5 Things To Know Before Buying A Franchise

5 things you need to know before you buy a franchise

Learn The Answers To 5 Critical Questions Before Buying a Franchise

“Retired” too early, RIFfed, laid off, sick of your job or just ready for something new?  Maybe you’re just ready for a transition in your career and you’re convinced you have the business savvy, education and have even managed to save up some money…Now What? It must be time to chase the American dream and go into business for yourself.  Buying a franchise might be just the right thing to do.  Here are the 5 Things You Must Know Before Buying A Franchise.

Buying a franchise can be a much safer investment than starting your own business.  In theory franchises offer business systems proven out over time with strong leadership, great economic models, well financed R&D and experienced support teams…in theory.  How can you be sure?

For many people, buying a franchise could be one of the largest financial commitments in their entire lives and it will be a very emotional experience. Friends will say they read something bad about what you plan to do on the internet. Spouses will doubt you.  You will doubt you! A little self-doubt can be motivating. You need to ask yourself, “What evidence do I have that I can’t do this?” Then ask yourself, “What evidence do I have that I can do this?” Doubt is just a lack of information.  So how do you find a great franchise and get the information you need to overcome the doubt?

Most people pull out their darts and throw them into the franchise cyberspace hoping to hit that great franchise bulls eye; this looks good, that looks good, Oh, how about this one, my friend told me this one was good, never really having any idea if those franchises are really what they are looking for.

The internet will offer some good marketing pieces and flashy sales literature for sure, even some carefully worded FAQs.  All of that will certainly work as a decent brand introduction.  But then it’s just like when buying a new home, would you ever buy a new home just looking at the sales literature without ever going inside the front door? Of course not! Looks good on the outside, as do many franchise systems, but what about the foundation, the utilities, the roof, the schools or the neighbors? You’ve got to get more information before buying a franchise.

You may hire an independent home inspection company, a pool management company, a landscape architect, have a chat with the neighbors and even hire an appraiser all in an effort to learn as much as possible before spending your hard earned money.  So why wouldn’t you do the same research on a franchise you are thinking about buying?

I typically tell all of my clients that until they can answer 5 critical questions about a franchise system, they will not have enough information to make a decision.  The 5 questions are:

  1. Do the unit level economic model proven?
  2. Does the franchisor offer a strong value proposition in exchange for the fees they charge?
  3. Does the industry have broad appeal…trendy?
  4. What are people saying about the brand?
  5. Are you a culture fit for the system?

Many of my clients say, “I just want to do some independent research” before I schedule a live call.  This is probably one of the most destructive and self-defeating things you can do if you are serious about finding a great franchise.

The franchisor is not in business to deceive or “sell” the franchisee prospect.  The franchisor is in business to successfully and quickly grow their brand. Trust them.  If they are not trustworthy it will show soon and it will be evident over the course of discovery and validation.

The answers to these simple questions can all be found but you are going to have to open many doors to find them. Read closely, here is the golden nugget in this post…The information you need to make an informed and educated decision before buying a franchise will not be found online on a public access web site!  Believe me on this one!

So where are the answers?

Of course some online research is necessary…but don’t believe it all.  Many of the answers can be found in the Franchise Disclosure Document…if you can get one and know how to read it. They can be found in determined validation with the existing franchisee base…if you can get their contact information and know which questions to ask. And can be found by meeting with the franchise leadership and support teams…if you can get an invitation to the corporate office.

Let’s review each question:

1. Do the unit level economics work?

This is usually the first question every prospect asks…what’s in it for me? What are the chances that my investment will make me money?

Every franchise must have a federally required Franchise Disclosure Document (FDD).  But of all the information that is required to be in this document by the Federal Trade Commission, a financial proforma or financial modeling information is NOT required. Unfortunately that is true. And if the FDD does not contain that information, then, anyone from the corporate office involved in selling the franchise cannot provide the information even if they have it!  So where is it found?  By talking with the existing franchisees!  The FDD must contain the contact information for every current franchisee and the contact information for all franchisees that have left the system over the past 12 months.

The franchisees are not legally restricted from divulging any information they are comfortable sharing.  Ask questions!  Every franchisee will have a different story, but if you speak to enough of them, the true story will emerge.

Great systems will have strong financial models with greater than a 1:1 ratio of first year sales to development costs, the ability to net a good six figure income, and the ability to repay your initial cash investment quickly.

