Franchising Terminology


Acknowledgement of Receipt – Included in the FDD, it is the last page that you sign and return. It provides proof of the date that you received the FDD.

Advertising Fee – An annual fee paid by the franchisee to the franchisor for corporate advertising expenditures; usually less than three percent of the franchisee’s annual sales and usually paid in addition to the royalty fee.  Not all franchisors charge advertising fees.

Advertising Fund – A continuing periodic payment to the franchisor that, like the royalty payment, can be a fixed amount or a percentage of gross sales.

Approved Advertising Materials – Materials provided by the franchisor for the franchisee’s use in their local market, or materials created by the franchisee, which the franchisor has approved for use.

Approved Products – Proprietary products that a franchisee must purchase from the franchisor.  Also, products that must be purchased from approved suppliers.  The goal is to achieve uniform quality assurance among all franchisees.

Area Development Franchise (a.k.a. Development Agreement, Master Franchise) – A type of multi-unit franchise, whereby franchise has no resale rights, but are rather are themselves directly responsible for meeting a mandatory development schedule for their given region.

Authorized Supplier – A supplier of products and/or services used in the operation of the franchise that has been approved by the franchisor to sell to franchisees.  May be the franchisor or an affiliate company.


Business Format Franchising – The franchisor licenses the franchisee to use the franchisor’s product, service and trademark.  The franchisor also teaches the franchisee the entire business format including marketing, selling, inventory, accounting and personnel procedures.  Furthermore, the franchisor provides support via training and communications for the duration of their business relationship.  Restaurants, retail and many service businesses are business format franchisors.


Company-owned Outlet – Some franchisors establish company-owned stores or offices that, in appearance, are identical to the franchised outlets.

Conversion Franchise – This is a franchise that permits existing businesses to join a national franchise system to use its recognized name and trademark and operating system.


Default – A failure to perform as required by a contract.

Demographics – A range of factors that may influence consumer behavior in a specific trade territory e.g. age, income, house prices, industry, socioeconomic conditions.

Designated Supplier – A supplier designated by the franchisor as the source for purchasing approved products.  The use of a designated supplier for certain products guarantees the franchisor that each franchisee is providing the same product to its customers.

Disclosure Document – All franchisor companies are required by the Federal Trade Commission (FTC) to provide this document to prospective franchisees to discuss the sale of the franchise and at least fourteen business days prior to the prospective franchisee signing a franchise agreement or paying the franchisor money to buy the franchise.  The document aids the prospective franchisee’s evaluation of the franchisor company.

Discovery Day – A discovery day is an event set up by the franchise company for potential franchisees.  This gives the interested buyer of the franchise the chance to meet face to face with the franchisor.  This event usually takes place at the franchisor’s main headquarters or in some cases, at an actual franchised location that is usually in the same town/city of the franchisor’s main office.  Some discovery days are very structured and will have many candidates in attendance while others will be on a one to one basis.

Dispute Resolution – Most franchise agreements written today include a provision for alternative dispute resolution methods because of the expense and delay involved in using the courts.  Like some marriages, not all franchise relationships are compatible and disagreements do occur on occasion.  The two most common methods of handling disputes are by arbitration and mediation.


Earnings Claims – Claims made by the franchisor as to the past performance of franchisees or to the potential financial performance of a franchisee.  If given, they must be disclosed in Item 19 of the FDD.

Estimated Initial Investment – A detailed listing of all fees and expenses you can expect to incur in starting your franchised business.  This listing represents the total amount that you would need to pay or get financing for, including fees paid to the franchisor; estimates for furniture; fixtures and equipment; opening inventory; real-estate costs; insurance inventory; etc.  This estimate should include a provision for working capital through the start-up phase.

Exclusive Territory – As a franchisee you can, with the consent of the franchisor, be given an exclusive area around your operation.  This area can be large or small and no other franchisee or company-owned business would be allowed to operate there.


FTC – Federal Trade Commission – The U.S. government agency that regulates franchising. Located in Washington , D.C.

Financial Performance Representation – Formerly known as an Earnings Claim, an FPR is the Item 19 representation of unit performance by a franchisor.

Franchise – An agreement, whether written or oral, for consideration, by which a person permits the distribution of goods or services under his trademark, service mark or trade name, during which time the grantor retains control over others or renders significant assistance to others.  (This definition is substantially that of the Federal Trade Commission).

Franchise Agreement – Sets forth the expectations and requirements of the franchisor. Describes the franchisor’s commitment to the franchisee. Includes information about territorial rights of the franchisee, location requirements, training schedule, fees, general obligations of the franchisee, general obligations of the franchisor, etc.

