NASAA’s Franchise and Business Opportunity Project Group (Project Group) has re-released for public comment proposed changes to NASAA’s Model Franchise Exemptions (Model Exemptions). In the original proposal released on July 1, 2011, the Project Group had sought public comment on the establishment of four types of franchise exemptions: (1) a fractional franchise exemption; (2) an experienced franchisor exemption; (3) a set of three sophisticated purchaser exemptions; and (4) a discretionary exemption. The original proposal contained elements of existing exemptions adopted by several franchise registration states, but updated some requirements in order to reflect current conditions in franchising and the U.S. economy.
After considering comments regarding the various provisions, the Project Group has concluded that, in general, the Model Exemptions strike the right balance between the desirability to reduce compliance burdens on franchisors and the need for prospective franchisees to review a franchise disclosure document in order to make an informed investment decision. The Franchise Project Group has determined, however, to propose revisions to specific Model Exemptions in light of several comments. Although some of the proposed revisions are technical corrections or changes to form only, other revisions are more substantive.
In light of several comments, the Project Group has determined that the language of the model Fractional Franchise Exemption should be revised to clarify that the exemption anticipates an annual filing, as opposed to a separate filing for each proposed exempt transaction. The Project Group has, therefore, revised the language of this exemption to state specifically that the exemption requires an annual notice filing that, once made, expires after a period of one year from the date of the notice of exemption, and that the exemption may be claimed for additional one year periods.
Additionally, the Project Group concluded that it is impractical under the model Fractional Franchise Exemption to require state administrators to determine from a notice filing whether a “reasonable basis” exists for the parties to anticipate sales volume sufficient to qualify for the exemption. Therefore, the Franchise Project Group has revised the exemption to clarify that the administrator does not evaluate, in advance, anticipated sales volume of a proposed transaction, but that, in order to qualify for the exemption, both parties to the transaction must be capable of demonstrating that the franchisee can derive 80% of its total dollar volume in sales during the first year of operation independent of the franchise relationship.
The Project Group has clarified the Experienced Franchisor Exemption with respect to how a subsidiary franchisor can establish net equity when separate financial statements do not exist because the parent prepares consolidated financial statements. The Project Group has now revised the exemption to allow a franchisor to submit a statement by an officer confirming a franchisor’s net equity if the franchisor does not prepare its own audited financial statements because its parent prepares consolidated statements.
The Project Group has also added a subsection to the Experienced Franchisor Exemption which provides that audited financial statements required under the exemption cannot contain a going concern explanatory paragraph. This revision was based on the comments of several state examiners, who had expressed concern that the language of the model Experienced Franchisor Exemption may not describe accurately the financial condition a franchisor must demonstrate in order to qualify for the exemption.
Several commenters suggested that NASAA revise the model Sophisticated Franchisee Exemption to delete a requirement that prospective sophisticated franchisees be represented by legal counsel. In response, the Project Group has revised the exemption to include an optional provision to allow each state adopting the exemption to decide whether or not to require sophisticated franchisees to have legal counsel as a condition of granting the exemption. The Project Group determined that if different states made different policy determinations on this isolated requirement, that distinction would not be a significant detraction from the goals of uniformity.
The Project Group also agreed with several commenters who stated that it is unduly burdensome to require that sophisticated franchisees have financial statements prepared under U.S. GAAP. These commenters states that franchisors should be able to rely on facially valid financial statements of a sophisticated franchisee without having to assume the risk that the statements do not comply with U.S. GAAP. Accordingly, the Project Group has deleted the requirement from the Sophisticated Franchisee Exemption.
Finally, the Project Group has deleted from the Model Discretionary Exemption a requirement that applicants must submit a proposed order in order to claim the exemption. As one commenter observed, the requirement might prove problematic for applicants and state administrators because most applicants are not able to prepare proposed orders in the form acceptable to the administrator.
The comment period will remain open for 30 days. Accordingly, all comments should be submitted on or before May 16, 2012. Comments should be submitted, by email or in writing, to Dale Cantone of the Maryland Division of Securities and Joseph Opron of the NASAA Legal Department.