SIX STEPS TO SUCCESS WHEN BUYING A FRANCHISE
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Franchise buyers are faced with more choice than ever these days, so how do you choose one that will work for you? Glenice Riley helps you narrow down the options
New Zealand is the most franchised country in the world. As the latest Survey of Franchising shows, there are 631 different franchise brands here, and more are being created or imported every week. That means the potential business buyer is faced with a huge range to choose from. In addition, some 10 percent of the existing 37,000 franchise outlets may be for sale at any time, adding established businesses to the mix and making your decision even harder.
But the truth is that of all these potential businesses, only a few will actually be right for you. Think of it like buying a car. When you start considering the car you are going to buy, there are various things you need to take into account: your budget; what sort of motoring you do; how many people you carry; reliability; safety; running costs, and so on. By the time you have listed all these factors, you will have reduced the possibilities from thousands to a realistic few models. You can do the same when you buy a franchise, only you will want to do it even more carefully. After all, a business is not only more expensive than a car – it is also going to take up your time and effort, and possibly represent a major change in your life’s direction.
So let’s say that you have decided the time has come to buy a business of your own, or to move on from the business which you already have. You want a franchise but you’re not sure what to choose. The following six steps are designed to help you narrow down the opportunities from the hundreds available to the five or six which may be right for you. The trick is to be methodical – and honest.
Buy only what you can afford in today’s dollars
Franchises, like cars, come in all shapes and sizes, and certainly in all sorts of prices. You can invest $20,000 in a business, or $1 million – it’s up to you. That is, assuming that you have the money (see our article What can you afford?).
If you take a ‘blue sky’ approach to choosing a franchise, it can be very easy to get carried away. What happens if opportunity ‘A’ sounds just right for you and offers exactly the kind of work you have always wanted to do, but requires just a little bit more than you have to invest? It’s very tempting to persuade yourself that you can manage if you borrow a bit more, scrape by for a bit at first, and then make the additional payments from the growing profits which will undoubtedly follow.
Wrong! You will already have quite enough challenges in front of you when you start a new franchise business: new responsibilities, new premises, new staff, new customers, perhaps a whole new industry. The last thing you will need is to give yourself constantly nagging worries about your finances. So buy only what you can afford in today’s dollars. I know this may sound harsh and yes, there are always examples of people who have managed to achieve success on a shoestring, but remember this – not having enough capital to support your business as it grows is the biggest single reason why new businesses fail. If your franchisor or your bank know that you are going to be taking on more debt than you can realistically handle, they will quite rightly prevent you from proceeding. They don’t want a failure on their hands any more than you do. So be honest with yourself and with them.
Is there any way round this? Well yes, if you have patience and determination. If you really want the $150,000 franchise but can only afford the $50,000 one, then swallow your desires for now. Buy the smaller business, work hard, build it up over a couple of years then sell it and move on to the larger one. This is an increasingly common approach for people getting into their own business. In fact, I know of one person who started with a $7,000 franchise several years ago who used the cashflow from the first franchise to fund a second and so on. He eventually owned four franchises with a combined turnover above $2 million. It is possible – but you have to be disciplined about it and start off with something you can afford.
On the other hand, if you have the funds to support larger scale business then there are other options. The franchise sector has evolved. As well as attracting traditional single-unit franchisees, it is increasingly appealing to ‘super franchisees’ who own a number of outlets within one franchise or even in different franchises. Some franchises also offer Area Development Agreements which give you an umbrella contract with the right to open an agreed number of franchises in a geographic area in a set time frame. You then oversee management of a chain of franchise units operated by employed managers. Think outside the square.
Financially, you also need to look at what return you must get from your new business in order to meet your other commitments. If you are used to a $70,000 salary, say, you might find it difficult to manage if you buy a business which is projected to earn you less than this. Of course, if you are using the franchise as a starter vehicle designed to give you a rapid capital gain so you can move on to something bigger then this may be a sensible strategy, but you would be very wise to discuss this with your financial advisors before making any decision. You also need to know what you can afford to borrow – ie. what level of repayments your preferred franchise will support.