Franchise Contract – The legal agreement between the parties, which sets out the terms under which the Franchisee will operate the business.  The terms usually include the following:
• The right to use the trade name
• The Franchisee’s obligations
• The Franchisor’s obligations
• The premises and the territory
• Length of Franchise contract
• Financial aspects such as initial franchisee fee and ongoing royalties
• Renewal terms
• Control of standards
• Rights of sale
• Performance targets
• Termination
• Effects of termination

Franchise Fee – A one-time fee paid by the franchisee to the franchisor to “buy into” the franchise.  Generally, the fee reimburses the franchisor for the costs of initial training and support for new franchisees.

Franchisee – The franchisee buys the right to run the business using the trademark and trading system.  The business is run according to the procedures set out in the franchise-operating manual and under the terms of the franchise agreement.  Franchisees should be:

  • Capable of absorbing new concepts quickly.
  • Willing to follow the franchisor’s blueprint to the letter.
  • Positive people – persons imbued with the necessary enthusiasm to market the business and motivate staff.
  • Adequately resourced to meet the initial (capital investment) and ongoing (working capital) financial requirements of the business.
  • Able to manage and control the business, and willing to drive the brand at local level.
  • Prepared to co-operate with the franchisor’s team as well as with fellow franchisees, and play an active part in programs offered by the network.
  • Determined to build the business into the best and most successful in the territory.
  • Convinced of the merits of the franchise and the brand, and prepared to defend both against possible attack by competitors or others.

Franchisor – The franchisor owns the business system and associated trademarks or trade names.  Franchisors allow franchisees to use these under license in a designated area and for a fee.  They then support their franchisees both in starting their business and in continuing to make it work.  The franchisor should:

  • Know every facet of the business and have a hands-on approach to problem solving.
  • Be honest and forthright in all dealings.
  • Have operated the business he wishes to franchise for a reasonable period.
  • Have adequate financial resources to develop the concept and make the necessary investment into the brand.
  • Want to grow through others, and be prepared to share the rewards resulting from teamwork with franchisees.
  • Strive for excellence in every facet of the business and determined to grow.

FTC Rule 436 – Passed in 1979, this law regulates the franchise industry by setting forth “disclosure” requirements and prohibiting franchisors from making earnings claims.


Gross Sales – The revenue before any expenses are deducted.  It is the sum of all money generated prior to deducting wages, product cost, taxes, interest, etc.


Identifying Items – Items that display the registered trademarks of the franchisor.  These items (such as paper products, uniforms, point of sale materials or exterior signs) are usually required to be used in a franchisee’s business.

Initial Investment – Usually includes the franchise fee and the total investment amount including working capital required to commence operating a franchise.


Know-How – The sum of the franchisor’s secrets of doing business also referred to as “intellectual property.”


Limited Partnership – A partnership in which there is one general partner and one or more limited partners.  The limited partners are liable only to the extent of their capital contribution to the partnership.  The general partner has unlimited liability.

LLC – A Limited Liability Company. It is created by an agreement of the owners/members. The members are liable only to the extent of their capital contributions.  It provides many of the protections of a corporation.  The LLC is not taxed at the business level, but “flows through” and the members are personally taxed.


Manuals – These provide the day-to-day guidance on how the franchisor will expect the franchisee to operate.

Master Franchisee – In master franchising, the franchisor grants the master franchisee the right to act as the franchisor in the target territory.  The master franchisee may open his or her own outlets, sub-franchise or do both.  The primary advantages to the franchisor of master licensing are: limited capital investment; tapping into the master franchisee’s knowledge of the local market and only having to deal with one party.

Multiple Unit Franchising – The franchisor awards the right to a franchisee to operate more than one unit within a defined area based on an agreed upon development schedule.  If the franchisor decides to expand into a new geographical area which may be a city or province and does have the resources or staff to handle this growth themselves, a Master Franchise, Sub-franchise or an Area Development agreement is structured with a party who will use their resources to develop the franchise network by granting unit franchises to others or establish their own outlets, provide the training and local ongoing support.


Non-compete Clause – A clause in a contract that prohibits you from entering into the same line of business for a specified time and within a specified area after you leave employment or after you terminate, sell, or otherwise leave a franchise.


Offer – An oral or written proposal to sell a franchise to a prospective franchisee upon understood general terms and conditions.  Note: Under state and federal regulations, the term “offer” is broader than the common law contract law definition.

Operating Manual – Comprehensive guidelines advising a franchisee on how to operate the franchised business.  It covers all aspects of the business, including general business procedures not necessarily peculiar to the franchised business.  It may be separated into different manuals addressing such subjects as accounting, personnel, advertising, promotion and maintenance.


Personal Guaranty – Usually the owner(s) of a corporation cannot be held personally responsible for a corporation’s debt.  If a loan requires a personal guaranty it means that the lender is asking the owner to personally guarantee the debt should the corporation default.

Product Format Franchise – The ability to sell a particular company’s product that does not constitute all that you sell.  For example you may have a service station that sells a brand of gasoline, but you are not restricted on the other products or services that you can sell.  Many times these are not true franchises, but can be considered distributorships.

