Franchising Disclosure Document (FDD) Items

There are several required items that should be drafted when creating the Franchise Disclosure Document. Some may not apply to the company owing the franchise, others will. Be sure to have an attorney review the document prior to releasing for potential franchisees to read.

Item 1 the franchise company
This is a summary of the history, ownership and corporate family of the franchisor, including the form of franchises offered. A company summary that isn’t clear or readable does not allow you to get an accurate picture of the organization without a lot of effort. If so it is likely you will have issues interpreting the rest of the FDD.

Item 2 Business Experience Of Franchise Executives
Gaining knowledge of the franchisor’s leadership is critical, because it will help you decide whether you’ll feel comfortable working with the people involved. Look for a solid group with experience in management and franchising. An executive team that is new to franchising may be a problem unless they have extensive business expertise. If the executives have been involved in failures with other businesses then this is an indication of a problem.

Item 3 Litigation
This item lets you know about any litigation involving the company and its principals and executives. It notifies you of potential accusations against the franchisor, as well as whether it has filed suits against entities violating its trademarks or against franchisees not in obedience with quality standards (which may be a good thing). If there are multiple lawsuits filed by franchisees contending fraud or misrepresentation on the part of the franchisor this is an indication of a serious problem. Is there a pending class action by franchisees or consumers that, if successful, could bankrupt the company?

Item 4 Bankruptcy
This item is rarely of great interest, because your due diligence should have indicated whether the franchisor is in bankruptcy. Any officer or director who has a personal bankruptcy, or was previously involved in a bankrupt franchisor, also must be listed.

Items 5, 6 and 7 Initial Fees, Other Fees and Initial Investment
Item 5 is an overview of the initial fees required to open your franchise. Item 6 is a chart of other fees, including royalty and advertising fees, which you will be required to pay on an ongoing basis. Be aware that not all fees are listed here, including the cost of products and inventory. Item 7 lays out the fees and expenses required to open and operate your franchise for the first three months. Watch out for: Franchisees get into trouble when they are undercapitalized. Do not assume that the working capital listed in Item 7 is sufficient to sustain your business until you start making money. Ask other franchisees how long it took them to break even. Go over these items with an accountant before signing a franchise agreement.

Item 8 Restrictions on Sources of Products and Services
The franchisor has a vested interest in knowing that the products and services you are utilizing or selling meet its standards. To ensure that, the company may sell you products itself or insist you use selected suppliers. Beware of Franchisors who are getting large rebates from suppliers. Ask current franchisees if they feel the prices they pay for designated products are fair.

Item 9 Franchisee’s Obligations
This is the single best disclosure you will get: a list of your contractual obligations, with cross-references to the franchise agreement and the rest of the FDD. Item 9 allows you to review each obligation, then go back and read the language by which you will operate. Descriptions that are not consistent with the franchise agreement are problematic.

Item 10 Financing
If the franchisor offers a lending program, or has arrangements with lenders who have agreed to help finance its franchisees. The item also discloses any financial relationship the outside lender has with the franchisor. Remember that borrowing from your franchisor is no different than borrowing from a bank, with the same credit terms. If you default, the franchisor can terminate your franchise agreement.

Item 11 Franchisor’s Assistance, Advertising, Computer Systems And Training
This item outlines the subject matter and extent of the franchisor’s support services. It should include disclosures about cash registers and related information involving the use of extremely sensitive franchisee data to which the franchisor has access. Subtle qualifying words, such as “at our discretion” or “as needed,” generally indicate that you cannot count on receiving those services. Look carefully to see how much of your required advertising fees actually get spent on advertising and how much can be used in areas mainly benefit the franchisor. Also note that if franchisees are not involved in managing the national marketing fund and program, it can be a major red flag for investors.

Item 12 Territory
The need for a protected territory depends on the nature of the business. The franchisee of a retail outlet wants to know that another unit cannot open within a certain radius; a service business might find different stipulations. Any territorial protection lasts only for the term of your franchise agreement; the franchisor has the flexibility to change it when you renew your contract. Retail franchises that provide no geographic protection are challenging.

Items 13 and 14 Trademarks, Patents, Copyrights and Proprietary Information
These straightforward items list the trademark and copyright registrations the franchisor has obtained. Watch out for: A trademark that is not registered.

