On January 1, 2023, a new policy went into effect that will apply to franchisors that use franchise questionnaires as part of their franchise sales process. The North American Securities Administrators Association (“NASAA”) policy places limitations on the FDD questionnaire. In addition, a California franchise law went into effect on January 1, 2023, related to the FDD questionnaire, and additional changes will affect the franchisee selection, termination, and transfer process. As a result of these changes, franchisors will no longer be able to use the current form of FDD questionnaire in the states that adopt and apply the NASAA Policy (generally speaking, the registration states), and additional rules apply in California. Below, we review the changes under the new NASAA Policy and the changes to California law.

When NASAA issues franchise guidance, state regulatory agencies then decide whether to adopt and apply this guidance when reviewing and registering FDDs. In response, state examiners have indicated that they will universally follow this new guidance.

New NASAA Policy

The new NASAA Policy states that franchisors cannot require prospective franchisees to acknowledge or answer questions that are subjective, unreasonable, or that simply repeat disclosures required to be stated in the FDD. It also requires a new legend to clarify that FDD questionnaires and acknowledgments do not waive franchisee’s claims under any applicable state franchise law. Additionally, if your franchise system uses any type of verbal questionnaire when speaking with a prospective franchisee, the NASAA Policy provides that there must be a script of that questionnaire included as an exhibit to the FDD.

The NASAA Policy identifies multiple prohibited questions, and the practical result is that most of the questions contained in your current FDD questionnaire are no longer permitted. Specific prohibitions include:

1. Any questions relating to whether the franchisee understands the documents or any disclosure or term within the agreement.
2. Limits about statements made during the sales process.
3. Related questions, such as whether all waiting periods were observed, may be approved by examiners that adopt the policy.

Impact of NASAA Policy

Moving forward, the FDD questionnaire would be limited to simple questions that don’t relate to any disclosure obligations, the sales process, or the contents of the FDD. This will render questionnaires, for all intents and purposes, much less helpful to protect you in the sales process.
While the NASAA Policy is effective January 1, 2023, franchisors are not required to modify their FDD questionnaire until they are instructed to do so by a state examiner, so changes will likely not be needed until your next state application is submitted. However, if you are not a 12/31 Fiscal Year End (meaning your FDD is not in the majority that is renewed in April) it’s possible this could occur sooner and create the need to file amendments.

To avoid unnecessary comment letters and permit delays, a strategy needs to be formulated to determine whether to include any form of questionnaire in your FDD and where that FDD should be used. Because NASAA policy is not implemented outside of the registration states, we should work together to consider whether you should maintain a registration state-specific FDD so that you can maintain your current FDD questionnaire in non-registration states. While maintaining multiple FDDs can create administrative issues, we can discuss and determine whether the advantages of using a standard questionnaire in non-registration states outweigh these challenges.

Also, until your new FDD is issued for 2023, we and you will need to formulate a plan for sales pending in registration states. Before providing a franchisee in a registration state with your FDD or requiring an existing prospect to sign a questionnaire you should consult our firm to determine if an amendment is needed under state law.

National Sales Impacts

The questionnaire was designed to protect you in a few critical ways. Many of the questions were designed to have the franchisee confirm that there were not certain types of sales violations. Should a franchisee try to argue that sales violations had occurred, the questionnaire was used as a shield by the franchisor (and us) as a first line of defense. For example, if a franchisee claims that a salesperson made improper financial performance representations there was a specific question designed to be answered where they acknowledged that no such statements were made. Also, it was designed to flag a potential legal issue or violation you might have been unaware of had you not asked these questions before closing a sale, allowing you to address these issues up front. This means it’s more important than ever that your sales process is thoroughly documented and your salespeople are properly trained.

• If you are working with a franchise broker or outside franchise sales team, they should be aware of these changes. Because franchisors are ultimately liable for the conduct of sales brokers, we urge you to ask them what new steps and procedures they are implementing to protect the integrity of the sales process. If you have concerns please contact us.

• If you or your team is handling franchise sales internally, it’s even more important that you understand the rules and regulations for franchise sales. These are complicated – even for the experienced salesperson. We are here to help answer any questions that you might have.

New California Law

California has made changes to the California Franchise Investment Law. The California changes include a similar prohibition against waivers by a franchisee which will apply to FDD questionnaires. The NASAA Policy will also apply in California during any future registrations, but as their prohibitions have been signed into law, language in your current FDD will be treated as unenforceable for any deals signed after January 1, 2023. Note, however, that California’s lead state examiner indicated she will not initiate any enforcement actions or require post-effective amendments so changes to the FDD questionnaires can wait until an upcoming renewal.

Other changes to California law such as new prohibitions against offsetting amounts due to a franchisee against amounts owed to your franchise system, and additional obligations relating to franchise transfers also went into effect on January 1, 2023. Under the new law, franchisors are prohibited from the following:

• Offsetting amounts owed to a franchisee on termination or non-renewal unless the franchisee has agreed to the amount, or has obtained a final adjudication for that amount. For example, if you repurchase salable inventory or physical assets, you cannot discount the purchase price by amounts owed to you by the franchisee without either permission of the franchisee or a final judgment permitting the sale.

• Discriminating against franchisees based on sex, race, color, religion, ancestry, national origin, disability, medical condition, genetic information, marital status, sexual orientation, citizenship, primary language, or immigration status, relating to either the franchisee/prospective franchisee or to the population that makes up the neighborhood or geographic area where the franchise is, or would be located; and

• Making modifications to franchise agreements or requiring a general release in exchange for any assistance related to a state or federal emergency.

The following additional obligations have also been placed on franchisors with respect to transfers occurring after January 1, 2023:

• The franchisor must make any form or document required of a prospective franchisee to submit with a transfer application “reasonably available”, or otherwise provide that form or document by email, courier, or certified mail to a prospective franchisee within fifteen calendar days of receiving a written request;
• The franchisor must make its standards for approval of a transfer application “reasonably available”, or otherwise communicate those standards to a prospective franchisee within fifteen calendar days of receiving a written request;
• A franchisor must notify a prospective transferee of its approval or rejection of a transfer application in writing by email, courier, or certified mail within sixty days of receiving a transfer application; and
• If a franchisor rejects a transfer application, it must notify the prospective transferee in writing and include the reasons for the rejection. The reasonableness of any rejection will be a “question of fact requiring consideration of all relevant circumstances.”

Next Steps

Every year there are new laws and regulations concerning franchises. If you have any questions about these changes for 2023 please contact us. If you’ve read this far, congratulations!