May 27, 2010 by Frank Goley, Business Consultant
A Franchise System can be a very effective way to open and operate a small business, especially for those without a lot of experience in operating and owning their own business. There are many advantages in using a Franchise System, such as, turn-key operations, marketing and business planning; large corporate support; lower learning curve; established accounting, cost control and management systems; brand identification; training programs; national and regional advertising; customer service programs; market trend responsiveness; supplier and vendor discounts; among others. However successful Franchise Systems are expensive. The fees / costs consist of a franchise fee, royalty fees and start-up costs. So it is very important to have a solid due diligence process in place to determine if a particular Franchise Opportunity is right for you, and whether the costs to establish and run the franchise match the effectiveness of the Franchiser’s Package Offering.
Types of Franchising Systems
Product / Service and Trademark Franchising
This is an arrangement which the franchisee is granted the right to sell a well recognized brand. Most franchisees concentrate on one franchiser’s product/ service line, identifying their business with the franchise. Examples include: Automobile Dealerships, Gas Stations, Soft Drink Bottlers, etc. The franchiser exercises little control over the franchisee’s business, with the product/ service integrity being the biggest concern of the franchiser.
Structure and Responsibilities
— Franchiser provides a Standardized Product
— Franchisee Pays Franchise Fees and Responsibilities include:
ü Control System
ü Operating System
ü Accounting System
ü Building, Equipment, Signage
Business Format Franchising
Franchisee is granted the right to use a turn-key marketing system, with substantial assistance and guidance from the franchiser. Types of franchises include Restaurants, Retail, Hotels, Business Services; Automotive Products, Parts and Services; Convenience Stores; Entertainment Centers and so on.
Structure and Responsibilities
— Franchiser provides:
ü Building Plans
ü Equipment & Signage
ü Marketing System
ü Business Plan
ü Operating System
ü Training Personnel
ü Accounting System
ü Control Systems
— Franchisee provides:
How to Determine if a Franchise Opportunity is Right for You
Franchise Analysis Checklist
Ø About The Franchise
ü Has your attorney approved the franchise contract?
ü What legal grey areas have been identified?
ü Will you have exclusive territory?
ü Does the franchiser work with any other franchise handling similar products and services?
ü What are the Franchise Contract termination penalties?
ü If you sell your franchise, will you be compensated for goodwill?
Ø The Franchiser
ü What is the franchiser’s number one focus?
ü How have franchisees in the past run into trouble? Difficulties?
ü What skills franchisees need most?
ü How are conflicts resolved?
ü Request the bios of Top Management. Do they have entrepreneurial backgrounds?
ü Do the franchiser’s earnings claims differ from their Franchiser Disclosure (FDD)?
ü Has the Franchiser executed detailed due diligence on your qualifications?
ü How many years has the Franchiser been operating?
ü Does the franchiser have a reputation among the franchisees, competitors and business world for honesty, integrity, accountability and fair dealing?
ü Has the franchiser shown you certified and audited financials on franchisees in your region and area which you can validate?
ü Does the franchiser provide Executive Management and Personnel Training Programs?
ü Does the franchiser provide any Capital or Credit?
ü What merchandising Programs and Training does the franchise offer?
ü Will the franchiser assist with site location?
ü Does the franchiser have adequate financing to implement its Franchisee Plan?
ü Does the Franchiser have a highly trained and experienced management team?
ü What can the Franchiser bring to the table which you can’t adeptly do yourself?
ü Has the franchiser complied with State Laws in the past? What State Laws are in place regarding Franchise Sales?
Ø The Franchisee
ü How much Equity Capital will you need to:
§ Purchase the Franchise?
§ Operate until Break-Even?
ü Where will you get the Equity Capital?
Note: Please see my Articles on Small Business Finance for extensive resources and information on obtaining business capital and commercial finance.
ü Are you prepared to give up some independence for the advantages offered by the Franchiser?
ü Do you believe you have the qualifications to succeed as a franchisee? What other Personnel resources can you provide?
ü Are you prepared to spend a majority of your business life with this franchiser?
Ø The Market
ü Does an adequate market exist in your area?
