Since the introduction of the CPA, every franchisor is legally obliged to issue serious prospects with a disclosure document and grant a cooling-off period. This should go a long way towards protecting those who are over-eager to get started from making a life-changing decision they may come to regret.
It is no exaggeration to say that the disclosure document is the prospective franchisee’s new best friend. It provides all the information needed to assess the franchise opportunity, warts and all. It follows that the decision to join a franchise brand will be based on facts rather than marketing hype.
FASA recognised the need for a disclosure document early on. Unfortunately, this organisation’s appeal to members to provide a disclosure document met with mixed success. Those who had nothing to hide complied willingly, others were less diligent. To tighten up on this vital requirement, FASA made it a condition of membership in 1994. The only problem was that FASA could not enforce the requirement. In any event, not every franchisor was a member of FASA, leaving a large portion of prospective franchisees open to misrepresentation and even fraud.
The introduction of the CPA put a stop to this. Whilst originally, having a disclosure document was a requirement imposed on franchisors who wanted FASA membership, non-members were unaffected and FASA’s ability to impose sanctions for non-compliance by members was limited to termination of membership. Now, making a disclosure document available to qualified franchise prospects and their professional advisors has become a legal obligation.
The Regulations to the CPA are fairly specific regarding the minimum information the disclosure document must contain. For example, the franchisor is obliged to:
- Disclose the total number of franchised outlets in operation, the number of outlets franchised during the preceding year, turnover growth and net profit.
- Provide a statement to the effect that the franchisor company’s financial status has not changed significantly since the date the most recent financial reports were drawn up by the franchisor’s accounting officer.
- State that there are reasonable grounds to believe that it will be able to meet its financial obligations arising over the foreseeable future as they fall due.
- Provide written projections stating the level of potential sales, income, gross or net profits for the franchised business. Alternatively, figures achieved by similar existing franchises of the network may be given but this must be disclosed, with full particulars of assumptions made.
- Attach a certificate written on the official letterhead of the franchisor company’s accounting officer whereby the accounting officer certifies that:
- The business is a going concern.
- To the best of his/her knowledge the franchisor is able to meet its current and contingent liabilities.
- The franchisor’s audited financial statements have been drawn up in accordance with accounting standards that are generally accepted in South Africa and reflect fairly the financial position of the franchisor for the period covered.
- A complete list of current franchisees with full contact details and a statement to the effect that the prospect is entitled to contact any existing franchisee to assess the accuracy of the information contained in the disclosure document.
- An organogram showing the franchisee support system that is in place within the franchisor’s operation.
Other Important Considerations
The CPA states that a qualified prospect must receive a disclosure document at least 14 days prior to the signing of a franchise agreement. This requirement should effectively put paid to the ‘sign now, regret later’ approach to entering into a franchise agreement.
Given the confidential nature of the information the disclosure document contains, franchisors are concerned that this information could fall into the wrong hands. This is understandable but not addressed by the CPA or the Regulations. However, legal practitioners believe that franchisors are entitled to demand the signing of a Secrecy Undertaking or similar document prior to handing over the disclosure document. Signing such a document must not obligate the prospect to anything beyond treating the information they are about to receive in the strictest confidence, and not using it for any purpose beyond assessing the viability of the specific opportunity. L
The Act and you
The CPA imposes an obligation on franchisors to make full disclosure of salient facts and grant prospects sufficient time to assess the viability of their offer. These are two very important steps towards ensuring ethical dealings in franchising. In this context, it is noteworthy that FASA’s disclosure requirements are stronger than the CPA’s minimum requirements. This means that prospects about to join a brand that is a FASA member enjoy double protection. The CPA ensures that the disclosure document provides specified minimum information and FASA’s Code of Ethics adds additional protection.
Mark Rose is the Head of New Business Development at Nedbank Business Banking. He holds a Masters in Business Administration (MBA) from the Oxford Brooks University, as well as various business qualifications from the Gordon Institute of Business Science (GIBS), the University of Stellenbosch Graduate School of Business, and the University of South Africa Graduate School of Business.