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Financial Performance Representations in light of COVID-19
By Leonard Vines on June 23, 2020 at 11:00 AM

Although the full impact of COVID-19 remains unknown, many franchisors are looking to the future and new opportunities for franchise sales. Some franchises may be dramatically affected, either temporarily or permanently, and may have to significantly alter their business model to remain profitable. Others might actually benefit from the pandemic.

Under the Federal Trade Commission Franchise Rule and applicable state franchise laws, a franchisor may not make a Financial Performance Representation (FPR) unless it has a “reasonable basis” for the representation at the time it is made. This requirement raises the question of whether franchisors whose businesses have been materially and adversely impacted by COVID-19 should update their FPRs in Item 19 of their Franchise Disclosure Document (FDD) because their existing historical FPR may no longer provide prospective franchisees with an accurate idea of how locations in the franchise system perform.

The Federal Trade Commission has not commented on how or whether franchisors should revise their FPRs in light of the impact of COVID-19. However, the Franchise and Business Opportunities Project Group of the North American Securities Administrators Association (NASAA) just issued guidance for affected franchisors who make historical FPRs. The full text of the guidelines is at https://www.nasaa.org/wp-content/uploads/2020/06/FPRs-in-the-time-of-COVID-19.pdf.

This guidance has not been officially sanctioned, but it does provide valuable direction to franchisors as they update their FPRs in this challenging environment. For those who determine that changes to the franchise system or business model will have an impact on their FPR, the NASAA Project Group notes that the franchisor may no longer include a historical FPR that is not updated to reflect those changes and their impact on the FPR.

While recognizing that “it is impossible at this time to provide more specific guidance to franchisors about making a historical FPR in 2020 and beyond,” the NASAA Project Group recommends that franchisors consider the following factors:

(a) whether the franchise business has been significantly impacted by the COVID-19 pandemic;
(b) the type of data the franchisor includes in the FPR;
(c) the reasonable inferences a prospective franchisee can draw from the FPR;
(d) when the franchisor estimates a prospective franchisee can expect to open for business after entering into a franchise agreement;
(e) whether and how the franchisor adapts the franchise business to account for current market conditions resulting from the COVID-19 pandemic; and
(f) whether and how the franchisor adapts the franchise business to account for future market conditions resulting from the COVID-19 pandemic.

Franchisors who need to update their FPRs should work closely with their accountants and attorneys and recognize that changes will depend on the unique facts and particular circumstances of the franchise system.

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