ü Will the market support the price level of the franchiser’s products and services?
ü What are the population demographic trends for your territory over the next 5 years?
ü What will be the demand for your product and service in 5 years?
ü What is the non-franchise and related franchise competition in your territory and region?
Examine Franchise Opportunities
v Determine which franchises are growing fastest.
v Research market growth possibilities.
v Consult Entrepreneur Magazine for its comprehensive Franchise 500 Listings.
v Utilize the U.S. Commerce Department’s Franchise Opportunity Handbook, which is published annually.
v Contact the International Franchise Association for assistance.
Determine What the Franchise Can Do for You
Typical Franchiser Services
ü Start-up help, to include market analysis, site location, financial advice; building and equipment design and purchase.
ü Successful Operational System.
ü Accounting and Cost Control System.
ü Monthly operating results support; performance standards; financial auditing; franchisee financial comparative analysis.
ü Financial Assistance: land, building, equipment, inventory and working capital.
ü Site purchase assistance.
ü Standardized Construction, Design and Signage.
ü Training Programs.
ü National and Regional Advertising Program.
ü Brand Recognition Promotion.
ü Customer Services Standards and Program.
ü Responsiveness to market changes.
ü Supplier discounting via large volume ordering.
Franchise Due Diligence
Examine more than one franchise and compare / contrast through a standardized checklist (see previous section). Investigate franchises in the same line of business.
Speak with Existing Franchisees
Ø Contact several franchise owners listed in the FDD, as well as, not referenced by the Franchiser to solicit their experiences.
Ø Seek out franchisees that have been in the business over 5 years.
Ø Talk with experienced franchisees about what to expect during the first year of operation- the typical success or failure period for a franchise.
Ø Ask franchisees to share their Business Plan with you. This gives you an inside track on the operational and planning expectations for a typical franchise, along with keys to success.
Ø Ask franchisees what the Franchiser does to justify all the fees charged.
Ø Determine how well prepared franchisees were when opening the franchise. Surprises? Franchiser weaknesses?
Ø How effective are the Marketing, Promotion, Branding and Advertising Programs? Do they bring the right customer to franchisees?
Ø Determine the real financial numbers. How much to open a franchise? How quickly a franchise started making money? Get the real story and compare it to the Franchiser’s disclosure to determine credibility.
Ø Do your research and homework prior to meeting with Franchisees so you don’t waste their time and you appear serious.
Ø Make a good, professional impression on franchisees as they often will report their impressions to the Franchiser.
Ø Understand where the franchisee is coming from: i.e. Someone close to your territory may give you faulty information if he feels competitively threatened. Or, a franchisee may overstate his/ her success.
Ø If allowed by the FDD, consider a Joint Venture with an experienced Franchisee. An 80/20 relationship can make a lot of sense to both the new and experienced franchisees in a proximate region or area.
Ø Try to spend an entire day with each Franchisee. This is the only way to get a true fell for the franchise and determine why the franchisee is successful (or conversely, why he/ she is blowing smoke). Build a relationship with franchisees, and you will be more apt to receive honest, diligent and detailed feedback.
Ø Ask franchisees if the franchiser encourages the franchisee to share feedback, ideas, successes, failures and whether these experiences get incorporated in the field.
Ø Is the franchisee happy with their life post franchise opening? Is the business enjoyable?
Ø For more ways to get a franchisee to open up to you, visit Entrepreneur.com
Seek Professional Advice
v Franchise Attorney and Accountant
v Franchising Consultant
v Business Consultant
v Finance Consultant
Understand your Legal and Ethical Rights
Ø The International Franchise Association serves Franchisers in more than 50 countries and has a code of Franchisers’ Ethics and Obligations to Franchisees.
ü Franchiser members pledge to comply with all laws and make complete, accurate, non-misleading disclosure statements and documents.
ü Franchiser members pledge to only accept franchisees that meet prescribed qualifications.
Ø Understand your rights if the Franchiser attempts to buy back the franchise.
Ø Issues to explore:
ü Captive Supplier Pricing
ü Inadequate Service
ü Slashing Support Services
ü City and State Laws & Regulations regarding Franchises
Posted in Business Franchise.