FDD Item 20: How to Spot High Franchise Turnover Before You Buy

Every franchise sales deck has a growth chart. Almost none of them show the other half: how many owners left.

That number exists. It’s in Item 20 of the Franchise Disclosure Document, in a set of tables most buyers skim on their way to the fee schedule. It’s the closest thing you’ll get to a franchise system’s honest scorecard.

What’s in Item 20

The FTC’s Franchise Rule requires Item 20 to show three years of outlet data, broken out by state. The tables that matter most:

• Systemwide summary. Franchised and company-owned units at the start and end of each year. This is the growth chart, and on its own it’s the least useful table.
• Transfers. Units sold by one franchisee to a new owner.
• Status of franchised outlets. Openings, plus the four ways a unit leaves: terminations, non-renewals, units reacquired by the franchisor, and “ceased operations – other reasons.”

Item 20 also lists current franchisees with contact information, plus the franchisees who left the system in the last fiscal year. Hold onto that list. It may be the most valuable page in the whole document.

Why net growth hides the story

A system that opened 40 units and lost 35 shows up in the summary as five units of growth. A system that opened 8 and lost 1 shows seven. The first looks bigger and busier. The second is the one where owners are staying.

Openings tell you how good the franchisor is at selling franchises. Exits tell you how good it is at keeping owners in business. Only one of those is your problem.

Calculate the exit rate yourself

For each of the three years in the status table:

1. Add up terminations, non-renewals, reacquisitions, and ceased operations. Those are exits.
2. Divide by the number of franchised units at the start of that year.
3. Compare the three years. One bad year can have an explanation. A rate that climbs every year is a trend.

Keep transfers separate. A transfer can be a happy ending: an owner who built a business and sold it at a profit. It can also be an owner who wanted out badly enough to sell cheap. The table can’t tell you which, so ask the franchisor in writing, and ask the owners who sold.

Four patterns worth a closer look

• Most exits sit in “ceased operations – other reasons.” It’s the vaguest column on the page. Ask what it covers.
• Reacquisitions are rising. Sometimes a franchisor buys back units to rescue them. Ask why, and what owners were paid.
• Company-owned units grow while franchised units shrink. Ask what the franchisor knows about the model that its franchisees apparently don’t.
• Exits cluster in one state or region. That can point to a weak local market or a weak regional support team. If it’s your region, you need to know which.

Then pick up the phone

The list of former franchisees is where real diligence happens. Call five or six. Ask why they left, what they’d do differently, and whether they’d buy again. Some will decline to talk. Item 20 also has to disclose whether franchisees signed confidentiality clauses in the last three years that limit what they can say. If they did, note it. A system that asks departing owners to stay quiet is telling you something too.

Then set what you hear next to the earnings picture in Item 19. If Item 19 looks strong but Item 20 shows owners leaving, the two documents disagree, and it usually isn’t the one with the nicer numbers that’s telling the whole story.

The short version

Openings measure how well a franchisor sells. Exits measure how well its owners do. Read Item 20 before you fall for the growth chart, and call the people who left before you call the people the franchisor picked.

Closure rates are one of the six checks every brand has to pass to make The 250. Take the free assessment to see which categories on that list fit your capital, time, and goals.