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Investigate & Evaluate
Knowledge is the best strategy for picking a successful franchise
Compared to starting your own venture, franchising is a great way to achieve the freedom of owning your own business while having the added security of the support and guidance provided by the franchisor. While some people invest in franchises expecting to realize their fortune, most make such an investment to secure a steady income with relatively low risk and increased independence and satisfaction. Many, but not all, franchisees enjoy a good return on investment in addition to paying themselves a good management salary.
Franchising is usually a safer investment than opening a similar independent business if the franchise is part of a solid franchise concept. Successful franchise systems have a proven brand, concept and history of success, as well as ongoing support and training.
Nonetheless, it is essential to practice due diligence when considering a franchise to ensure the franchise concept and system are solid.
You should also assess yourself. Be clear about your interests and expectations. Draft your own business plan and outline your career and financial goals. Make sure the franchise you have in mind interests you, will help you meet your goals and that you have an interest in and aptitude for the work. Be cautious if the franchisor fails to investigate you as thoroughly as you investigate the franchisor. Success in franchising is based on mutual dependence. If a franchise is unsuccessful, the franchisor, as well as the franchisee who fails, will suffer. Not only does the franchise unit fail to produce an ongoing revenue stream for the franchisor, but it can also take up a tremendous amount of the franchisor’s time and effort to either salvage or resell the franchise. Strong franchisors go to great lengths to select an appropriate franchisee. The best strategy for picking a successful franchise is to learn everything possible about the franchise. Conduct a diligent and thorough investigation of the franchise company. Consult a franchise expert, your lawyer and accountant. Just as the franchisor will be assessing you, you should be assessing the overall franchise.
You are probably investing a good deal of your future in the franchisor, so do not hesitate to ask a lot of questions. A franchisor should have no hesitation in providing the necessary information to a qualified franchise prospect and should respect the fact you are investigating their franchise system. The framework of a solid franchise system is comprised of seven key elements: franchisee selection, training, communications, marketing, problem-solving, rewards and corporate culture. To help assess the viability of the concept, be sure to ask the franchisor questions designed to determine whether the framework that supports a franchise concept is in place.
Balance Your Decision-Making
To be a successful franchisee, you must have a passion for the business, understand it and be capable of financing it. Emotion and logic should be balanced when making the final decision about purchasing the franchise. You should feel good about the business and the people involved in the franchise and excited about the opportunity. However, logic should prevail in decisions involving consumer acceptance, risk analysis, availability of product and demographics.
The Product or Service
Does the product or service have a widespread consumer demand? Selling a new concept to the general public can be expensive and risky. Ideally, consumer demand for the product or service should have already been established. It then becomes a matter of gaining market share rather than market acceptance. Consider these elements:
• Marketability
• Customer satisfaction
• Competition
• Ensure the product or service cannot be easily duplicated and sold more cheaply
• Ensure it is competitively priced
• Determine if the franchisor has a strategy for taking on the competition in your market area
• Determine whether there is a fully developed business format for you to follow
• What assurance do you have that the franchise will be able to continue getting you the product at a fair price?
Location and Other Considerations
A good location can make or break any business, including a franchise. If location is decided by the franchisor, make sure you understand the reasons for the site selection.
• Determine whether the defined market area you will serve is reasonable by relating its size and population to the sales projections you are given
• Study the area’s demographics
• Investigate any plan to change the zoning, transportation system or other vehicle access to the proposed location
• Be absolutely clear about the level of control the franchisor will exert over your operations
• Determine the extent and frequency of the reporting you must provide
• Examine the purchasing and warehousing systems used by the franchise company
• If the franchise system utilizes central purchasing, be sure this can translate into reduced acquisition costs for you. This will enable you to meet, or beat, the competition’s prices
• Specify the costs and fees you must pay to the franchisor
• Determine the franchise fee/royalty payment schedule and compare this to the cash flow of the business
• Find out if you will be required to maintain a certain level of equity. Make sure it is reasonable
• Who negotiates the terms of the lease?
• Make sure the lease provisions are appropriate to your needs
• Determine whether the franchisor holds the head lease and whether you will be a sub-tenant or if the lease will be in your name directly
• Clarify whether the building specifications, floor plans and fixture layouts are your responsibility
• How does the franchisor resolve franchisee disputes?
• What assistance does the franchisor provide to troubled franchisees?
