Key takeaways
- 01Start by matching the concept to your goals, your role in the business, and a capital budget that includes working capital and a reserve.
- 02Read FDD Items 1 to 4, 5 to 7, 11, 12, 17, 19, 20, and 21 closely, since they carry most of the evaluation.
- 03Call current and former franchisees from the Item 20 lists, not only the references the franchisor suggests.
- 04Build your own unit economics model with a CPA from cost structure questions, without relying on income claims outside Item 19.
- 05Use the full 14 day review period and have a franchise attorney and CPA review the FDD and agreement before you sign.
Knowing how to evaluate a franchise is the difference between choosing a system and being chosen by its sales process. Every franchise offering is presented through the franchisor's Franchise Disclosure Document, and the FTC Franchise Rule gives you at least 14 calendar days with that document before you sign or pay. That window is enough to do real work if you know what to look at. This guide walks through the evaluation in order: whether the concept fits your goals and capital, which FDD items to read closely, how to run validation calls with franchisees, what to ask about unit economics, how to judge the territory and the franchisor's capacity, and when to bring in a franchise attorney and a CPA.
Does the franchise fit your goals and capital?
Start with yourself, not the brand. Write down what you want the business to do for you: whether you plan to operate it day to day or hire a manager, how many hours you expect to work, whether you want one location or several, and how long you intend to own it. A concept that requires an owner on site every day is a poor fit for someone planning a semi absentee model, regardless of how well the brand performs.
Then set your capital limits. Item 7 of the FDD estimates the initial investment range, and the franchisor will have minimum net worth and liquidity requirements. Your own number should include the initial investment, working capital through the period before the business supports itself, and a reserve for things going slower than planned. If you will finance part of the purchase, talk to lenders early so you know what equity they will expect. A franchise that requires every dollar you have leaves no room for an ordinary setback.
Which FDD items matter most?
The FDD has 23 items. All of them are worth reading, but some carry more of the evaluation than others. Our guide to the Franchise Disclosure Document covers each item. For evaluation, focus on these groups:
| FDD items | What they cover | What to look for |
|---|---|---|
| Items 1 to 4 | The franchisor, its parents and affiliates, the management team's business experience, litigation, and bankruptcy | How long the franchisor has franchised this concept, the leadership's actual franchise experience, and any pattern in litigation with franchisees |
| Items 5 to 7 | Initial fees, ongoing fees, and the estimated initial investment | Every recurring fee, how fees can change, and whether the Item 7 range matches what you learn from franchisees |
| Item 11 | Franchisor assistance, training, site selection, technology, and advertising | What the franchisor must do before and after opening, the training length and location, and how the marketing fund is used |
| Item 12 | Territory | Whether you receive any protected territory and what the franchisor and other franchisees may do inside it |
| Item 17 | Renewal, termination, transfer, and dispute resolution | Term length, renewal conditions, what counts as default, how you can sell later, and where disputes are resolved |
| Item 19 | Financial performance representations, if any | Whether the franchisor makes one, what it measures, and which locations are included |
| Item 20 | Outlet data and franchisee lists | Openings, transfers, terminations, nonrenewals, and closures over three years, plus contacts for current and former franchisees |
| Item 21 | Franchisor financial statements | Whether the franchisor can fund its support obligations, and how dependent it is on selling new franchises |
Item 19 is optional. If a franchisor includes financial performance information, read every note about which locations it covers and how the figures were calculated. If it does not, the franchisor and its salespeople should not give you performance figures outside the FDD. Our post on Item 19 explains what the item allows.
How do you run validation calls with franchisees?
Item 20 lists current franchisees and franchisees who left the system during the most recent fiscal year, with contact information. Those lists are the most useful research tool you have. Call widely, not only the names the franchisor suggests, and include former franchisees. Call franchisees who opened recently and franchisees who have operated for years, because their experiences answer different questions.
Questions that tend to produce useful answers:
- 01How long did it take from signing to opening, and what caused delays?
- 02How close was your actual initial investment to the Item 7 estimate, and where did it differ?
- 03How long did it take before the business covered its own operating costs?
- 04What does the franchisor's support look like in practice after opening, and who do you call when something goes wrong?
- 05How well did initial training prepare you to run the business?
- 06How is the marketing fund spent, and do you see the effect locally?
- 07What do you wish you had known before signing?
- 08Knowing what you know now, would you sign again?
Former franchisees deserve specific questions: why they left, whether they sold, closed, or were terminated, and how the franchisor handled the exit. One unhappy former owner is a data point. A consistent theme across several calls is a finding.
What should you ask about unit economics?
You are trying to build your own model, not obtain a promise. Franchisees may choose to share their own results with you, and that is their decision. The franchisor may only provide financial performance information through Item 19. Focus your questions on the structure of the business rather than on what anyone earns:
- What are the largest cost categories, such as labor, rent, cost of goods, and royalties and fees, and how do they behave as sales grow?
- How many staff does a location need, and how hard is hiring in your market?
- What seasonality does the business have?
- What required purchases come from the franchisor or designated suppliers, and how are those prices set?
- What capital spending comes after opening, such as remodels, equipment replacement, or technology upgrades?
Build the model with your CPA using conservative assumptions, then test it against what franchisees describe. If the model only works with optimistic inputs, treat that as an answer.
How should you evaluate the territory?
Read Item 12 and the franchise agreement together. Some systems grant a protected territory defined by geography or population. Others grant no protection, or protection that depends on meeting sales or development targets. Look at what the franchisor reserves for itself, which often includes online sales, sales through other channels, and locations in nontraditional venues such as airports or stadiums.
Then look at the territory on a map. Ask the franchisor how it was drawn, how many customers it contains, and where the nearest other locations are. Ask existing franchisees whether territory conflicts have come up and how the franchisor resolved them.
Can the franchisor support you and stay solvent?
A franchise is a long relationship, and the franchisor has to be able to deliver what Item 11 describes for the full term. Compare the size of the support team with the number of units open and the number sold but not yet open. A small team with a large pipeline of unopened units may struggle to support new owners.
Item 21 shows whether the franchisor is profitable, how much cash it holds, and how much of its revenue comes from initial franchise fees versus royalties. A franchisor that depends heavily on selling new franchises to fund operations is in a different position from one supported by royalties from an established base. Ask your CPA to read the statements with you. Check whether any state has imposed fee deferral or escrow conditions, which can indicate an examiner's view of the franchisor's capitalization.
What is the 14 day rule?
Under the FTC Franchise Rule, the franchisor must give you its FDD at least 14 calendar days before you sign a binding agreement or pay any money to the franchisor or its affiliates. If the franchisor makes unilateral and material changes to the standard agreement, it must provide the final agreement at least seven calendar days before you sign. Some states add their own requirements. Use the full period, and do not let a sales deadline or a claimed limited availability of territories shorten your review.
Who should review the franchise before you sign?
A franchise attorney should review the FDD and the franchise agreement before you sign. The agreement is the contract you will live under, and an attorney can identify terms that are unusual for the industry, explain what a state addendum changes, and tell you whether any provisions can be negotiated. A CPA should review Item 7, Item 21, any Item 19 information, and your own financial model. Their fees are small next to the size of the commitment.
A note on how franchise consultants are paid. Franchise consultants are commonly compensated by franchisors when a buyer they introduce signs a franchise agreement. Ask any consultant, including Forge in its franchise buyer service, how they are paid before you weigh a recommendation. Every franchise is offered only through that franchisor's FDD, and your decision should rest on the FDD, your validation calls, and the advice of your own attorney and CPA. If you are weighing a franchise against an independent business, our page on how to buy a business covers that path.