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Franchise Fraud: What Is It? (And How Can I Prevent It?)

Franchise Fraud: What Is It? (And How Can I Prevent It?)

Never has there been a better moment to start a franchise in India

According to a research by KPMG and the Franchise Association of India, the Indian franchise market was valued at $50.4 billion in 2018 and is predicted to reach $150 billion over the next five years.

The well-established company model, which has a lower rate of failure than establishing a firm from scratch, is what most attracts prospective franchise investors. The franchise model industry, which first appeared on the market in the 1990s, has had remarkable growth over the past three decades and has drawn some of the most prominent worldwide companies. The expanding economy, robust demand, and increasing disposable incomes are further significant factors that have contributed to the growing popularity of franchise enterprises in India. The sector has been further boosted by people’s increased exposure to many worldwide cultures and lifestyles.

But just like any other sector, franchising has seen its share of scams, with a number of con artists attempting to take benefit of investors. The majority of the time, fraudsters utilise the business owners’ lack of knowledge as a means of deceiving them. For instance, in March 2018, a number of phoney websites began to appear on Google with advertisements purporting to help users open an Amul franchise location. Before Amul India submitted a cease and desist letter to Google and prevented the circulation of false material, these websites distributed phoney letters and forms to unwary customers. Similar to this, in February of this year, a few businesses were duped into paying for Mi Stores that never existed along with falsified paperwork and fraudulent signatures. When this was made public, Xiaomi India’s managing director tweeted to let everyone know what had happened.

Although such incidents are concerning and could serve as a deterrent for prospective investors and franchise owners, it is crucial to remember that the danger of franchise fraud can be entirely eradicated with the correct knowledge and information. Let’s examine how prospective franchise investors might recognise franchise scam and how they can avoid being a victim of it:

Franchise Fraud: What Is It?

Simply put, franchise fraud may be defined as any form of deception or fraudulent sales behaviour on the side of the franchisor. Numerous factors can lead to franchise fraud.

Among the most popular tactics employed by con artists is to inflate the potential earnings of a franchise. New franchisors frequently advertise an inflated price to entice with many investors as feasible.
Franchisors frequently engage in fraudulent behaviour by lying about number of already operating franchises in an effort to build confidence and trust.
Building a new franchise will cost you: The sum of money required to start a franchise may be overstated by franchisors. For instance, they could overstate the upfront setup expenses or add secretive sums to them.
Misleading news about the product: Some franchisors may exaggerate the qualities and characteristics of their offerings, which can lead to client complaints and other problems for franchise owners.

The Nirval Modi scam is among the most notable real-world examples that should act as a caution to future investors. Between 2013 and 2017, more than 20 companies and 18 businesspeople fell victim to Nirav Nodi and Mehul Choksi’s jewellery brand franchising scam. Franchise fraud has been involved in a number of high-profile instances throughout the world.

If you have also fallen victim to franchise fraud, have your franchise agreement reviewed by an attorney to see what legal action you may be able to pursue. Once more, in a perfect world, you would be able to recoup your whole investment as well as pursue punitive penalties. However, in this situation, prevention is better than cure, therefore before signing the contract, do your research on the franchisor.

How can a franchise scam be detected?

There may be various warning signs that you come across when researching your franchisor that you shouldn’t disregard. There are several warning signals of a possible scam that you ought to be aware of:

Zero or little trading history: A phoney franchise has no trading history at all. Check the company’s filings and prior trading information before you shortlist any franchises you are interested in.
No physical location: It’s not a good indicator if a franchisor doesn’t list a physical address or disclose the address of its corporate headquarters. Do not let a flashy website fool you; it is simple to create a website that seems real.
Lack of trademark protection: A trustworthy franchisor has a registered trademark for its name, its brand, and its logo. Be mindful if there isn’t one.
Inadequate information: In certain countries, franchisors are obligated by law to reveal their financial statements and other information to their franchise partners. Do not hastily sign an agreement if you believe they are hesitant to do so or are providing you with insufficient evidence that they’re a legitimate business.
Bad reviews: Researching what other franchise owners want to say is one of the most crucial tasks you should take when intending to acquire a business. It might not be a good idea to invest if you hear them criticise the business or the financial plan.
Complex contracts: Consult a lawyer if the agreement you get contains a lot of complicated or unclear language to make sure you are not being pressured into signing a predatory deal.
Low royalty fees: Among the ways a franchisor generates income is by charging franchisees royalty fees. Before making an investment, you should be wary if someone offers you a meagerly low or careless royalty charge. You should also research the company’s business strategy.
Desperate franchisors: It is important to proceed cautiously if the franchisors appear a little hurried to convince you to sign on the dotted line. Any genuine franchisor will initially establish rapport, respond to all of your inquiries, and then then negotiate a long-term collaboration.
Low costs for advertising: The franchisor is often in charge of advertising, which is one of the crucial elements in establishing a franchise. Usually, they also inform franchisees in advance of the advertising budget. Make sure you talk to them about your worries if this appears too low.

