Item 19 otherwise known as a Financial Performance Representation (FPR) is a representation made on a Franchise Disclosure Document (FDD) which includes disclosures regarding the profitability of a business, how long it takes to ramp up the business, and whether the business is sustainable. Of course, the answers to these questions vary depending on the location of the specific franchise, the health of the economy and other factors that change from franchise location to franchise location.
Item 19 disclosures are the disclosures that potential franchisees rely on the most when deciding whether to open a franchise. Thus, a franchisor needs to be careful to not make any overly robust financial presentations or promises. To begin with, a franchisor is not required to provide an answer to the most important question, “how much money can I make?”. However, if a franchisor does provide data on financial stability, they must have a reasonable basis for each of their representations.
What is the Responsibility of the Franchisor?
The franchisor is not required to provide an answer to the most important question: “how much money can I make?” However, if a franchisor does provide disclosures regarding the financial stability and financial performance of franchisees, they must have been made with a reasonable basis for the representations. A reasonable basis could be from data of other franchisees, or of similar franchises in the same industry. What is “reasonable” will be determined by courts on a case-by-case basis.
Can a Franchisee sue a Franchisor?
If the financial representations and cost projections were not made with a reasonable basis for the amounts, then the franchisee can sue for misrepresentation in Item 19.
In one Maryland case, a doctor purchased and opened an urgent medical care center franchise I in Missouri. The doctor sued the franchisor alleging violations of Franchise Law for active misrepresentation and intentional failure to disclose material facts.
In that case, in Item 19 the franchisor represented to the doctor that the franchise would open with and sustain an average per-patient revenue of $125, with 45 patients per day. However, the Doctor showed evidence that all the franchisees’ average per-patient revenues fell far below $100. Further, he showed that even the best-performing franchisee only had an average of 27 patients per day.
The franchisor also represented that the initial investment would cost between approximately $460,000 to $600,000 to start the business. However, the doctor alleged that the initial investment was more than $1 million.
Even though there were disclaimers stating that these representations were estimates and the costs would vary from business to business, the court said that the doctor could pursue his claims for misrepresentation and intentional failure to disclose material facts as there did not seem to be a reasonable basis for the representations.