The Franchise Group fraud is one of the largest leveraged buyout failures in recent history. When B. Riley Financial committed $600 million to take Franchise Group private in a $2.8 billion leveraged buyout, the deal looked like a textbook transaction. Established retail brands. Experienced management. Institutional backing. What nobody caught — or chose to ignore — was that the founder orchestrating the deal was already under federal investigation for a $300 million hedge fund fraud.
The Franchise Group fraud was a corporate catastrophe: bankruptcy, criminal guilty pleas, and a $735 million lawsuit that names not just the founder, but the law firm that blessed the deal. Due diligence in a leveraged buyout isn’t optional. Here’s what went wrong and how to make sure it doesn’t happen to you.
What You’ll Learn
How the Franchise Group Leveraged Buyout Was Structured
Brian Kahn built Franchise Group (FRG) into a retail holding company that owned Pet Supplies Plus, Vitamin Shoppe, Buddy’s Home Furnishings, and American Freight. His strategy was straightforward: acquire undervalued retail brands, consolidate operations, and drive profitability. FRG was publicly traded and generating billions in revenue.
In 2023, Kahn proposed a management-led buyout to take FRG private at a $2.8 billion valuation. B. Riley Financial — a mid-size investment bank headquartered in West Los Angeles — provided the financial backing. According to reporting by Yahoo Finance, B. Riley raised $600 million in secured debt, acquired a 31% equity stake, and separately lent Kahn’s personal investment fund $201 million secured largely with FRG shares. The scale of this Franchise Group fraud exposure would only become clear years later.
On its face, this was a conventional leveraged buyout: an experienced operator backed by institutional capital to take an established public company private. The due diligence that should have accompanied a deal of this magnitude, however, was either inadequate or deliberately ignored.
5 Due Diligence Failures That Enabled the Franchise Group Fraud
1. No Adequate Background Investigation on the Principal
While Kahn was pitching the FRG buyout, he was simultaneously under criminal and civil investigation for his involvement with Prophecy Asset Management, a hedge fund that collapsed in 2020 after concealing approximately $294 million in trading losses. The SEC had already filed enforcement actions related to the Prophecy fraud. A thorough background check — the kind that costs a few thousand dollars in a multi-billion-dollar transaction — would have surfaced these red flags. This was the first and most preventable failure in the Franchise Group fraud.
2. Failure to Investigate Cross-Entity Financial Exposure
Prosecutors allege that Kahn fabricated $225 million in preferred stock certificates from Buddy’s Newco, an FRG subsidiary, to prop up the hedge fund fraud. This means the Prophecy fraud was not a separate matter — it was structurally intertwined with Franchise Group’s own corporate entities. Due diligence on a leveraged buyout of this scale should have traced capital flows between Kahn’s personal investment vehicles and FRG’s subsidiaries.
3. Inadequate Scrutiny of the Use of Proceeds
According to the subsequent lawsuit filed by BRC Group Holdings (the rebranded B. Riley entity), Kahn used the $2.8 billion take-private transaction to pay off massive personal debts accumulated while defending himself against the fraud investigations. In any leveraged buyout, understanding where the capital goes after closing is fundamental. When the principal needs the deal to solve a personal financial crisis, the transaction’s risk profile changes entirely. This dynamic is central to understanding the Franchise Group fraud.
4. Conflicts of Interest in Legal Counsel
Willkie Farr & Gallagher — one of the largest corporate law firms in New York — served as counsel on the deal. According to Bloomberg Law reporting, BRC Group Holdings now alleges Willkie helped facilitate the fraud. A Delaware bankruptcy judge had already removed Willkie from serving as FRG’s bankruptcy counsel due to conflicts of interest. When your deal counsel has undisclosed conflicts, the entire due diligence framework is compromised.
The role of legal counsel in enabling the Franchise Group fraud remains a central issue in the ongoing litigation.
5. Over-Reliance on Financial Metrics Without Operational Verification
B. Riley examined FRG’s revenue, EBITDA, and brand portfolio. What they apparently did not examine with sufficient rigor was the integrity of the management team and the provenance of capital supporting the transaction. Due diligence in a leveraged buyout must go beyond the balance sheet. It requires verification of the people, the capital sources, and the legal exposure of every principal involved.