How can you prevent falling prey to franchise fraud?

The first step in defending yourself against franchise fraud is knowing what to watch out for and what facts to seek. You must understand how to independently check the statements a franchisor makes in addition to being cognizant of the many methods a franchisor may attempt to perpetrate fraud. Here are some actions you may take to avoid being a victim of franchise fraud:

STEP 1: Conduct thorough research

You should learn as much as you could about the franchisor before making any significant investments. This entails doing in-depth analysis of all publicly accessible data and speaking with pertinent parties. This often involves searching the internet for information on the business, such as its founding date, annual revenue, and franchising model. It can be a good idea to work with a franchise consultant who can perform the labor-intensive tasks on your behalf.

STEP 2: Take it Offline

You should confirm the company’s actual presence and make sure it isn’t a shell business with a fake website in addition to conducting internet research. To have all of your concerns addressed and learn what is required of you, go to the franchisor’s headquarters. Be cautious if you believe that the franchisor is attempting to pressure you into making an investment. It’s also essential to visit current franchises and speak openly with the proprietors there in order to confirm the promises the franchisor is making.

STEP 3: Attend events and conferences

The majority of franchisors provide events for prospective buyers, which you must attend in order to learn more about the business model, royalties, capital requirements, degree of assistance, and training offered by the organisation.

STEP 4: Examine the Agreement and FDD

The initial phase merely involves demonstrating the franchisor’s reliability. Do not immediately give your business partner your money after you have chosen them. Analyze the contract and the franchise disclosure documents thoroughly (FDD). There may be complicated clauses in the agreement that might later be utilised against you. To get any questions you may have answered, use the assistance of an expert franchise or company lawyer. Make sure you carefully read the FDD because franchisors are obligated to include information about their finances and any other information they think significant.

STEP 5: Check All the Information

You have 14 days from the day you get the FDD and the agreement to confirm the details included therein. Make the most of your time by carefully reading the small print and making sure everything is correct. Be extremely wary if the franchisor urges you to skip this time. You must be able to back up all the assertions made by the franchisor. Make sure to get your questions addressed before signing the contract if you have even the tiniest lingering doubts about the agreement’s legitimacy. You might use a franchise solutions provider or unbiased third-party expert to determine whether the business has been sincere in its pitch.

You should only proceed with opening your own franchise when you’ve determined that the franchisor has met all of your standards. Don’t let grandiose claims or exorbitant profits convince you to disregard the warning signs. Reach out to the appropriate consultants and attorneys to conduct your own independent study and confirm the franchisors’ assertions. Along with making sure your franchise agreement is just in order, it’s critical to make sure the franchisor can support all of its claims. Keep in mind that if anything seems too good to be true, it generally is.

An engineer by qualification, Gaurav started his career in sales and marketing due to his affinity towards networking with people. After learning the tips and tricks of the trade, he made a fresh start as an entrepreneur in the franchising industry back in early 2018, with a vision to bring order and transparency to an unorganized sector. He founded and spearheaded Frankart Global Private Limited, where he consulted, developed, and scaled more than 120 domestic and international brands all over India ranging from different industries such as food & beverage, beauty & wellness, and FMCG retail to name a few. Post-Covid, in mid-2021, he developed FranDocX, India’s first ready-to-use franchise documentation service portal, for the MSME entrepreneurs who were severely affected by the pandemic, and wanted to avail an affordable franchise solution service. His aim is to regularize ethical business practices in the franchising sector so that a greater number of investors can participate and avail the benefits of a structured franchise framework.

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