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Alternative

Assume the same facts as Actionable franchisor conduct – financial performance representations (Florida). Is there another potential cause of action against the franchisor?

As mentioned, there may be many. To touch on another candidate, let's consider a few rules:

Item 19 Rules

Almost certainly, the franchisor failed to comply with Item 19 Rules, on numerous grounds. Some are probably more consequential than others. For our purposes, assume a plaintiff seeks to attribute damages to the franchisor's noncompliance with the following rule:

If the franchisor makes any financial performance representation to prospective franchisees, the franchisor must have a reasonable basis and written substantiation for the representation at the time the representation is made and must state the representation in the Item 19 disclosure.

16 C.F.R. § 436.5(s)(3) (boldface added). In the hypothetical, the sales forecast was emailed and thus written.⁽¹⁾ Critically, it qualified as a “financial performance representation” to the prospective franchisee because such a forecast, by definition, provides a “specific level or range of actual or potential sales,” thereby triggering the Item 19 Rules. See 16 C.F.R. § 436.1(e) (emphasis added).

A plaintiff may allege the franchisor omitted the sales forecast in the FDD, including in Item 19 thereof. Also, depending on the facts, plaintiff may argue the franchisor lacked a reasonable basis for the representation(s) and, among other potential noncompliance, also failed to accurately state the material bases and assumptions on which the forecast was based. See 16 C.F.R. § 436.5(s)(3)(iii) (regarding additional facts, see below regarding discovery).⁽²⁾

Note that, on the issue of “reasonable basis,” some franchisees assume that, by the time they receive one, any forecast has by necessity undergone something akin to an examination engagement, performed by a CPA firm, for prospective financial information.⁽³⁾ The assumption is wrong. Indeed, other than disclosure and, if applicable, registration requirements, there are often few independent checks that curb a franchisor's forecasts or projections, at least on the front end  (i.e., before potential enforcement actions, etc. down the road). This is particularly so with private-company franchisors.

Standards governing “reasonable basis” for forecasts?

To be sure, in its  2008 “Franchise Rule Compliance Guide,” the FTC explains that for “projections of potential performance, franchise sellers should consult with the current standards for projections issued by professional organizations such as the American Institute of Certified Public Accountants . . . .” The FTC then provides a non-exhaustive list of preparation practices that franchisors “should” follow. Finally, it states the FTC staff's view that “projections made in accordance with the standards issued by the AICPA (or its successor) presumptively have a reasonable basis.”⁽⁴⁾ 

Unfortunately, cases interpreting the reasonable basis and written substantiation requirements are sparse. Regardless, the inquiry will probably be fact intensive. Indeed, even a simple spreadsheet may imply any number of relationships, trends, or other assertions for which franchisor management should be held accountable, thereby enlarging the scope of relevant discoverable material. Also, by pleading that “material bases and assumptions” were misrepresented, one possibly opens the door to a trove of the franchisor's electronically stored information (“ESI”) (subject to “proportionality” limits and other considerations), from which inferences may be drawn.

Not to mention, the hypothetical forecast was apparently founded, at least in part, on prior “franchisee income statements and market data.” Because the franchisor relied on historical franchisee performance, it assumed disclosure responsibilities, to an extent, relating to both forward-looking and backward-looking representations. Thus, documentation, ESI, and oral examination relating to (i) the franchisor's information sources for market data, and (ii) the comparability of franchisee-performance statements, among other matters, may become relevant. This is particularly so as they relate to how the prospective franchisee formed its own performance expectations. As a result, fact gathering can quickly become a multitiered inquiry. See also 16 C.F.R. § 436.5(s)(3)(ii) (relating to past-performance representations). However, the hypothetical only provides skeletal facts—and virtually nothing about the underlying support for the financial performance representations. Just enough to scratch the surface.

Assume that we could, eventually, identify noncompliance with the disclosure requirements.⁽⁵⁾ We could then further refer to the prohibitions in 16 C.F.R. § 436.9. These rules definitively render certain actions, omissions, and statements to be “unfair or deceptive act[s] or practice[s] in violation of Section 5 of the [FTC] Act,” when committed by covered “franchise sellers,” which would likely ensnare the franchisor and the president on our facts. The prohibitions include, among other things, “[d]isseminat[ing] any financial performance representations to prospective franchisees unless the franchisor has a reasonable basis and written substantiation for the representation at the time the representation is made, and the representation is included in Item 19 (§ 436.5(s)) of the franchisor's disclosure document.” 16 C.F.R. § 436.9(c).

But are “technical violations,” even if they cause the franchisee substantial damages, sufficient? You might assume so. But alas, it's more complicated.

Let's assume the franchisor, in fact, made unsupported financial performance representation(s). We'd like to plead this as a theory of liability. It would be helpful if the FTC Act provided us means to do that. But unfortunately, it doesn't. The text of the FTC Act conspicuously omits a private right of action, a frustrating and sometimes harsh reality for injured parties. Also, courts have generally refused to imply one. See, e.g., Holloway v. Bristol-Myers Corp., 485 F.2d 986, 1002 (D.C. Cir. 1973) (“To imply a private right of action to enforce the Federal Trade Commission Act–however desirable or logical this might appear in the abstract–would be contrary to the legislative design which we discern to have been deliberately wrought.”)

Where does this leave us? Instead of turning to FTC Act, we may turn to state law remedies, such as Florida's so-called “Little FTC Act” (the Florida Deceptive and Unfair Trade Practices Act or “FDUTPA”).