So by taking a very simple step of working out what you can afford, which will also give you the return you require to meet your commitments, you can immediately knock out perhaps two-thirds of the franchises available. Using the serch function on this website you can see what is available in each price range. The process works like a filter, refining the choice of franchise for you. However, this is just the start. You mustn’t assume that if you look for a business which you can afford then everything else will work out well. Purchasing any business is a financial decision, but because it involves your life as well as your money, there are many other factors to consider.
If you are looking at investing your savings and your future in a new business, you want to make sure that it has a sound future – and that is partly dependent upon the industry in which the business operates. I wouldn’t be confident about opening a franchise in an industry where there has been a reduction in sales or investment. The recent economic environment has challenged businesses across most industries. Look for franchises within industries that have improved sales in this period. In addition, we live in an age where technological advances have made industries disappear virtually overnight. Unless the franchise can clearly demonstrate that it can effectively harness technology in the future, I wouldn’t waste my time looking at it.
Equally, in some new fields where technology is racing ahead I would be a little concerned about how the franchisor could keep me ahead of the race and, indeed, what the cost of such updates might be. The trend is for technology to become not just more affordable but so affordable that everyone who needs something can have it – think of computers and colour printers, for example. To maintain a saleable advantage in such an industry, the franchisor and franchisee must constantly re-invest. Consequently, the margins must be higher in direct proportion to the risk.
Make sure that you research the industry very closely. Look for news stories on the internet (but make sure the source is reliable). Buy the trade magazines and read not just about the new products and the fantastic sales but about the long-term changes. Go back through several issues and look for news stories on the internet. Do you know anyone in the industry? Pump them for information and opinions. Look for trends (positive or negative) which could influence the business. If you are comfortable with a higher level of risk, fine - but make sure you do your research and are aware of the dangers. It’s your future.
My personal advice would be to pick an industry which offers a future but also offers some stability. It’s no surprise that modern franchising started in the food & beverage industry. People will always need to eat and drink, just as houses will get dirty, cars will need repairs and grass will always grow. But there are other strong sectors as well – two of the fastest-growing right now are hair & beauty and building & renovation.
In the same way we reduced our original 631 possibilities to 100 by looking at price, you can expect your choice of industry to reduce the number even further. Just by rejecting the industries you’re not sure of, in two well-researched steps you have narrowed your field from 631 down to – where are you now – 30 different franchises? We know what we can afford and we know the industries to stay away from. What’s next?
Your new business has to suit you and your family
The third step you have to take could be the one which causes the most soul-searching. This is one which is often overlooked, but I recommend you take the most time over. The question is which, of those left, is really going to suit you? What fits your inner desires, not just the financial ones? Do you have the skills and personality to do the work required? What is going to make you happy when you go to work? What are you passionate about?
It is worth asking your friends and family what kind of business they believe you will be most successful in. They may have a different perception of your talents than you have yourself. One lady I know took years to convince that she had incredible sales skills – but the moment she moved into a sales role, she flew. You may have skills which you hardly use in your business life, but which your friends see all the time.
It’s worth remembering that most small businesses involve some sales activity and require good communication skills. Are you the kind of person who likes dealing with the public? Even if your preferred franchise might allow you to work ‘out the back’ while your partner handles the retail side, you may still have staff to manage. Are you comfortable as a team leader? Do you have business management skills? If so, you may want to look for a franchise that allows you to build a team of employees.
While all franchisors provide some degree of training, it makes sense to choose a franchise which makes use of any special skills or interests you might have – a Caci franchisee, for example, is likely to be passionate about the beauty industry. Leading franchises may provide a career ladder where there are opportunities for you to build on your industry skills and develop into managers, and ultimately owners, of your own franchise business. Be warned, however, that some franchisors are not always keen to take on people who have the belief that they know all about an industry and have limiting pre-conceptions or old habits that won’t die, to the detriment of their new business. Accordingly, many franchisors would prefer someone from outside the industry to join their team.
