former operators being reluctant to file reports or speak with officials about their experiences with certain franchisees. The Commission has heard franchisees fear retribution for speaking out, even when doing so anonymously.
“Franchising is a chance for Americans to build a business, but the FTC has heard concerns about how unfair franchisor practices, like a failure to fully disclose fees upfront, go unreported thanks to a fear of retaliation,” FTC chair Lina M. Khan said in a statement. “Today the Commission is making clear that contractual terms prohibiting franchisees from reporting potential law violations to the government are unfair, unenforceable, and illegal.”
Additionally, the FTC released a “Franchise Issue Spotlight” that provides an in-depth analysis of concerns surrounding the franchise business model and focuses on issues raised in academic literature, responses to a Request for Information issued by the FTC in March 2023, and ongoing efforts.
Here were the top concerns raised by franchisees:
Unilateral changes to franchise operating manuals: Franchisees expressed frustration over franchisors making unilateral changes to operating manuals, effectively altering the franchise agreement terms and adding new costs or requirements.
Franchisor misrepresentations and deception: Instances of franchisors providing misleading information or making deceptive claims.
Fees and royalties: High fees and royalties, including undisclosed or “surprise” fees, were a significant concern, often impacting franchisee profitability.
Franchise supply restrictions and vendor kickbacks: Franchisees reported issues with being forced to buy supplies from specific vendors at inflated prices. These often involved kickbacks to franchisors.
Actual and feared retaliation: Concerns about retaliation from franchisors for participating in independent franchisee associations or reporting misconduct were prevalent.
Non-competes and no-poach clauses: Restrictions on franchisees’ ability to work or operate similar businesses were a concern.
Franchise renewal problems: Difficulties and unfair practices related to renewing franchise agreements were noted.
Franchisor refusal to negotiate contract terms: Franchisees reported that franchise agreements were often presented as non-negotiable, which created an imbalance of power.
FDD issues: Inadequacies and misleading information in FDDs.
Private equity takeovers: The impact of private equity ownership on franchise operations, which frequently leads to cost-cutting measures that hurt franchisees.
Marketing fund transparency: Lack of transparency in how marketing funds collected from franchisees were used.
Liquidated damages clauses and early termination fees: Franchisees felt trapped by high liquidated damages and early termination fees, which makes it difficult to exit unprofitable franchises.
Keith Miller, principal at Franchisee Advocacy Consulting, described the measures as a “monumental step toward better franchising practices.” He noted that even though franchising is a favorable business model with many reputable brands, there has been a lack of oversight that has allowed some to exploit it. Miller also stated that franchisors imposing undisclosed fees in the FDD undermine the document’s purpose. The unexpected costs hurt franchisee margins, particularly during inflationary periods. Although they appear small, Miller said these fees can amount to millions and hurt operators and customers.
“I applaud the hard work of the FTC. Today’s announcement marks a significant step towards protecting franchisees, the primary investors in franchising,” Miller said in a statement.
However, International Franchise Association president and CEO Matthew Haller was critical of the announcement. He said franchising supports the American Dream of business ownership and that most franchise relationships are successful and growing, but he expressed concern that the FTC’s actions might restrict innovation and harm franchisees.
Haller urged the FTC to adopt IFA’s 2024 Responsible Franchising policy recommendations, which aim to enhance transparency and clarify obligations in franchise agreements. The IFA has been advocating for these recommendations since the FTC’s March 2023 Request for Information and stressing the need for commonsense updates rather than broad changes. In May, the IFA released a series of policy recommendations developed by a working group of franchisors, franchisees, and suppliers to provide better transparency in the pre-sale process.
“The FTC’s actions today are contrary to the reality that the vast majority of franchise relationships are working and that franchising continues to grow each year,” Haller said in a statement. “We have long supported greater transparency and visibility in the franchise sales process. … The FTC’s guidance today regarding fee disclosure in franchise agreements stands to unnecessarily restrict franchisors’ ability to innovate and evolve their system, damaging the equity of franchisees for whom these FTC actions are purportedly taken. IFA will continue to work with the FTC to improve the model for all parties involved and the customers they serve.”
