Business opportunity disclosure statements and purchase and sale agreements

March 13, 2014

business transactionsAs you and your clients watch television or browse online they are constantly bombarded with enthusiastic exultations to get involved with startlingly successful new business ventures.  In fact, your clients may even have their own ideas about setting up a new business and recruiting others to join them along the path to riches and financial independence!  If they do you’ll need to counsel them about compliance with federal and state laws pertaining to the offer, sale and documentation of “business opportunities”, which have been defined by the Federal Trade Commission (“FTC”) in its Business Opportunity Rule (see 16 C.F.R. §§ 437.1 et seq.) as a commercial arrangement in which:

  1. A seller solicits a prospective purchaser to enter into a new business; and
  2. The prospective purchaser makes a required payment; and
  3. The seller, expressly or by implication, orally or in writing, represents that the seller or one or more designated persons will:
    1. provide locations for the use or operation of equipment, displays, vending machines, or similar devices, owned, leased, controlled, or paid for by the purchaser; or
    2. provide outlets, accounts, or customers, including, but not limited to, Internet outlets, accounts, or customers, for the purchaser’s goods or services; or
    3. buy back any or all of the goods or services that the purchaser makes, produces, fabricates, grows, breeds, modifies, or provides, including but not limited to providing payment for such services as, for example, stuffing envelopes from the purchaser’s home.

The FTC and state regulators require sellers of business opportunities to prepare and deliver to prospective purchasers a disclosure document, commonly referred to as a “disclosure statement,” that includes prescribed information regarding the business opportunity and the seller (and the principals of the seller if the seller is a business entity).  An annotated version of a disclosure statement is available at Business Transactions Solution § 46:27. When the offer and sale of the business opportunity is subject to FTC requirements, the requirements of the Business Opportunity Rule with respect to content and delivery of a disclosure document must be satisfied.  In brief, the Business Opportunity Rule requires that sellers must prepare and deliver to prospective purchasers a one-page disclosure document that includes basic identifying information as well as mandated disclosures on those four categories of information that the FTC considers to be most important to prospective purchasers: earnings claims; criminal and civil actions; cancellation and refund policies; and references. Sellers are required to make the disclosures at least seven calendar days before the earlier of the time that the prospective purchaser: (a) signs any contract in connection with the business opportunity sale; or (b) makes a payment or provides other consideration to the seller, directly or indirectly through a third party. Sellers must attach a duplicate copy of the disclosure document to be signed and dated by the prospective purchaser and the signed receipt must be returned to the seller and retained.

While the disclosure statement is generally presented as a free-standing document during the offering process it is also acceptable to prepare a combined disclosure statement and summary of purchaser duties and obligations relating to a business opportunity, such as disclosure statement relating to a network marketing opportunity (for an example, see Business Transactions Solution § 46:33). One section of this type of form would including information intended to comply with applicable disclosure requirements of the state in which the business opportunity is being offered and another section would describe the duties of the parties, the term of the agreement, and procedures for termination and dispute resolution.  A similar disclosure statement and information sheet should be used as part of the offer and sale of seller assisted marketing plans (for an example, see Business Transactions Solution § 46:33.10).  While disclosure statements must follow applicable state law requirements regarding the information that must be provided to prospective purchasers it is often necessary to customize the disclosures using alternative and optional provisions relating to such matters as earnings representations, buy-back or secured investment representation provision, litigation history and bankruptcy history.  For examples of each of these provisions, see Business Transactions Solution §§ 46:33.20 – 46:33.50.

In addition to the disclosure statement the duties and obligations of the seller and purchaser of a business opportunity must be set forth in a written agreement that is executed and delivered along with the exchange of the consideration (i.e., the initial fee is delivered by the purchaser and the and initial products and services are delivered by the seller). In many cases the content of the sales and purchase contract will be prescribed by state statute or regulation and typically the contract will cover all or most of the following issues and topics:

  • Term or duration of the contract;
  • Other agreements (e.g., leases or subleases) that will affect the contract;
  • The terms and conditions of payment;
  • Cancellation rights (if any);
  • Description of the acts or the services the seller will undertake for the purchaser;
  • The principal business address of the seller, the business form of the seller, and the address of the seller’s agent for service of process;
  • The delivery of the products, equipment, or supplies the seller is obligated to deliver to the purchaser in order for the purchaser to launch and/or maintain the business opportunity;
  • The name and address of the supplier(s) of the products, equipment or supplies to be delivered by the seller;
  • A description of any buy-back agreements or performance guarantees;
  • Description of the acts or the service to be performed by the purchaser with respect to the business opportunity;
  • Repurchase rights of the seller (if any);
  • Rights of the purchaser to sell or assign it rights under the contract (if any);
  • A description of the rights of either party to terminate the contract (and the post-termination rights and obligations of each party);
  • Procedures for amendment of the contract;
  • Description of any non-competition covenants imposed on the purchaser; and
  • Procedures for renewal or extension of the contract.

It is common to provide that the agreement will renew automatically on an annual basis, assuming that neither party is in default or has exercised a right to terminate the agreement without cause; however, the seller may reserve the right to require that the purchaser submit a formal renewal application in cases where the seller believes that it would be useful to evaluate the purchaser’s performance.  For examples of business opportunity sale and purchase agreements see Business Transactions Solutions §§ 46:35 et seq.

In states that refer to, and regulate, business opportunities as “seller assisted marketing plans” the applicable agreement between the seller and purchaser is referred to as a seller assisted marketing plan contract (for an example, see Business Transactions Solution § 46:39.50).  The contents of such a contract are generally similar to what is found in the agreements referred to above and will normally include a description of the equipment and products provided by the seller, a description of training provided by the seller, procedures for additional purchases of products, a statement of fees and payment procedures and, quite importantly, a specific description of the circumstances that will cause the contract to be voided or cancelled based on the requirements of applicable state law.