• What are the franchisor’s policies for dealing with personal crises, disability or death of franchisees?
• Determine the provisions that will prevail if you choose to sell the franchise
• Will the level of investment, the nature of the industry and appeal of the franchise attract franchisees, ensuring the system will grow and the franchise can be re-sold in the future?
Most people do not enter a business with the thought of selling it. However, it is a sensible approach to develop a business with the intention of resale in the future. You must have a way of liquidating your asset. The only way to realize an increase in your equity is through the eventual resale of your business. A franchise should sell faster and for a higher price than an independent business by virtue of its brand recognition and other franchise advantages. A franchisee must look at the broad appeal of the franchise opportunity to other would-be franchisees, taking into consideration all of the factors that influence the growth of the total franchise system. Many of the benefits of franchising, such as advertising and purchasing power, will be lost if the franchise system does not grow.
Talk to Franchisees
Talk to several franchisees and ask them:
• Were the franchisor’s financial projections of revenue, expenses and profit accurate?
• Were there any unexpected costs?
• Did the franchisor provide enough assistance opening your business?
• How effective are the franchisor’s advertising and marketing campaigns?
• Did you receive adequate training?
• Have you had any disagreements with the franchisor? How were they settled? Were you satisfied?
• Are there any aspects of the business you do not like?
• Are you satisfied with your investment?
• Would you invest in this franchise again?
Size up the franchise owner. Is this the kind of person who will help the franchise concept succeed? Does this person show leadership ability? Business experience and maturity? Drive and commitment? Organizational and people skills? Sales or technical skills appropriate for this concept?
Buying a Franchise in a New System
Available franchises should be divided into two groups: those that are well-established and those that are new. It is important to remember that well-established franchises are not the only businesses to consider worthy of purchase.
Established franchise systems often have strong brand recognition, a reliable customer base and thoroughly developed systems in place. However, the rules are more stringent and there may be fewer locations available.
With a new franchise system, there is often a great amount of flexibility with the rules and the ability to experiment with the basic business. There is greater opportunity in terms of available territories and working with the franchisor to refine the concept and systems. Conversely, a new system may not have any franchisees, making it impossible to speak with past franchisees as part of your research. It may also be difficult to obtain financial information on the franchise.
A prospective franchisee should require the new franchisor to make some degree of financial disclosure. Once obtained it is important to examine the information carefully with the help of an accountant to determine if the franchisor is capable of sustaining the growth of the system during the initial lean years.
Generally, a potential franchisee should make a greater effort to scrutinize the capabilities and business plan of the new franchisor and to meet the members of the team who will be responsible for training, opening assistance, advertising and product development. If the risks are acceptable to the investor, there can be some decided benefits in a new franchise system. The fees, whether initial or ongoing, can be less. The potential is greater for capital appreciation. New franchisors may be more likely to accept changes to franchise agreements. And franchisees can often have more of an impact on changes to the system.
Investing in a Resale Franchise
The resale market offers the opportunity for investors to obtain established businesses. Investors considering the resale franchise market must investigate not only the franchisor and the franchise system, but also the business at the particular location, the current franchisee and why he or she is selling.
Each of the components that go into generating existing sales revenues, profit margin and goodwill must be thoroughly investigated to establish who ultimately owns each element and how it is controlled as part of the business. The exiting franchisee should provide financial statements for at least the last three years. The statements should be examined to see if the conditions under which the sales volumes and profit margins were achieved still apply.
In the resale franchise, the equipment is not new and repair and renovation work may be needed. But a customer base has already been established for the franchise location, staff is already trained and familiar with the system and local marketing may be easier as the location may have been part of the community for some time. If the resale franchise is one that appeals to you, is viable and free and clear of third party claims, it could be a worthwhile investment.
The Critical Factors
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Disclaimer: The opinions or viewpoints expressed herein do not necessarily reflect those of the Canadian Franchise Association (CFA). Where materials and content were prepared by persons and/or entities other than the CFA, the said other persons and/or entities are solely responsible for their content. The information provided herein is intended only as general information that may or may not reflect the most current developments. The mention of particular companies or individuals does not represent an endorsement by the CFA. Information on legal matters should not be construed as legal advice. Although professionals may prepare these materials or be quoted in them, this information should not be used as a substitute for professional services. If legal or other professional advice is required, the services of a professional should be sought.
Posted Date: February 2011