The $735 Million Lawsuit and Legal Fallout
The consequences of the Franchise Group fraud cascaded rapidly. In December 2025, Kahn pleaded guilty to conspiracy to commit securities fraud in federal court in Trenton, New Jersey, admitting to his role in the Prophecy fraud. FRG had already filed for bankruptcy in November 2024.
The legal fallout from the Franchise Group fraud then escalated dramatically.
In January 2026, BRC Group Holdings filed a $735 million fraud lawsuit against Kahn, his wife, and Willkie Farr & Gallagher. The complaint asserts causes of action including common law fraud, fraudulent inducement, civil conspiracy, aiding and abetting fraud, and breach of fiduciary duty. BRC seeks both compensatory and punitive damages plus disgorgement of all fees Willkie received in connection with the transaction.
The Franchise Group fraud has also triggered regulatory scrutiny across the financial services industry.
B. Riley’s stock price cratered in the wake of these disclosures. Shareholders filed their own suit alleging that B. Riley’s chairman, Bryant Riley, knew about the risks associated with Kahn and concealed them from investors. The shareholder litigation remains active.
Due Diligence Checklist for Leveraged Buyouts in 2026
The Franchise Group fraud is not an isolated incident. The U.S. Department of Justice has stated that compliance programs must include comprehensive due diligence of acquisition targets. For any business owner, investor, or dealmaker engaged in a leveraged buyout or significant corporate transaction, the following framework is essential.
| Due Diligence Area | What to Verify | Common Failure Mode |
|---|---|---|
| Principal Background | Criminal records, civil litigation, regulatory actions, SEC filings | Relying on reputation instead of records |
| Cross-Entity Exposure | Capital flows between principal’s personal entities and target company | Treating personal and corporate as separate when they’re intertwined |
| Use of Proceeds | Where does the capital go post-closing? Who benefits directly? | Assuming standard deal mechanics without verification |
| Counsel Independence | Conflicts of interest, dual representations, prior adverse relationships | Trusting big-firm pedigree over actual conflict checks |
| Operational Integrity | Management team vetting, whistleblower reports, employee interviews | Limiting diligence to financial documents only |
For a deeper understanding of corporate structuring in transactions, see our guide to corporate counsel services at Howard East. If you’re navigating a transaction with complex entity structures, contact our team before closing.
Frequently Asked Questions
What is due diligence in a leveraged buyout?
Due diligence in a leveraged buyout is the comprehensive investigation that buyers, lenders, and investors conduct before committing capital to a transaction. It covers financial analysis, legal review, background checks on principals, operational assessment, and verification of capital sources. In the Franchise Group case, inadequate due diligence allowed a $300 million fraud to go undetected during a $2.8 billion deal.
How much does corporate due diligence cost for a major transaction?
A thorough background investigation on principals and related entities typically costs between $5,000 and $50,000 depending on complexity. In the context of a multi-billion-dollar leveraged buyout, this represents a fraction of a percent of the deal value. The Franchise Group collapse demonstrates that skipping this step can result in losses measured in hundreds of millions.
Can a law firm be sued for failing to catch fraud during due diligence?
Yes. In the Franchise Group case, Willkie Farr & Gallagher faces a $735 million lawsuit alleging it aided and abetted the fraud and had undisclosed conflicts of interest. A Delaware bankruptcy judge had already removed Willkie from the bankruptcy case over these conflicts. Law firms serving as deal counsel have duties to their clients that extend beyond drafting documents — if they know or should know about material risks and fail to disclose them, they face significant liability.
Protect Your Next Transaction
The Franchise Group fraud case is a $735 million reminder that due diligence in a leveraged buyout cannot stop at the spreadsheet. Vetting the people behind the deal — their litigation history, their capital sources, their conflicts — is not a luxury. It is the most cost-effective risk mitigation available.
If you’re entering a corporate transaction, partnership, or investment and need experienced counsel to structure your due diligence, schedule a consultation with Howard East. We help business owners and investors identify risk before it becomes a lawsuit.
Attorney Advertising. This article discusses publicly available information regarding the Franchise Group litigation as of April 2026. Legal outcomes may change. This content is educational and does not constitute legal advice for any specific transaction. Consult qualified counsel in your jurisdiction.
