Things potential franchisees should know about financial statements

The Importance of the Franchise Financial Statements

Franchise Financial Statements are the track record of the franchise. They are provided for you in the FDD and contain important information about the franchisor’s financial status and strength.

The two most important financial statements you need to review:

  • Balance Sheet
  • Income Statement (3 years preferably)

 THE BALANCE SHEET

A balance sheet is a snapshot summary of how much a company is worth on any given day. It reports the financial condition (solvency) of the franchisor. Look for 3 year trends.

Balance sheet categories include:

  • assets – what a company owns: current, fixed, and intangible assets.
  • liabilities – what a company owes: current and long-term debt.
  • stockholders’ equity – the company’s net worth; it is the money the company has taken in from the sale of stock plus any accumulated profits
  • Stockholder’s Equity = Assets – Liabilities = Net Worth

Things you want to see on a franchisor’s balance sheet:

  • increasing assets
  • increasing stockholders’ equity
  • more cash than debt
  • amount of current debt < (less than) 1/2 of the total assets
  • amount of current debt < 1/3 of the stockholders’ equity

Business stability ratios (these measure the business staying power):

  • Current = (current assets/current liabilities) company’s ability to pay bills, Rule Of Thumb is 2:1
  • Quick = (cash+ AR/current liabilities) company’s ability to generate cash, ROT is 1:1
  • Debt to worth = (total liabilities/net worth) “bankers ratio” measures risk, ROT is better than 1.5:1

THE INCOME STATEMENT

An income statement reports a company’s profit or loss. It shows a company’s income, expense and net income—also known as the “bottom line” or earnings.

Other names for an income statement include:

  • Statement of income
  • Profit and loss statements
  • Statement of operation
  • Statement of earnings
  • Results of operations
  • Statement of consolidated income 

Income statement categories include:

  • revenues
  • costs and expenses: cost of sales, selling, general administrative, interest expenses
  • income before taxes
  • provision before taxes
  • net income (earnings)
  • net income (earnings) per share

Things you want to see on a franchisor’s statement:

  • a profitable franchisor!
  • increasing profit
  • more revenue derived from royalties and system income than from selling franchises
  • increasing revenue trends, usually > 15%
  • increasing net income trends, usually > 15%

The financial statements should be audited financial statements and contain three years of financial data.
*Suggest that these should be reviewed by a CPA

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