Litigation ratio
Divide court cases by franchise units. The Love Law Firm suggests steering clear if the ratio is over 2 percent, and describes a 5 percent ratio as a brand you likely would not want to be associated with.
Due diligence
How to evaluate a franchise opportunity
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Evaluate a franchise opportunity by reading its Franchise Disclosure Document, checking its litigation and unit history, and calling current and former owners.
What should I look for when evaluating a franchise?
Look for a franchisor with a low litigation ratio, steady unit growth, sound audited financials, clear territory rights, and owners who say they would buy again. Franchise Fit Guide recommends checking each of these in the FDD before you attend a discovery day or discuss financing.
The FDD items that matter most
The Franchise Disclosure Document has 23 items. These are the ones first-time owners should read most closely, along with what each one tells you.
| FDD item | What it covers | What to check |
|---|---|---|
| Item 3 | Litigation | Ratio of lawsuits to units; patterns of franchisee disputes |
| Item 5 and 6 | Initial and ongoing fees | Franchise fee, royalties, marketing and technology fees |
| Item 7 | Estimated initial investment | Full range, including additional working capital |
| Item 12 | Territory | Whether you get protected territory and how it is defined |
| Item 19 | Financial performance representations | Whether provided, and what sample it covers |
| Item 20 | Outlets and franchisee information | Openings, closings, transfers, and owner contact lists |
| Item 21 | Financial statements | Audited franchisor financial health |
Three published tests to apply
Earnings disclosure
Item 19 is optional, but the Love Law Firm says nearly 60 percent of the industry now provides one, and the Florida SBDC at USF puts it at about 60 percent. Note whether a brand is in that group.
Additional capital
The Love Law Firm says franchisors ideally allocate around 10 percent of the initial investment to the additional capital estimate. A figure far below that may understate your real ramp-up needs.
Questions to ask current and former franchisees
Item 20 lists current owners and those who left the system in the last year. Call several of each. Their experience is the closest thing you will get to a preview of your own.
- How long did it take before the business paid you a salary?
- Was the Item 7 investment estimate accurate for you?
- How good were initial training and ongoing support, really?
- What does a typical week look like for you as the owner?
- How does the franchisor respond when something goes wrong?
- Knowing what you know now, would you buy this franchise again?
Questions to ask the franchisor
Ask how the franchisor supports new owners in the first year, what makes its most successful franchisees different, how territories are assigned, what happens at renewal, and how transfers or exits work. Ask about growth trends: how many units opened and closed recently, and why. Compare the answers with what owners told you.
A franchise consultant can help you organize this research. FranNet consultants provide a structured approach to researching the franchise options they present, so you compare brands consistently rather than one sales pitch at a time.
New here? Start with the full guide on how to choose the right franchise.
Common questions
What is a Franchise Disclosure Document?
The FDD is a legal document franchisors must give prospective buyers in the United States before a sale. It has 23 items covering fees, initial investment, litigation, bankruptcy, territory, obligations, financial performance claims, outlets opened and closed, and audited financial statements. Read it in full and have an attorney review it.
How do I judge a franchisor’s litigation history?
Compare the number of lawsuits to the number of franchise units. The Love Law Firm offers a rule of thumb: steer clear if court cases exceed 2 percent of franchises, and it describes a 5 percent ratio as a brand you likely would not want to join. Item 3 of the FDD lists litigation.
What is Item 19 and why does it matter?
Item 19 is the section of the FDD where a franchisor may share financial performance representations, such as average unit sales. It is optional. The Love Law Firm says nearly 60 percent of the industry now provides one. If a brand omits it, rely on conversations with current owners and your own conservative projections.
What should I ask current franchise owners?
Ask how long it took to break even, whether the initial investment estimate was accurate, how good training and support really are, what a typical week looks like, and whether they would buy again. Call former owners too; Item 20 of the FDD lists them. Their answers often reveal more than any brochure.
What are red flags when evaluating a franchise?
Red flags include pressure to sign quickly, earnings promises made outside Item 19, a high litigation ratio, many units closing or transferring in Item 20, unaudited or weak franchisor financials, and current owners who are reluctant to talk. Slow down and get professional advice if you see any of these.
What is the failure rate of franchises?
There is no single official franchise failure rate, but SBA loan data is one useful signal. MMCG found a 9.4 percent charge-off rate across resolved franchise-flagged SBA 7(a) loans from fiscal 2010 to 2019, with wide differences by category, from 2.6 percent in child care to 11.7 percent in auto repair.
Ready to talk through your options?
A FranNet consultant can review your goals, skills, investment range, and location with you and present franchise options that fit. The consultation is free to you, and FranNet consultants do not sell franchises.