David Farkas
I typically write about multi-unit franchisees, veterans and newcomers, who fill franchisors’ pipelines. They might be opening restaurants, oil-change centers, hair salons or music schools (see below). Yet I’m switching gears for a moment to tell you about two guys who monitor franchisors’ claims about their systems’ financial performance.
One of them, Joe Caruso, isn’t shy about controversy. He set off a testy debate on LinkedIn this summer by warning first-time franchisees not to sign a franchise agreement if the franchisor hasn’t made a financial performance representation (FPR) in its Franchise Disclosure Document (FDD).
Our paths crossed recently when the former Hardee’s executive posted an online comment elsewhere about a related topic: franchisor compliance—or rather the lack of it. Caruso’s radar goes up when he spots franchisors spouting off, especially in trade magazines, about their systems AUVs or EBITDA without proper documentation or context. (That’s average unit volumes and earnings before interest etc., for those who don’t do acronyms.)
He claims doing so violates the Federal Trade Commission’s "Franchise Rule" regarding financial representation. The 144-page document outlines what and how franchise sellers can say or publish about their business. You can find a related version—"Disclosure Requirements and Prohibitions Concerning Franchising"—on the Government Printing Office’s website.
Meanwhile Caruso and an associate, franchise attorney Michael Webster, have been posting articles warning ‘zees and ‘zors about these violations on the International Association of Franchisees and Dealers’ website. In July, for example, Webster wrote an article that compared a CEO’s claim regarding AUVs in a restaurant trade magazine with the AUVs in the franchisor’s FPR and noted the discrepancy.
Curious, I called the pair and asked if they thought flouting government disclosure rules was a growing trend among franchisors. "It’s a trend on the upswing," Caruso assured me, "at least in digital publications," as the publications "are trying to get more ad revenue."
Was he alleging that trade magazines are now spinning positive stories about franchisors if they buy advertising on their websites? "Now there’s not even that conversation," Webster said. The franchisors "write the editorial and make it look like other articles" written by staff. (For the record, Franchise Times does not solicit or accept articles from franchisors.)
He added the FTC has warned "large publications" to be clearer as to what they identify as news versus advertorial. It may be true, but I couldn’t find a specific rule that applied to online content among the stringent disclosure rules issued in 2009.
In his article, Webster accused the trade magazine of being complicit in the lapse because it did not charge the franchisor an advertising fee. Had it, the publisher would have been required to label the article as "advertorial," presumably diminishing its impact. Such reporting, he wrote, "is designed in the writers’ minds to paint the glossiest story that he or she can tell."
Caruso at least cuts trade magazines some slack: "I think franchisors are teasing reporters with juicy information about their business in hopes of having articles written and read by prospective buyers and have in there what they cannot publish themselves."
‘I love rock and roll’
Glenn Fleischman and Alan Goodstadt are successful businessmen, not professional musicians. Both claim to have had thriving careers in telecommunications and investment banking, respectively, before agreeing to franchise six Bach to Rock music schools in metro New York and Fairfield County, Connecticut.
Despite liking the business model and the chance to be the first franchisees of a young company, the 40-something partners insisted they were "diligent and cautious" before signing the agreement. They toured the six company Bach to Rocks (B2R, for short), all in suburban Washington, D.C., and with their lawyers carefully examined each franchise document.
Goodstadt added he was familiar with franchising (and the attendant risks), having done M&A work in the heavily franchised retail industry.
The FDD’s Item 19, incidentally, is relatively sparse. A chart titled "Comparative Metrics– 2011 & 2012" shows that combined EBITDA for five of the units climbed 12 percent, to $1.56 million last year. Sales per unit averaged $764,550 in 2012. The Bethesda, Maryland-based franchisor opened its first B2R in July 2007.
The partners requested changes. "It was important to be in a relationship where there’s the ability to change the status quo. If, for example, we identified a new opportunity or initiative that fit the model, new ideas could be put on the table for discussion," Fleischman added.
He and Goodstadt opened their first unit in January in Port Washington, New York, an affluent bedroom community on Long Island. The median household income is $116,000 and median price for a house is above $700,000, according to the Census Bureau. A second B2R may open later this year.
The partners, who funded the first unit themselves, are looking for equity partners to finance growth. The franchisor estimates the total investment for one unit ranges from $390,400 to $557,400.
Demographics are critical to B2R because no one needs to be schooled in music. Therefore high levels of wealth and education, along with a preponderance of school-aged children, have an impact on registration. Fees for lessons run about $168 a month.
"We’re looking for communities that put a value on the arts," Fleischman explained.
You can witness the artistic efforts of B2R students on the franchisor’s YouTube channel, where dozens of young performers strum guitars, sing, tickle the ivories and thrash about in battles of the bands. Their teachers, who often praise their students on the videos, are professional musicians, often between gigs or teaching before evening performances. Fleischman acknowledged the Port Washington school’s proximity to Manhattan (some 20 miles from Penn Station via the Long Island Railroad) gave the franchise a decided advantage when it comes to hiring teachers.
The partners, who do not teach classes, claim to be "passionate" amateur guitarists and music fans nonetheless. They jam, however, with other adults during fee-based jam sessions at the school.
"We are definitely into rock," Goodstadt declared. No reason to doubt him. His company’s website (amplifiedcapitalpartners.com) features the image of a stage with a drum kit and Marshall speakers.
David Farkas has covered the restaurant industry for 25 years as a reporter and food writer. Submit your company’s development agreements to him at [email protected].