2. Does the franchisor offer a strong value proposition in exchange for the fees they charge?

Here is where a franchise system will succeed or fail and where the great franchisors set themselves apart from the pretenders. This is where the royalties and fees are earned!

Every franchise will charge a royalty fee and many have additional “brand development” or “national marketing fund” fees.

Royalty fees will typically run from 4-7% of gross sales.  A few are less and some are more mostly it depends on the industry. But the support package that is offered is the great differentiator among franchise systems and where the franchise system builds its value.  The good ones earn their fees.

Brand Development or National Marketing Fund fees typically run 1 or 2% of gross sales and can only be used for marketing programs that can affect all franchisees equally.  This piece is essential and should be charged.  This is a bonus for the system and like a high tide raises all ships it will help all units in the system grow.  If it is not being charged, ask why and when they plan to implement it.  It is some of the best money spent!

Where will the answers be found…in validation calls with existing franchisees and in visiting the corporate office.  Call the franchisees and be diligent in your efforts. Remember, the franchisees are busy people. Be well prepared in your questioning and respect their time. They will be your best resource for accurate information.

Visit the corporate office, ask questions and take notice of the scenery. The strong franchise systems are resourced ahead of the curve.  They have the technical and human resources in place and are prepared for growth.  Strong franchise systems should offer support virtually from the first introductory call through opening and throughout the term of the franchise agreement.  Make sure the people and tools are in place.

To earn their royalty fees great franchise systems will offer site selection criteria and assistance, lease negotiation assistance, design assistance, preferred vendor arrangements for cost containment, IT systems for payroll, accounting, data management and security.  They will also have tried and proven marketing programs, web sites and operational and administrative support.  This is the backbone of the “system”; if these are not in place the system will not be able to support the franchisee.

3. Does the industry have broad appeal…is it trendy?

We all remember the growth and crash of the “froyo” craze; Frozen Yogurt. The early adopters did quite well and then the competition grew in location and brand, diluted each market and now it’s hard to find one still open.

Make sure the industry is based on solid, historical data. How long has it been around?  Is this just a new variation on an old theme?  This will take some research and some intuition…being trendy won’t last but solid industries will evolve and grow.

4. What are people saying about the brand?

With social marketing these days, this research is easy.  Go to the Facebook page of the brand; see if they have a LinkedIn profile, Twitter feed, Yelp reviews.  But remember, most people will only comment on social media if the experience was less than expected. Expect some negative but look for the positive.  Great brands will show it.

5. Are you a culture fit for the system?

This is the hardest question to answer, and consequently the most important.

Franchise agreements typically run from 7-10 years.  They are very difficult to get out of.  Even if you can, you can bet it will cost thousands if not hundreds of thousands of dollars to terminate the agreement.  This I can GUARANTEE, at some point in the term of the agreement you will have a conflict with your franchisor…GUARANTEED.  You need to have a good feeling for how the franchisor will handle the conflict.

There will be hints to this:

  • How does the franchisor handle “negotiation” on the franchise agreement?
  • Are you even allowed to “negotiate”?
  • How many terminations in the system (some are expected and even good) and is there litigation connected with the terminations?
  • What type of communication style does the corporate office have with the franchisees?
  • What is the cultural feel in the corporate office?
  • How do the franchisees feel about the corporate office?

Another indicator of culture is in how the employees interact in the corporate office, including such details as the “musak” in the background.  Consider the branding on the walls and the overall feel of the atmosphere.  In addition, how the franchisor manages their office is a great indicator of how they will manage the system.

These 5 questions must be answered before buying a franchise, well before the franchise agreement is signed,.

A franchise agreement is not to be entered into flippantly or without a thorough understanding of the agreement and the franchisor.

Just like a real estate agent can open the front door on a new home and show you around, the franchisor should open the door to completing and facilitating the proper due diligence in researching their franchise system.

Many franchises look the same from the outside and even in some of the services and products they offer. Successful businesses will always be imitated. The real difference between franchise systems may not be seen from the outside, it is in their commitment to the franchisee’s success. If the franchise system has the necessary components in place and is well resourced, most likely the franchisees are happy and successful. If you are searching for a franchise, it is imperative that you do the research necessary to answer those 5 critical questions and validate the system.

