CFC CFC Franchise Due Diligence & Disclosure Documents 2

Question 1

What does 'churning' mean in the context of franchise due diligence?

Accepted Answer

A franchisor repeatedly terminating and reselling the same franchise location to collect multiple fees

Answer

Churning occurs when a franchisor terminates a franchisee's agreement and resells the same location to a new buyer, generating repeated franchise fees from a single territory.

Question 2

Which metric, found by analyzing Item 20 of the FDD, is a key indicator of franchise system health?

Accepted Answer

Franchisee turnover rate (closures + transfers relative to total units)

Answer

Analyzing the ratio of closures, terminations, and transfers to total units in Item 20 reveals the franchisee turnover rate, a critical health indicator for the system.

Question 3

What is the significance of a 'state registration' requirement for franchise sales?

Accepted Answer

About 15 states require franchisors to register their FDD with the state before offering franchises there

Answer

Approximately 13–15 states (registration states) require franchisors to register their FDD with state regulators and receive approval before selling franchises within their borders.

Question 4

When reviewing a franchise agreement, what does 'right of first refusal' typically mean?

Accepted Answer

The franchisor's right to purchase the franchisee's business before it can be sold to a third party

Answer

Right of first refusal gives the franchisor the option to match any bona fide third-party offer and purchase the franchisee's business before the franchisee can sell to that outside buyer.

Question 5

What is the purpose of reviewing a franchisor's audited financials (Item 21) during due diligence?

Accepted Answer

To assess the franchisor's financial stability and ability to support the franchise system long-term

Answer

Reviewing the franchisor's audited financial statements allows a prospective franchisee to evaluate whether the franchisor is financially solvent and capable of delivering ongoing support and services.

CFC - Certified Franchise Consultant Practice Test

CFC - Certified Franchise Consultant Practice Test

CFC CFC Franchise Due Diligence & Disclosure Documents 2