Item 15 Obligation to Participate in the Actual Operation of the Franchise Business
Franchisors want to be sure franchisees are devoting full time and effort to running each location. Some franchises require franchisees to run the business, others allow them to be passive owners and hire someone else to manage day-to-day operations.

Item 16 Restrictions on What You May Sell
This item lets you know that you can sell only what the franchisor allows. Franchisors whose product offerings are too limited could negatively impact the business.

Item 17 Renewal, Termination, Transfer And Dispute Resolution
This chart provides a summary of the franchise relationship to the franchisee, with cross-references to the franchise agreement, showing terms of termination and renewal and asserting where and how disagreements will be resolved. In franchising, you don’t have a right to renew, only a right of first refusal on a new contract, which may contain higher royalties and other charges. When signing your first contract, try to maintain as many financial conditions in the renewal contract as you can. Most disputes must be resolved in the hometown of the franchisor, which puts the franchisee at a disadvantage.

Item 18 Public Figures
This is relevant only if you are buying into the less than 1 percent of franchise systems that use public figures in their advertising.

Item 19 Financial Performance Representations
Although this is one of the most important pieces of the FDD, only 30 to 40 percent of franchisors provide information on how much their current franchisees are earning; the others must state that they choose not to make such a claim. Earnings claims based on corporate stores may not be accurate as they pay no royalties and may have different labor, rent, product and shipping costs than you will experience. Beware of earnings based on franchises that have been open for five to 10 years, which may pay lower rents.

Item 20 Outlets and Franchise Information
These charts show the number of franchises opened, transferred and closed in the last three years, which lets you see whether the system is growing or shrinking. The most important part of the FDD is the list of current and former franchisees. You would be completely remiss not to contact as many as possible to get an independent perspective on the health of the system. A large number of closures could mean the business model is trending out of favor.

Item 21 Financial Statements
These audited financial statements let you know if the franchisor is stable. Look at the profit-and-loss statement first, then the balance sheet. You may need an accountant to figure out whether the current ratio of assets to liabilities is favorable and how the franchisor accounts for deferred revenue. Be sure to read the footnotes. Franchisors who earn most of their money from franchise sales are not sustaining their business. Good franchisors that operate more efficiently do so with royalty payments.

Items 22 And 23 Contracts and Receipts
These items include the contracts you will be required to sign and the receipt you must sign when you receive the FDD. It is critical that you read and understand the contracts and keep copies of all documents (including the receipt); you’ll need them if you ever wish to bring an action against the franchisor.

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How and Why to Open a Bank Account in Hong Kong

Hong Kong today remains one of the best offshore banking jurisdictions. It offers a great combination of bank secrecy, corporate secrecy, a financially and politically stable environment, and strong banks. But perhaps most importantly, it’s a secure offshore investment haven for those who want to diversify out of sinking western currencies into booming Asian markets, and China in particular.

So how can you go about opening an offshore bank account in Hong Kong? Do you have to travel there? This article will answer these questions and give you some practical hints and tips. But first some background.

A Successful Free Market Experiment For East and West Alike

Hong Kong, in my opinion, is the only practical example in the world of a major city that has been developed from scratch and run as something of an offshore, free market experiment – first by the British, then by the Chinese.

The main Island (and later Kowloon and the New Territories, parts of the mainland) was a British colony for most of the nineteenth and twentieth centuries. During this time it grew from a fishing village and opium trading hub, into a city-state of seven million people. It became known as a free-wheeling, free market paradise for capitalists, with an economy characterized by low taxation, free trade and no government interference in business.

In 1997 the British returned sovereignty over Hong Kong to China. The former colony became one of China’s two Special Administrative Regions (SARs), the other being Macau. Many people were initially doubtful about one of the world’s capitalist bastions being run by a communist power, and at the time a lot of investors pulled out, many taking their dynamic business acumen heading to places like Singapore and Vancouver.

However, the “one country, two systems” model adopted by Beijing to coincide with free market reforms and the growth of China into an economic superpower has proven very successful. The Basic Law of Hong Kong, the equivalent of the constitution, stipulates that the SAR maintains a “high degree of autonomy” in all matters except foreign relations and defence. The SAR today operates as a major offshore finance center, discreetly oiling the wheels of commerce between East and West.