FDUTPA

Under FDUTPA, “[u]nfair methods of competition, unconscionable acts or practices, and unfair or deceptive acts or practices in the conduct of any trade or commerce are . . . unlawful.” § 501.204(1), Fla. Stat. (boldface added). By itself, this declaration tells us little. Even so, we observe that it closely mirrors its federal-counterpart language from the FTC Act. 

By design, FDUTPA is closely linked to the FTC Act, including in two important respects:

1. The Florida Legislature intended that, “in construing [the above FDUTPA declaration], due consideration and great weight shall be given to the interpretations of the Federal Trade Commission and the federal courts relating to s. 5(a)(1) of the Federal Trade Commission Act, 15 U.S.C. s. 45(a)(1) as of July 1, 2017.” § 501.204(2), Fla. Stat.

2. Generally, violations of the FTC Act are, by definition, violations of FDUTPA. See § 501.203(3), Fla. Stat.

To be sure, prevailing under FDUTPA is not this simple. Other conditions must exist for a plaintiff to succeed. Also, certain courts seem willing to derail FDUTPA actions for a host of reasons: some sensible, some less so. This Q&A page cannot possibly address the full operation and mechanics of FDUTPA.⁽⁶⁾ Suffice it to say, there is far more required to establishing and prevailing on a claim than showing a mere “technical violation.”

On these facts, a plaintiff should be able to establish at least one “unfair or deceptive act or practice in the conduct of [a] trade or commerce,” in seeking to recover from the franchisor. See § 501.204(1), Fla. Stat. However, to recover under FDUTPA, courts generally require that a plaintiff also show “causation” and “actual damages.” See § 501.211(2), Fla. Stat.; see also Ounjian v. Globoforce, Inc., 22-12590, 2023 WL 8588699, at *4 (11th Cir. Dec. 12, 2023).

In making the required showing, a plaintiff is effectively held to a “reasonable consumer” standard. It “is not whether the plaintiff actually relied on the alleged practice, but whether the practice was likely to deceive a consumer acting reasonably in the same circumstances.” State, Office of Atty. Gen., Dept. of Legal Affairs v. Wyndham Intern., Inc., 869 So. 2d 592, 598 (Fla. 1st DCA 2004) (citation omitted) (boldface added).⁽⁷⁾

The “reasonable consumer” question is where much of the litigation and, frankly, the legal cost may be focused.

Additional note re: gathering facts on a “reasonable basis” for forecast:

Recall the summarized allegations from KC Leisure, Inc. v. Haber, 972 So. 2d 1069, 1071-75 (Fla. 5th DCA 2008), including spreadsheets that were “based on ‘conjecture and speculation' without any substantive research, which resulted in the document containing ‘unsubstantiated and misleading' representations.” Possibly, there are parallels in these allegations to the current hypothetical. But our facts are skeletal, to put it lightly, and omit key details regarding the lack of support for the sales forecast.

The hypothetical states, without specification, that “the forecast lacked any credible basis, and it relied on unfounded assumptions.” Often, at the time you initiate this type of case, many factual conclusions rely on well-reasoned assumptions and inferences. Generally, that's okay, as long as you can meet the required thresholds for bringing and pleading your action(s). (This is not to suggest pleading is simple; indeed, it can be a make-or-break exercise in precision for these actions.) Once the door is open, you may be surprised at how much the discovery process can unveil. For instance, a sequence of carefully worded interrogatories and document requests, followed by depositions of key manager(s), might lead to substantially all the evidence you'll need. The main point, ultimately, is that potential plaintiffs should not reflexively give up on their claims simply because they can't substantiate every allegation at the outset.

Conclusion

When it comes to unsupported “financial performance representations,” you may have many tools at your disposal, depending on the facts. The close link between FDUTPA and the FTC Act, though, make Florida's “Little FTC Act” a worthy candidate.

(1) See 16 C.F.R. § 436.1(w). Note, however, that if the hypothetical franchisor had made oral or visual representations to the same effect, then these would also have qualified as financial performance representations. See 16 C.F.R. § 436.1(e).

(2) Regarding other issues, note the facts don't specify the extent of the franchisor's Item 19 “preamble” language, whether there was an admonition that actual results may differ, etc.

(3) See, e.g., AT-C Section 305.

(4) Interestingly, although affording deference to AICPA standards and guidance, the FTC fails to emphasize, at least meaningfully, a critical distinction adopted by the AICPA: that in financial “projection” versus “forecast” (and that for “partial presentations”). For the most part, the compliance guide uses simplified language (referring to “current standards for projections”), and it does not expound key forecast/projection differences and their implications to franchisors. (Of note, aside from preparation-specific guidance, AT-C Section 305, which concerns examinations and agreed-upon procedures engagements on prospective financial information, also adheres to the above distinction.) More oddly, beyond the compliance guide, the disclosure regulations themselves seem to conflate the two concepts at times. Of course, the FTC is not bound by the 2008 Compliance Guide, which this firm expects will be superseded in the near future along with the disclosure regulations more generally.

(5) Also, note that, in the hypothetical facts, “the president mentioned the forecast was based on ‘franchisee income statements and market data,' with no further detail.” With this description, although admittedly vague, we can rule out the franchisor's use of the exception at 16 C.F.R. § 436.5(s)(4) because the “actual operating results for [the] specific outlet being offered for sale” were not at issue.

(6) Thus, it makes no effort to do so.

(7) Unfortunately, this is another simplification. In the firm's view, federal and Florida state courts have needlessly complicated, spoken inconsistently regarding, and on occasion conflated, issues of causation and reliance in the context of FDUTPA.

Content posted December 17, 2023.