How does your family feel about the businesses you are considering? What does your partner think? Are they enthusiastic about the business too? Will they be available to assist you when you really need them, if not in the business then through taking additional responsibility at home while you are working long hours? Are they absolutely supportive of your new direction? These are vital questions because you can be sure that if they do not support you totally right from the start there is every chance that you will not make a real success of the business.
It’s because of that that most franchisors now interview both partners, whether both will be working in the business or not. They know how important it is that a hardworking individual needs the support of his or her family to be able to maintain the effort required to establish a successful and rewarding business – in fact, statistically the most successful partnerships are those between spouses or siblings. However, you should be asking yourselves these questions even before the interview stage: does this business fit me, my skills, my partner and my family?
And there’s one last aspect to cover at this stage: does the business fit you socially? Do you just love to go to the rugby every Saturday? You might not be able to do that if you have a retail business. Does your service club meet every Thursday evening? If it does, how will that fit in with a business which requires you to be open for late night shopping? And will you really feel happy down at the golf club telling people that you are no longer sales director of a well-known national company but the owner of a fast fry chicken franchise? In other words, does the business fit you?
So now we’ve used price to reduce the 631 to 100, industry to get down to 30, and suitability to reduce your options further. Now you’re looking at a manageable number – perhaps 5 franchises – and can start to get really detailed.
Use a system of questions to select the best opportunities from your chosen few
If I wanted to buy a franchised hamburger restaurant in Auckland, the first option that springs to mind might be McDonald’s – and why not? They have the world’s best-known brand, systems which have been refined over 70-plus years and a training regime second-to-none. In other words, consider the best first.
But the obvious choice may still not be the right one for you. It may not be available in the area you want, or the culture may not suit you, or it may not have the growth potential. You need to use a logical system of questions to help you make a valid comparison between the five or so possibilities you have left.
The questions you need to ask are likely to fall into the following general areas.
Business Experience How long has the company been operating, and how long has it been franchising? If there are already successful franchisees, it suggests that the system works and your risk is therefore lower.
Franchisor Experience Who are the franchisors? How long have the franchise’s directors and team been involved in franchising? Can you work with the decision makers? Apart from your life partner, this will be your next most significant long term relationship – make sure you can relate to them.
Research Is the market right for the product or service? Is there a long-term future for the business? How will it be affected by the growth of internet marketing or the impact of new technology? Is it a fragmented market where the brand and systems of a franchise could create opportunities for rapid growth?
Financial/Costs What is the real cost of the franchise – fees, set-up costs and working capital? How does the franchisor make money? Is there a large initial franchise fee, an ongoing royalty fee which is fixed or based on turnover, or a mark-up on products sold to you by the franchisor?
Performance What figures can the franchisor produce to back up his claims? Are they based on fact? Are the sales levels realistic? Who is already achieving them - and can you talk to them?
Marketing Does what the franchisor tells you about the product or service’s competitive advantage and the future of the industry match your own researches?
Selection & Training What training will you receive initially? How long is it? Where does it take place? What does it cover? Is there a separate fee for initial training? Some franchisors split the franchise and training fee so franchisees can claim the training fee as a business expense immediately, rather than amortising it over the term of the franchise like the franchise fee. Is there an additional fee for ongoing training? Is ongoing training offered for both you as a franchisee, and for your team?
Support What level of support can you expect? Will you have regular visits from a member of the franchisor’s team? Does somebody help you analyse your performance and suggest improvements? What benefits can the franchisor offer you through group purchasing?
You need to get the answer to all these questions and more for any franchise which you are seriously considering. Many of the answers should be contained in the disclosure document which any good franchisor will have prepared, but Franchise New Zealand also publishes a helpful list of Over 250 Questions To Ask Your Franchisor.
After you have done this, you need to take your list of questions along to the franchisor and write down the answers that you are given. There will be too much information for you to remember, particularly if you are talking to several franchises at the same time. Once you have the answers, review them in the cool hard light of another day. Sit down at home, perhaps with the family, and make some accurate comparisons with the information you have gathered. If you have asked the same questions of each franchisor, you will not be comparing chalk with cheese. It should be obvious exactly what each franchise offers, and therefore which one best suits your requirements.