These days, rather than being put off by the Chinese influence, most international investors who are attracted to Hong Kong are coming precisely because of this Chinese connection. Hong Kong is the point of access to Chinese trade, without the legal and cultural difficulties of doing business in mainland China.

Those who do not trust their own governments are reassured by the fact that under the Basic Law, Hong Kong’s foreign relations are run from Beijing. While most offshore jurisdictions humbly submit to demands from the USA and other western countries, in the case of China, the relationship is definitely reversed. Hong Kong does have a number of Tax Information Exchange Agreements (see below) but these are sensibly policed and do not allow for fishing expeditions.

Offshore Banking in Hong Kong

The region’s population is 95 percent ethnic Chinese and 5 percent from other groups, but English is very widely spoken and is the main language in businesses like banking.

One thing I like about using Hong Kong for offshore bank accounts is the same argument I have used for Panama and Singapore: it’s a ‘real’ country with real trade going on. The Hong Kong dollar is the ninth most traded currency in the world. Compare this to doing business on a small island or other remote banking jurisdiction, where everybody knows your only reason for doing business there is offshore banking. It also means that there is no problem doing your banking in cash, if you so wish.

For now the HKD, the local dollar, still tracks very closely the US dollar, but this appears to be changing as the Chinese Yuan circulates freely in Hong Kong, both in cash and in bank deposits. We think this represents an excellent opportunity to diversify funds out of the US dollar now, gaining exposure to Chinese growth in the meantime. (Of course, you can also hold HKD in banks in other parts of the world too)

Bank accounts in Hong Kong are almost all multi-currency by default, allowing all major local and international currencies to be held under one account number and exchanged freely and instantly within the account at the click of a mouse.

There is no capital gains tax, no tax on bank interest or stock market investments, and no tax on offshore sourced income. This, combined with a welcoming attitude to non-resident clients in the banks (including US citizens by the way, who are generally unwelcome in traditional offshore banking havens like Switzerland), and strong cultural and legal respect for financial privacy, makes Hong Kong one of Asia’s best offshore banking jurisdictions.

For those who want to establish a small offshore account under reporting limits, or simply to have the bank account established in view of future business, Hong Kong is also attractive given the low minimum deposits demanded by the major banks there. The minimum bank account balance can be as low as HK$ 3,000. Of course, you can’t expect red carpet, VIP private banking at this level – but you get a perfectly good functioning bank account with all the technological trimmings.

Offshore Corporate Bank Accounts in Hong Kong – Do’s and Don’ts

Typically, offshore clients choose to open accounts using corporations, as opposed to personal accounts. This not only offers greater privacy, but also flexibility and can – depending of course on how things are structured – offer significant tax and asset protection advantages.

Accounts can easily be opened both for pure offshore companies like Panama, BVI, Nevis or Marshall Islands, or for local Hong Kong companies that are set up using nominee directors and shareholders.

When contacting local corporate service providers in Hong Kong, you’ll find that most of these corporate service providers will recommend you use a Hong Kong company to open the account. The reason they do this is that it’s simpler and more profitable for them. They can incorporate a local company at low cost, opening the bank account is smoother and faster with a local company, and they can carry on billing nominee director fees every year. But it may not be the right thing for you.

Whilst it is true that Hong Kong companies do not have to pay any tax provided they do not make any local source income, administering such a company is not so simple. For example, Hong Kong companies are required to file audited accounts every year. They must file pages and pages of documents to convince the Inland Revenue Department (HKIRD) that they don’t have any local business, and, from practical experience, the HKIRD is getting much stickier about this. Long-established companies are normally left unmolested but newly established companies can expect a lot of compliance work in their first few years. Again, this suits the Hong Kong corporate service providers who charge handsomely for such services.

Another factor to consider is Controlled Foreign Corporation (CFC) legislation in your home country. (For an explanation see Wikipedia ) Many clients choose to set up LLCs as they can be treated as passthrough entities, vastly simplifying reporting requirements in some countries like the USA. Hong Kong corporations are not LLCs and cannot be treated as passthroughs for tax purposes.

My advice – assuming you don’t intend to do any business in Hong Kong besides banking and perhaps the occasional trip to visit your money – would be to open the account in the name of a company from a foreign offshore tax haven. It’s a little more work and expense at the beginning, and the bank might ask you more questions, but it will save you a lot of money and headaches in the long term. If you want a local look and feel for your company, numerous virtual office services are available.

