Q. What type of financial information should franchisors get from their franchisees?
A. Nowadays, the franchisees all have a POS, point of sale, system so that if I’m at McDonald's and I buy a big mac and they ring it up, that’s their point of sales system. And the franchisors are supposed to have access to that point of sale transaction. It’s supposed to all be uploaded to the franchisors, so they should certainly have access to that POS detailed sales data.
They should also require periodic royalty reports and calculation documents that were agreed to in the initial agreement. Other necessary documents may include sales and income tax returns on both a state and federal level. However, it's important to note that there may be other information agreed upon for each individual franchise agreement.
Q. When should franchisors be conducting royalty audits?
A. I think the rule of thumb for anybody who is receiving royalty payments, participation payments or licensing revenue payments, whether it’s a franchisor or some other licensor, is you need to understand when your audit rights expire. In a lot of agreements, you have this limited window within which to question the amounts reported, and if you don't audit within that limited window, you lose the ability to later question it and contest the amounts that get reported or raise the claims for incorrect accounting and additional monies owed.
So if it is a two or three year period, typically you audit every two or three years. But every situation is different, and if one audit recovers a million or a couple million dollars for a client, then some clients are going to want to continually audit. So if an audit takes a year to perform, complete and settle, then a client might want to start the new audit as soon as the last audit is done.