Why You Should Use a Franchise Consultant

Why you should use a franchise consultant.

Considering buying a franchise?

Franchising is complicated.  As such, it’s important to understand why you should use a franchise consultant instead of handling it all by yourself. To illustrate, let’s draw on some similarities between buying a franchise and buying a home.

People make very few large financial decisions in their lives.  They may buy a few homes, but typically that’s just about it.  According to the 2010 US government census the average home in the US sold for $272,900.  Lending Tree data shows the national average for a home loan in 2011 was $222,261 with a $1,061 average monthly payment for a 30-year mortgage at 4 percent.   Statistically in this case, the average cash down payment would be over $50,000.   According to the National Association of Realtors, agents or brokers are used in over 90% of all transactions.

The average cost to buy and set up a franchise will vary widely from under $50,000 to well over $1MM.  The total cost of a typical franchise in my portfolio can run from $100,000 to $400,000.

Many franchises require a cash expenditure of between $50,000 and $100,000.

This is very similar to a home purchase, but with a much greater degree of risk.  Businesses close every day for a myriad of reasons; poor management, poor location, major market shifts, lack of operating capital or even poor business planning.  A home purchase has historically been a very wise and solid investment.  According to the latest small business data the 5 year survival rate for the average small business is only near 50%.  The current foreclosure rate, even in today’s economic climate, is 1 in 775 households.

So, if you use a real estate agent to sell your home, why not use a business consultant to buy a business?

Real estate agents and brokers provide value in the sales process.  They narrow the search by selecting homes for the buyer to visit within the buyers established parameters for size, features, neighborhood, price, school systems, etc.  They work to pre-qualify the buyer so that the sales process runs smoothly and the sellers are speaking only with qualified buyers.  The best part is that the cost of the home is typically not affected by the broker’s fee for adding value to the process.  The brokers are paid only if a sale is transacted and paid by the seller for successfully matching buyer and seller.

A franchise consultant provides a similar service at no cost to the franchise buyer.

The consultant pre-qualifies the buyer while assembling a financial and personality profile.  Next, the consultant scours their franchise portfolio to find a selection of business opportunities within a defined set of parameters, all set by the buyer.  The consultant then runs an analysis for unit level economics, value for ongoing fees paid and culture fit.

Due to the high risk factor,  the franchise sales process is highly regulated by the FTC.

A good franchise consultant helps the buyer navigate the lengthy and arduous task of analyzing the Federal Disclosure Document (FDD).   A typical FDD document may be over 200 pages.  Next, the franchise consultant facilitates validation: the process of interviewing existing franchisees.  Like buying a home, the more due diligence performed in the buying process, the greater the likelihood for success.  And, as in a real estate transaction, the price of the franchise is not affected by the broker’s involvement.   Finally, similar to real estate, the consultant/broker is paid by the seller and only if a final sale is transacted.

So, the moral here is: don’t try to do it on your own.  The average franchise term is 7 to 10 years and the agreement is written to the advantage of the franchisor (not to mention the fact that it is extremely difficult to get out of.)  Ask for professional help in one of the most critical financial decisions of your life.

Validation: Questions to Ask Franchisees Before You Buy

franchise validation

Buying a franchise? You better have a list of questions to ask franchisees.

A common question/concern among those who consider buying a franchise is, “How do I know the franchisor is telling me the truth?”  It is understandable considering the sales world we live in today.  However, if you want to have a high level of confidence in the franchise you have decided to purchase, there is a way.  It’s actually baked in to the franchise buying process.  “Validation” is having a list of questions to ask franchisees who have already purchased the franchise you want to buy.

My business has been built on helping people get all the information they need to feel fully informed and confident in making, arguably, the most important decision of their lives:  investing in themselves.

It is very normal to fight the internal battle and lose out to the fears that make indecision easy.  The consequence of indecision will result in an indeterminable and enduring emptiness.  A lingering, haunting feeling of “what if.”

Well, the reason you didn’t was because you didn’t have enough information.   In addition, you probably had some misperceptions and uncomfortable feelings that you did not fully resolve.  You bailed out too quickly! You need to finish the whole process.

The last and most important step when researching a franchise is validation.

Validation is unique to franchising.  What other type of business could you start in which you could call other business owners and they would be honest with you about whether or not it was a good business to be in?  You can learn whether or not the franchisor had lived up to its promises.  You can find out whether or not everything the franchisor had told them was accurate.  This couldn’t be done in any other business system. You could try, but it’s the rare business owner that would help you.