Hong Kong Tax Information Exchange Agreements

Contrary to what you will read on some out-of-date websites, Hong Kong has signed a number of Tax Information Exchange Agreements (TIEAs). However, the HKIRD is at pains to point out that fishing expeditions are not going to be tolerated.

The HKIRD has issued Practice Note 47, available on the internet, which usefully explains how the HKIRD seek to achieve a balance between the requirements of compliance with the OECD requirements, whilst providing checks and balances to protect the rights of businesspeople.

The HKIRD are professionals and should be well positioned to deal with TIEA requests properly and justly in accordance with the treaties and guidelines. I am confident not going to allow their ‘clients’ rights to be trampled on.

Regulation of Banks in Hong Kong

Hong Kong’s Banking Ordinance was revamped in 1986. It has since undergone several amendments to improve prudential supervision. The Hong Kong Monetary Authority (HKMA) was formed in 1993 as a one-stop financial regulator, responsible for everything from banks to stored value anonymous debit cards.

The SAR maintains a three-tier system of deposit-taking institutions, comprising licensed banks, restricted license banks, and deposit-taking companies. Only licensed banks may operate current and savings accounts, and accept deposits of any size and maturity. RLBs are only allowed to accept deposits of HK$500,000 and above, while DTCs are only permitted to accept deposits of a minimum of HK$100,000 with original maturity of not less than three months.

Both these latter categories provide an opportunity for overseas banks to conduct wholesale, investment or private banking activities in Hong Kong without having to jump through the hoops of applying for a full banking license. In addition, some foreign banks have chosen to open representative offices in Hong Kong, which are not allowed to take deposits but can assist in opening accounts at other offices within their groups.

As Hong Kong is an international financial centre, it is an explicit policy of the HKMA that the regulatory framework in Hong Kong should conform as much as possible with international standards, in particular those recommended by the Basel Committee.

Hong Kong’s five largest banks, in terms of total assets, are as follows:

– Hong Kong & Shanghai Banking Corporation (HSBC)

– Bank of China (Hong Kong)

– Hang Seng Bank Ltd

– Standard Chartered Bank

– Bank of East Asia Ltd.

A full list of updated Hong Kong banks can be found on Wikipedia.

Visiting Hong Kong to Open a Bank Account

If you are visiting Hong Kong to open your account, it can normally be opened the same day provided you have made some arrangements with a local service provider, or directly with the bank, in advance. This is assuming you use one of the major banks, that nearly everybody does. You can then simply visit the bank, sign documents and receive the bank account number immediately. This will be a full multi-currency account and you will typically receive a digital token for internet banking, a password and a debit card.

The documents required for opening offshore bank account are:

1) Formation documents (in the case of corporate accounts. Apostilles are required in the case of foreign corporate accounts – your offshore provider will know how to obtain these.)

2) Bank forms and business plan/expected activity (a corporate service provider will normally supply these as part of the service)

3) Passport copies of each director, signatory and shareholder (take special note of this requirement if you are using nominee directors – if the persons are not present, copies will have to be notarized.)

4) Proof of address (such as updated bill statement which shows up your name and address) and signed (of each director and shareholder)

A bank reference is generally required if you are dealing direct with the bank. If you go through a corporate service provider, they normally write a reference so you do not need to supply a bank reference. However, if you can obtain a bank reference it is better.

Opening an account without visiting Hong Kong

It is also perfectly possible to open accounts without visiting Hong Kong (known as ‘remote account opening’) though this process tends to take substantially longer as banks will ask a lot more questions. In this case, your bank or service provider will generally e-mail you the forms, that you will need to print out and sign.

Depending on the bank, there may well be certain special instructions about how and where to sign – for example, HSBC in Hong Kong will typically request that you have your signature witnessed in the HSBC Bank nearest to you. As with all foreign bank accounts, you should be sure to use the same signature that appears in your passport, otherwise the documents will be rejected.

In the case of remote account opening the bank will normally courier the password, debit card, and token direct to your address in your home country. Then you need to activate them via the bank’s website.

Conclusion

Hong Kong competes very favorably with Singapore, the other Asian banking jurisdiction we favor. If you have not yet diversified your offshore holdings into Asia, you should seriously consider doing so. I hope this article will be helpful in this regard.

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