Consider the Risks When Investing In A Franchise

There are many ways to go into business for yourself, but many people choose to purchase a franchise.

Whether it's a restaurant, an automotive service or a real estate company, there's a franchise for just about any type of business. They offer brand recognition, training, equipment and other benefits.

But all those benefits come at a price, and in the case of some franchise operations, it can be steep. In Maryland, Attorney General Douglas Gansler is cautioning investors to be mindful of the risks and the realities of franchising. 

Maryland's Securities Division has issued an advisory for potential franchisees to alert them to important considerations, including pitfalls, before investing in a franchise.

Do your homework

"If you are thinking of investing in a franchise, educate yourself before you buy in," Gansler said.  "Even if you have researched the franchisor and spoken with a number of successful franchisees, you need to protect yourself should your venture not take off as planned."

Franchise operators will tell you that purchasing a franchise will increase your chances of success, helping you to stand out. But keep in mind that not all franchises work the same way, and having a franchise is not a guarantee that your business will make it.  

"The first step before investing money in any security or business venture is to do your homework," said Maryland Securities Commissioner Melanie Senter Lubin.  "For franchise investors, this means, at a minimum, reviewing the franchise disclosure document and getting in touch with current and former franchisees.  You should be very skeptical if earnings for existing franchises are not disclosed and if experienced franchisees are unhappy or unreachable."

Hire a lawyer

If you're going to invest in a franchise, it's a good idea to retain legal counsel to help you understand the terms and conditions of the franchise agreement, which is drafted by the franchisor's attorney and almost always gives the franchisor the advantage.

Potential pitfalls for franchisees include no automatic right to renew the franchise after an initial term, liability for "future royalties" should the franchisee terminate the agreement early and requirements that disputes with the franchisor be resolved in the state where the franchisor is located, which may be inconvenient and expensive.

Several states, including Maryland, regulate the sale of franchises to provide greater protections to prospective franchisees and prevent fraud in the sale of franchise offerings.  Lubin recommends that prospective investors in Maryland contact the Securities Division to make sure the franchisor is registered and has not been the subject of franchisee complaints.