Yet many people never validate what they have been told by the franchisor.  They either blindly accept what they have been told or they dismiss that they have been told without evidence.

There are 21 required items for disclosure in the Federal Disclosure Document.

In an attachment or exhibit to the document there is always a list of all current and past franchisees, with contact information.  I feel it is the most important step in the research process to call as many of those franchisees as possible.  You need to get confirmation that everything you have been told is the truth.  It is necessary to get a good feel for the actual support you’ll receive from the franchisor.   In addition, you need to get a sense of the culture being nurtured by the franchisor.

Mostly, I have found franchisees will be very open and honest about their experience.  Many will tell you whether or not they think they made a mistake in accepting the franchise.   You’ll find out if they feel the franchisor has assisted them through hurdles and roadblocks they experienced along the way.  In the validation process you will gain a confidence that you are making the right decision and that what you are hearing is accurate.  Some franchisees will be proud to disclose how much they are making.  Some will just provide an overview of their perspective; good, bad or indifferent.

It is best to go into a validation call with a prepared list of questions to ask franchisees.  Ask the same questions to all, and the truth will fall on the trend line.  Only then can you truly complete the research and make a fully informed and educated decision to either move forward or back out.  It will be your decision and there will be no lingering feelings of “what if.”

Best Franchises to Buy: A Franchise Consultant’s View

best franchises to buy

I’m asked all the time, “What are the best franchises to buy”?

Everyone looks at McDonald’s as one of the quintessential best franchises to buy, but, is it the best? For a select few, it’s terrific.  How about 7-11, arguably the largest franchise system in the US, is it the best?  I’m sure many people have done very well in that system.  Choice Hotels?  Great system, not great for everybody.

How about Subway?  KFC? Burger King?  All strong franchise systems with excellent name recognition, but in my opinion, and I owned a restaurant for 7 years, there are much better ways to make money than in the restaurant business.

So, what ARE the best franchises to buy? The truth is there are many, many terrific franchises available today and no two people are exactly alike.  Although there are certain attributes shared by all great franchises, the best franchise for my clients is the one that has each of those specific characteristics and aligns well with their individual profiles.  It will be a franchise that they can afford and one that will provide a system of support that utilizes their strengths and complements their weaknesses in order to help them achieve their individual personal and professional goals.

The fact is that a person cannot just call the corporate office and simply buy a franchise.  Franchises are awarded to new franchisees after candidates clear a series of qualification hurdles.  Simply said, if the franchise executive does not like the candidate or does not think they can afford to buy and build the business, a candidate will not get past the first, introductory call.

Choosing the right franchise

There are many great franchises.  I look for franchise systems that are leaders in their business categories and have been franchising long enough and have developed enough franchised units (50+) to be thoroughly vetted and experienced in the “business of franchising.”  I also look for brands that offer excellent training, pre and post opening, proven marketing programs, back office and operations information technology systems, and most importantly, excellent validation from current franchisees in the areas of unit level economics and value.

Many of the top franchisors now offer franchisees operational efficiencies such as call centers to assist in scheduling sales calls, new technology to aid in managing off site time & attendance and real time logistics, state of the industry Customer Relations Management systems and buying protocols formerly only available to large corporations.

When searching for the illusive “best franchise to buy,” it’s best to be prepared, honest and truthful about yourself and your situation in life.  Ask yourself: How much can I really afford to spend?  Do I have access to enough capital to live while the business is ramping up to support me?  Is my spouse supportive of my desire to become a business owner? Do I have the skills and personality necessary to sell my product or services?  The answers are embedded in the treasure map to finding your best franchise opportunities.

There are top franchise opportunities in just about every business segment;

  • The old standards of the service industries; painting, cleaning, renovation & remodeling
  • New businesses being spawned by new laws and evolving consumer buying habits
  • Businesses that identify environmental realities and address them
  • and of course businesses that address the aging of the Baby Boomers

Franchise ownership can be the ticket to the American Dream and finding your tailor-made best franchise to start can be like having the winning lottery ticket.  Identifying your ideal franchise will take time, effort and working with a professional who is experienced and can help you navigate through the due diligence of research, analysis and validation.