So from 631 we are now down to perhaps just a couple. What next?
Ask for input from experienced financial and legal advisors
Gut feel is often valuable in choosing something that you want to do and people who you really want to work with, but if you are making a major financial decision you would be foolish not to get as much good professional advice as you can. Franchising is about reducing risks, but you have to play your part too. The figures are hard to come by, but I would estimate that the majority of franchisees who have run into trouble have failed to do their homework properly and take sensible advice beforehand.
You will need to see an accountant to verify any financial projections produced by the franchisor and to help formulate a business plan based upon your own individual financial position. This plan should allow for varying levels of sales in your business, and should give you an understanding of the impact that variations in borrowing levels, sales, costs and cashflow could have upon your new venture. It is worth using an accountant with experience of franchising, as they will have a better understanding of what is involved and the potential value of the brand, training and support offered.
You can save yourself money by doing a lot of research and some of the number-crunching yourself. However, at the end of the day if you are thinking of investing your hard-earned money in a franchise then you must put those figures before an experienced accountant and heed the advice he or she gives you. The results could narrow your preferred choices even further.
With the franchise agreement, like it or not you must see a solicitor. This is a binding legal document which will have an impact upon the way you run your business for the next five or ten years. A good franchise agreement will be basically fair to both parties, but remember that it was written by the franchisor’s solicitor with the aim of protecting the rights of the franchisor and all the other franchisees in the system as well as you. You need to make sure that the agreement gives the franchisor the ‘teeth’ to deal with other franchisees to protect your investment, and that in doing so it does not unreasonably restrict your rights.
Take the agreement and go through it yourself with a fine toothcomb. Pick out the points which are unclear, difficult to understand, or which appear to be biased against the franchisee. Then ask a solicitor to explain the agreement to you and give you guidance on these points especially. It is important that you are clear about the details of the business you are buying. Most franchise agreements are non-negotiable, so your lawyer’s primary role is to make you aware of the implications of entering into the agreement.
As with accountants, it is best to use a specialist franchise lawyer – there is a list in the Directory on page 86 of this magazine. They will have a better understanding of what is and isn’t fair and reasonable within a franchise relationship, and can save time and even money through that knowledge. They may also have some ‘inside knowledge’ of the franchise you are considering which may be the last piece of the jigsaw for you. Costs can blow out when advisors are consulted who don’t specialise in franchising, as they have to put in extra time to learn about a whole new area – and even then, their advice may not be the best. Now is not the time to cut corners. An inexperienced advisor could end up costing you more than their fee.
Don’t expect your lawyer or accountant to approve or endorse your choice of franchise; they are paid to be cautious on your behalf and to point out potential pitfalls. Don’t be too discouraged or back out of a franchise if you are keen, until you’ve identified if the issues raised are real. Go back to the franchisor with any questions, or talk to other franchisees in the system – they know the business and can often provide the answer.
When new franchisees do fail they often turn out to have taken a ‘she’ll be right’ attitude at the start. For this reason, many reputable franchisors now require new franchisees to certify that they have consulted a lawyer and/or accountant prior to signing the franchise agreement. Nobody wants a franchisee to fail.
Invest only after due consideration
If you have followed the steps this far, researching and carefully weighing up all the information which you have gathered, congratulations – you have probably spent more time investigating your requirements than 99 percent of business buyers. You will certainly have collected more information than most, and be better equipped to make a valid judgement on whether to take up the opportunity or not.
Now we come down to you – how do you feel about this new opportunity? After all this work, you probably feel as though you have been squeezed through a filter yourself. Are you nervous, excited, scared, eager..? All of those emotions are perfectly natural. The important thing is that you are able to make your decision based on real knowledge and hard facts. From over 631 opportunities, you have selected the one for which you are best suited. You know what the business involves. You have your friends and family behind you. You have taken professional advice to minimise the risks and reduce the unknowns. You are now in a position to make a rational, informed decision. Is this your future?
Analysis can cause paralysis. There comes a time when you really have to back yourself. The choice is up to you. So go for it!
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