A California bill with new disclosure requirements for franchise brokers and third-party sellers is headed to Gov. Gavin Newsom’s desk for a signature.
After the state Senate passed the legislation in May in a 37-1 vote, the California Assembly in August approved the bill unanimously, 75-0. If signed, the bill will amend the state’s franchise investment law to add registration and pre-sale disclosure requirements for third-party franchise sellers, including franchise broker networks and franchise sales organizations, or FSOs.
The bill is the result of work between legislators and the International Franchise Association. Jeff Hanscom, vice president of state and local government relations and counsel for the IFA, said the association began brainstorming updated broker rules as part of its “Responsible Franchising” initiative.
“The bill came out of a working group within the IFA where we worked with legislators, franchisors, franchisees and the broker community,” Hanscom said. “The entire goal is to ensure that everybody has transparency in the sales process. Predominantly, it’s aimed at prospective franchisees so they know everything when going into this process.”
IFA Vice President of Government Relations and Counsel Jeff Hanscom
Franchise brokers and third-party sellers act as intermediaries between franchisors and potential franchisees. In doing so, they earn a fee from franchisors for successfully recruiting new franchisees.
“It’s safe to say that a significant portion of franchise transactions have some engagement with an FSO, a broker, or something of that nature,” Hanscom said. “The use of those parties has gone up in recent years.”
Under the new law, brokers would be required to file an annual registration. That approach isn’t new, as third-party sellers are also required to do so in New York and Washington.
The California law goes further, though, as brokers will need to provide franchisees a brief disclosure document with the following:
- State of formation.
- Professional experience.
- Litigation history.
- Types of services performed.
- General compensation structure.
- Industries represented.
- Number of brands represented in each industry.
- Brands for which franchises were sold in the previous year.
Hanscom said the IFA focused on California as the state is often been a hotbed of regulatory legislation.
“California is not shy about ensuring regulations,” Hanscom said. “We also have a longstanding relationship with California regulators and legislators. We’re also cognizant of the fact that it’s the biggest economy in the country, so if we’re going to start somewhere, California is a good place to do it.”
Hanscom said should California enact the legislation, the IFA expects other states to look at adopting similar laws. New bills could look like California’s legislation, or a comparable model proposed by the North American Securities Administration Association, said Hanscom.
Gov. Newsom has until September 30 to sign the bill. Should his signature go on the legislation, it would take effect in July 2026. While the bill has received bipartisan support and was also backed by the Coalition of Franchisee Associations and the American Association of Franchisees and Dealers, approval of the legislation has not been unanimous.
Brokers raise liability concerns
The Franchise Brokers Association came out in opposition of the bill. The FBA argues it conflates the roles of franchise brokers and franchise sales organizations, an issue as the latter works more directly on behalf of franchisors.
“It merges the franchise broker and the FSO into one category, but they hold opposite functions as a franchisor sales department and the broker is referring to that department,” FBA CEO Sabrina Wall said. “So, we’re trying to get that cleaned up before it takes effect.”
Even more problematic for the FBA is the issue of liability. Under the law, brokers would be liable for any misrepresentations or errors made during the disclosure or sales process.
Franchise Brokers Association CEO Sabrina Wall
“It shifts the burden of proof to the defendant, not the franchisor or the franchisee,” Wall said. “It has this kind of ‘guilty until proven innocent language’ where the defendant, the broker, has to prove that it was both not willful and that it was not negligent. That’s the broker’s responsibility in that this language, which is abnormal from typical practices.”
Additionally, Wall said there’s worry over what type of information has to be included in a broker’s disclosure document.
“Franchises report on their previous year’s data, and that makes sense, because there is a consequence of rescission for misreporting data,” Wall said. “If a franchise system was reporting information in real time, it would create a lot of opportunity for error. We’re simply saying that we believe the broker should be held to the same standards.
“We want to report on information from the end of the previous year because if not, there’s certain discrepancies and we believe that’s a significant issue, because brokers can have unintentional errors,” said Wall. “There are things that they’re being asked to report on, like services compensation. We’re asking for a look back at information instead of real time, because of the consequences and the amount of changes that can occur.”
Wall said with the law not set to take effect until 2026, the FBA is working with legislators to make adjustments.
“They’re asking for our feedback on some components,” Wall said. “They did listen to some of our concerns and have made some changes to the bill that made it easier to comply with. It’s still an active process and we’re working with them to try and get some of these things cleaned up so that it’s something a broker can comply with and that isn’t going to unnecessarily harm them for administrative functions.”