Masters/Area Development Types of Franchising Models

types of franchising, master and area development models

A Brief History of Franchising

Franchising as a concept has a mystical history,  but its roots have been traced as far back as the Roman Empire in the Middle Ages up through the rule of William the Conqueror in England.  It was carried on by Louis Xlll in France,  always associated with a granting of rights in exchange for something.

Today’s usage of the term as a business concept is widely accepted to be traced back to before the Civil War when two great US innovators designed systems to expand sales and service of their inventions.  Either Cyrus Hall McCormick,  with his mechanical reaping and harvesting systems,  or Isaac Merritt Singer with his new sewing machines,  are usually credited with its birth in about 1850.

Franchising is flourishing today.  According to the IFA’s most recent Franchise Business Economic Outlook Report,  franchise businesses will add 247,000 new direct jobs this year (a 2.9 percent increase to 8.8 million direct jobs over last year.)  The number of franchise establishments will grow this year by 12,111,  or 1.6 percent,  to 781,794. Economic output from franchise businesses is estimated to increase by 5.4 percent over last year to $889 billion. The gross domestic product of the franchise sector is projected to rise by 5.1 percent this year,  which is faster than the 4.9 percent GDP increase forecasted for the economy as a whole.  The franchise sector will contribute about 3 percent of the entire U.S. GDP in 2015.  I guess the Romans were on to something.

The Evolution of Modern Types of Franchising

Whether it be Singer,  McCormick or even Ray Kroc,  franchising has evolved to include many types of franchising development agreements;  Single Unit Agreements,  Multi-Unit Agreements,  Area/Regional Development Agreements and Master Franchising are the most common.  The one thing they all have in common would be a development schedule whereby the franchisee,  in exchange for fees,  is granted a license to develop one or more units within a defined period of time.  Although with each of these agreements the franchisor is growing its franchise footprint and regional branding,  typically the franchisee’s objectives as motivation to sign each type of development agreement will vary in many ways.

I would qualify Single Unit operators as investors mostly new to the industry and interested in “buying a job” or “testing the waters” of a new investment objective. Multi-Unit operators are more highly capitalized seasoned investors willing to accept a higher level of risk mitigated by more units and an asset rich exit plan. These are both operator driven models based on individual unit level economics whereby the owners are the operators of record.

Development Driven Models: The Best Kept Secret in Business Today.

Area or Regional Development models are popular and are used to quickly grow a brand footprint by selling large exclusive geographic development rights to sophisticated investors acting as sub-franchisors for their particular markets. These agreements are unique in the fact that they are sold only once.  and the motivation for these agreements varies from operator driven models.  As unit level success is paramount in both models,  developers are more interested in creating cash flow from the sale of initial franchise fees to offset their development fee and in long term residual income driven by the royalty share from the franchises they sell.

The profile of successful developers is typically entrepreneurs with proven business experience and substantial capital resources.  Often,  they have operated one or more franchises within the franchisor’s system or another franchise company.  They may also have organizational and financial resources sufficient to commit to a large-scale investment.  Historically that model has been used by franchisors in more capital-intense industries such as lodging,  restaurants,  and automotive rental.  Currently it is expanding into the senior/home care and even marketing industries.

The financial model works roughly like this in most cases. In exchange for a development fee based on a projected number of proposed units or on population demographics,  the developer would be granted the licensing rights to the number of units agreed upon or,  in some cases,  a non-capped number of licenses.  Normally,  they would share in the franchise fees for each new license sold and in the royalty stream produced by each of the units sold for the life of the agreement. Typically,  the Developer would be required to open and operate at least one unit to be used as a training hub.  The hub would be required to provide pre-opening training and ongoing support for the franchisees in his/her market.

This model can provide the developer with a steady cash flow and a residual income for twenty years or more.  The asset and income stream can have a huge terminal value as a valuable and sellable exit strategy.

Master Franchising: The Ultimate Best Kept Secret

Master Franchisees would negotiate for and ultimately buy the exclusive development rights for a brand in an entire business segment.  Geographic area could be nationally or even internationally,  and is used often to expand into new global markets.  These agreements could be sold for captive markets where the franchisor has restricted access.  They can also be used to leverage a franchisee’s practical knowledge of the competitive landscape and specific expertise within a market.

The best model would depend on the specific goals, business and market experience of the new franchisee.