Lawyer Article

This article was published in the June 13, 2006 issue of Southeast Tech Wire.

The FTC has announced a notice of proposed rulemaking to promulgate a new trade regulation rule entitled "The Business Opportunity Rule." The proposed Business Opportunity Rule may apply to distributorships and dealerships which currently do not fall under the FTC's Franchise Rule. Companies that fall within the broad scope of the Business Opportunity Rule would be required to make certain pre-sale disclosures to purchasers. Although these disclosures are supposed to be minimal, they may prove more burdensome than the FTC anticipates.

Currently, the FTC regulates the sale of business opportunities under the Franchise Rule and the FTC Act. The Franchise Rule requires extensive disclosures for sellers of franchises. Realizing that these extensive disclosures impose significant compliance costs, the FTC limited the scope of the Franchise Rule. For example, the Franchise Rule only applies to opportunities that require a buyer to make a payment of at least $500 within the first six months of operation. Under the "inventory exception," voluntary purchases of reasonable amounts of inventory at bona fide wholesale prices for resale do not count towards the $500 threshold. Additionally, the Franchise Rule focuses on promises of assistance in securing locations or accounts and is limited to situations where the purchaser of the opportunity sells goods or services directly to end-users.
Believing that the Franchise Rule is too narrow to sufficiently combat common fraudulent practices such as pyramid schemes and work-at-home schemes, the FTC developed the proposed Business Opportunity Rule which calls for streamlined disclosures and broader application. Since the disclosures required by the proposed Business Opportunity Rule are less burdensome than those required by the Franchise Rule, the FTC did not write the same kinds of limitations into the proposed Business Opportunity Rule. Accordingly, the proposed Rule has no minimum cost threshold, no inventory exemption, no limit on scope based on the type of assistance promised as part of the offer, and is not limited to transactions where the purchaser of the opportunity sells goods or services directly to end users. In short, the scope of coverage of the proposed Rule is much broader than that of the Franchise Rule, while the compliance burden is much lighter.

The proposed Business Opportunity Rule requires all sellers of a "business opportunity" to make certain disclosures to prospective purchasers. A "business opportunity" is broadly defined as any commercial arrangement in which:

(1) the seller solicits a prospective purchaser to enter into a new business ;

(2) the prospective purchaser makes a payment or provides other consideration to the seller, directly or indirectly through a third party; and

(3) the seller, expressly or by implication, orally or in writing, either (i) makes an earnings claim; or (ii) provides business assistance.

The proposed Rule broadly defines "business assistance" to mean "the offer of material advice, information, or support for a prospective purchaser in connection with the establishment or operation of a new business." Business assistance includes: providing location assistance; providing accounts or customers (including Internet outlets); buying back any goods or services; tracking or paying commissions based on sales; and providing operational, managerial, technical or financial advice, training or guidance.
A business that falls within the definition of a seller of a business opportunity would be required to furnish prospective purchasers the following information at least seven days before the purchaser signs any contract or pays any consideration:

• Whether the seller makes an earnings claim

•  A list of any criminal or civil legal actions against the seller that involve fraud, misrepresentations, securities, or deceptive trade practices within the past 10 years (regardless of the amount at stake or the outcome of such legal actions)

•  Whether the seller has cancellation or refund policies and the terms of such policies

•  The total number of purchasers of the same type of business opportunity in the past two years and the number of those purchasers seeking a refund or to cancel in that time period

•  A list of references

The FTC has provided a one-page disclosure form and estimates that the average company would spend one to three hours preparing an initial disclosure document and one to two hours per year to maintain the necessary records. Many companies (especially larger manufacturers and suppliers) would disagree about the estimated compliance cost. Additionally, companies should be concerned that violation of the Rule is considered an "unfair and deceptive trade practice" under the FTC Act and may be used as the basis of a similar claim under a state's little FTC Act.

The proposed Business Opportunity Rule is not final and the FTC is seeking comments on the proposed Rule until July 17, 2006 and rebuttal comments until August 7, 2006. Companies that were previously exempt from the Franchise Rule should be aware that if the proposed Business Opportunity Rule is promulgated, they may fall under its broad definition of sellers of "business opportunities." Many companies that were previously exempt from providing franchise disclosures will be required to comply with the disclosure requirements of the proposed Business Opportunity Rule.

A copy of the proposed Business Opportunity Rule has been posted on the Womble Carlyle Antitrust and Distribution Law Blog, available at wombledistributionlaw.blogspot.com. Updates on the status of the proposed Rule will also be posted on this site as the notice and comment period progresses.

If you are interested in submitting comments to the FTC or have any questions about the proposed Business Opportunity Rule, feel free to contact one of the following Womble Carlyle attorneys:
Mark N. Poovey,  email -- (336) 721-3641
Jason C. Hicks, email -- (336) 728-7032