Protected Territory – A designated area or geographic boundary granted to the franchisee by the terms of a franchise agreement.  The franchisor agrees not to open another franchised or company-owned business of a like or exact nature within the franchisees protected (assigned) territory.


Qualification Questionnaire – A document prepared by the franchisor to be completed by the prospective franchise, which provides initial information to the franchisor in order to assist him in determining whether or not the prospect is capable and motivated.  Often a financial statement is included in the questionnaire format.

Quality Control – The method by which the franchisor enforces the rules of operation set forth in the operating manuals.  Quality control involves regional coordinators visiting each franchisee.

Quality Standards – The standards specified by the franchisor for the operation of the business.  Quality standards are specified in the operations manuals, and quality franchise systems tightly control their standards for the benefit of the franchise system and its franchisees.


Regional Development Agreement (a.k.a. Regional Franchisee, Regional Coordinator) – A franchise granted to develop or sell a person’s franchise rights to a third party in a defined geographical area.  A portion of the franchise fee is normally paid in advance for a certain minimum number of franchise outlets, which may be activated by the Regional Franchisee or sold at a disclosed fee to an individual franchise buyer.  This agreement normally awards a share of the initial full franchise fee and a percentage of the royalty payment.

Registration – A requirement in several states that specific information be submitted and approved by state regulatory authorities before franchises may be offered in that state.  As compared to “disclosure” (see above), material contained in the registration is more extensive.  For example: a bond, fingerprints and pictures of principal officers may be required in a certain jurisdiction.  Note: the Federal Trade Commission has no provision for registration, thus the franchisor need only prepare an accurate and complete disclosure document conforming to the regulations.

Renewal – You are granted a particular time frame in which to conduct business as a franchisee in your initial Franchise Agreement.  The franchise agreement should also state the terms and conditions to renew that business relationship.  Renewal is the resigning of a Franchise Agreement after the initial or subsequent terms of the franchise expires.

Royalty – A continuing payment to the franchisor that is payable on a periodic basis (usually weekly, biweekly, or monthly) throughout the term of the franchise agreement.  In theory this royalty payment is for:

  • Compensation for the continuing services given by the franchisor (for training, field services, etc.).
  • Payback financing of the true market value of the franchise.  Royalty payments can be either fixed amounts, based on percentage of gross sales, or based on a sliding scale, with graduated breakpoints.


Service Mark – The specific statutory definition (15 U.S.C. Sec. 1127) states “a mark used in the sale of advertising of services of one person and distinguishes them from the services of others.”  The word “trademark” is specifically associated with goods or products such as toothpaste or automobiles, whereas service marks relate to employment agencies, real estate chains and the like.  Both are of equal stature and afforded the same protection under the law.  (See Trademark)

Sole Proprietorship – A form of business where one individual opens a business.  Legally, the owner is the business and the business is not considered a separate legal entity.  The owner is personally subject to unlimited legal liability for the business.

Sub-franchisor – A type of multi-unit franchise, whereby franchisees act as independent selling organizations that are responsible for the recruitment and ongoing support of franchisees within their given region.  Sub-franchisors will have their own FDD, which is sometimes incorporated into their franchisor’s FDD.


Total Investment – The amount of money estimated for complete set up of a franchisee’s business, including the initial investment, the working capital, and subsequent additions to inventory and equipment deemed necessary for a fully operational and profitable enterprise.

Trade Area – For shopping centers the geographical area from which 60-80% of a center’s sales originate.

Trade Secret – (a.k.a. Proprietary product or service) Knowledge in the possession of the franchisor that is revealed to the franchisee by the franchise transaction.  Trade secrets may take the form of construction or operating procedures, a formula for the mixing of ingredients to prepare food or the classical customer list.  Appropriate legal provisions written into the franchise agreement, such as a covenant not to compete, are important in protecting these trade secrets.

Trademark – The name associated with a product (see Service Mark).  Prior to federal registration, the symbol “TM” or “SM” may be affixed near the word or words constituting the mark or symbol to inform the public that it is intended that the name be protected.

Turnkey – The franchisor is responsible for fully developing a “turnkey” franchise until or after, the doors are open for business.


Uniform Franchise Disclosure Document (U.F.D.D., FDD) – This is the disclosure document that the franchisor must give you prior to selling you a franchise.  A form of disclosure document containing required information to be supplied by the franchisor to the franchisee.  A uniform method of disclosure for the benefit of franchisor and franchisee, its use is permitted in non-regulated states by FTC Rule 436.


Venture Capital – Money loaned by venture capitalists to new businesses that show the potential for above average growth, usually in new or unusual industries.


Working Capital – A major cause of business failure is not having enough cash in the bank, trade credit, borrowing capacity or cash flow to meet start-up expenses and see the business through any unusual dips and changes in its daily activity. Initially funds are needed to pay first and last month’s rent, utility deposits, licenses and any number of incidental costs.  As it takes time to build up a new business the first months are usually loss months, which need to be financed.