All franchisors and their legal counsel focus on the annual Franchise Disclosure Document update that must be completed within 120 days of the franchisor's fiscal year end. Typically, everyone is relieved that the project is done for the year. However, franchisors have an ongoing legal obligation under both federal and state franchise laws to amend the FDD during the year if a material change has occurred.
The FTC disclosure rule provides that the franchisor must, within a reasonable time after the close of each quarter of the fiscal year, prepare revisions to the FDD to reflect any material change to the disclosures include in the FDD. If no material change has occurred, the franchisor continues to use the FDD that was issued after the fiscal year end.
What is a "material change"? The FTC did not include a definition of "material change" in the Rule. However the 2007 Statement of Basis and Purpose in which the FTC provides commentary on disclosure obligations notes that the FTC considers a representation, omission or practice to be material if it is likely to affect consumers' conduct or decisions about a purchase. Therefore, whether a change is material is determined by the viewpoint of the reasonable prospective franchisee.
State franchise laws also require amendments to the FDD and, in most cases, amendments to the state registrations, when a material change to information in the FDD disclosures occurs. Various state laws and regulations address how "material" is defined, and in some cases, provide examples. Under the Illinois Franchise Disclosure Act, a change is material if there is a substantial likelihood that a reasonable prospective purchase would consider it significant in making a decision to purchase or not purchase the franchise. A few examples of what is deemed material under state franchise regulations include: termination of more than 10% of the franchises in a quarter, changes in control of the franchisor entity or in franchisor's management, litigation filed against the franchisor, and adverse changes in the financial condition of the franchisor. If the franchisor wants to implement a change in fees charged during the year, an amendment is required.
Under state franchise laws, the time frame within which a franchisor must file an amendment application after the occurrence of a material change ranges from "promptly" to before the next sale, 30 days, or 30 days following the close of the next quarter.
Decisions about whether a change in disclosure information is material may often be a judgment call and dependent upon the circumstances. Franchisor's management should make their legal counsel aware of changes as they occur so that the issue may be discussed and a decision made about whether an amendment to the FDD is required. If an amendment is necessary, it is best practice to issue the amended FDD and amend state registrations as quickly as possible so that prospective franchisees can have the benefit of this updated information before making a decision to purchase a franchise.