What is a Franchise Scam?
A franchise scam is like any scam planned by a con-artist who makes promises of delivering a certain product or service, yet fails to do so after already securing an amount of money that you will never be able to recover. A scamming franchisor, therefore, will attempt to sell you a franchise opportunity, take a “deposit,” make you wait months – even years to build your business, but is never heard from again.
On the other hand, the same situation can occur when a weak franchise system, perhaps a start-up franchise, takes your deposit yet manages to fall into bankruptcy prior to building and launching your franchise. This is not a scam, but is commonly mistaken as one. One can chock it up to bad timing or simply a bad investment.
Detecting a Franchise Scam
In your quest for that perfect franchise opportunity, you should be aware of some red flags that may signal a scam. You should weigh these against the criteria on your franchise assessment checklist. If they don’t appear on this list, and the list keeps growing, you may be find yourself walking down scammer’s lane.
The Franchisor Runs the Business from a Home Office: If the franchisor has a number of franchises in operation yet continues to run the “head office” from home, you should ask why this set-up is in place and ask for the address. The franchisor should not refuse and you should arrange a door visit to verify.
The Franchisor Has Yet to Open the First Location: If the franchisor has sold a number of locations yet is still months away from establishing the first “franchised” location, request the list of franchisees and ask for the name and contact information of the inaugural franchisee. A wait longer than eighteen months to build a franchise is not a good sign.
No UFOC or Franchise Agreement: A company is not a franchise system if it does not present you with a UFOC at least ten days prior to you signing the franchise agreement. A franchise agreement is not binding without the UFOC. If you are told that a UFOC is forthcoming following the signing of the franchise agreement, walk away.
A Deposit Request That Matches the Franchise Fee: A deposit against the franchise fee should not be more than 20% of the franchise fee. The request of a deposit is quite common in most large-scale systems, but when the deposit becomes the entire franchise fee, this is a sign of a scam waiting to happen.
Initial Franchisees are Family Members: For start-up franchise systems that only have a few locations, beware of these franchisees having any relation to the franchisor. There may actually not be any binding agreements in place; rather; these individuals act as decoys fronting a potential scam.
Foreign-Based Headquarters: It is not unusual for foreign franchisors to start selling franchises overseas, but it’s important to take notice on how that selling process takes place. A foreign franchisor will likely sell master franchising rights to someone in your country to act as their foreign representative. Never attempt to buy a foreign franchise directly from such a franchisor.
With any franchise opportunity, you must do your due diligence. Ask many questions and never turn off your scam radar, especially if the franchise system is new, has yet to join any accredited business associations, or does not give you the impression of legitimacy when compare with other, more established systems.
