last updated 22/07/2019
Benchmarking For Buyers
last updated 22/07/2019
Dean Madsen of Westpac provides some tips on using franchise benchmarks to make a good purchase decision
If you fail to plan, you are planning to fail. It’s a remark often attributed to Benjamin Franklin, and it’s true. If the key to success is to have a plan, though, then an important part of planning to succeed in business is the use of benchmarking information which allows you to compare your own performance against the performance of others.
This is an area where being part of a franchise can give you a real advantage. Benchmarking can involve comparisons between franchisees operating exactly the same system, as well as against competitors. Key performance indicators (KPIs) can not only measure financial ratios within the business, but also measure business processes and operational performance as well as customer satisfaction.
For example, McDonald’s measures the length of time customers wait in line at their Drive Thru windows as they recognise that shorter drive queues help boost sales. Domino’s measures how long it takes from when a pizza order is received right up until it is delivered. This allows them to look closely at every step of the process to identify opportunities to reduce delivery times and improve customer satisfaction compared to their competitors. They have also gone a step further in that they share this information with the consumer through their GPS Pizza Tracker, where you can literally follow your pizza online from making right to your door.
As these examples show, benchmarking is most effective when it doesn’t just measure KPIs, but uses the information to identify opportunities for business improvement which could lead to higher sales, improved margins or both.
how does it help?
For a franchise system to be successful, both the franchisee and the franchisor need to make money. If the franchise system does not have proper financial reporting in place that allows them to analyse the performance of their franchisees, the franchisor will have no idea if their franchisees are under financial stress. By the time they find out, it may be too late.
Benchmarking allows the franchisor to monitor and improve performance of the franchise system in a number of ways. These include:
• Checking the effectiveness of promotions and their impact on franchisees’ sales and gross margins;
• Comparing performance between franchisees and identifying areas for improvement, such as sales, margins or wastage;
• Identifying any negative trends across the group so they can make necessary changes to improve or maintain profitability;
• Measuring results both within the franchise system and externally against industry norms to ensure competitiveness;
• Testing new initiatives within a single store or sample group and comparing results against other stores;
• Helping create a healthy competitive environment between franchisees where lessons learned are shared.
what’s this got to do with my bank?
Benchmarking is particularly useful in preparing projections when you are opening a new outlet. That applies to a franchisee’s finance provider, too – at Westpac, when assessing applications for funding we use benchmarking to help us consider the cash flow projections provided by the applicant.
For example, the below table could represent a performance range across a whole franchise group, or a range represented by stores within the group with similar demographics to the proposed outlet.
Using the varying financial ratios in the above scenario will enable you the buyer and/or your bank to get a better understanding of how your new franchise might perform in each situation and what level of earnings you could achieve. This helps you gauge whether the level of earnings will be sufficient to provide a satisfactory return on investment and enough income for your personal needs. It also helps the bank gauge whether the business will be able to service the level of loan required.
Of course, it is not enough just to get a sufficient return to meet your loan obligations and take a satisfactory drawing from the business: you should also look for a reasonable return on your investment as well as being able to continue to invest back into the business to keep up-to-date with new equipment and fit-out as required.
how do I know how my business might perform?
In a typical franchise, the majority of franchisees operate within the middle sales range, a percentage will perform at the top of the range and some at the bottom end. Variation can occur for a number of factors, including location, parking available, customer mix, size of market and proximity to customers, etc. Benchmarking allows you to drill down into these factors to see where your own location might fall.
If the proposed location stacks up, you can then examine how the level of rent for your new outlet compares to other stores in the system given your expected sales. If the rent cost seems reasonable, that’s a positive sign; however, if it appears too high, then your business may struggle to be profitable.
It’s also important to understand other ratios such as Gross Profit Margins, Labour to Sales and Expense to Income ratios, and to be aware what external factors may impact these ratios. Margins may be impacted by increased competition or higher commodity costs; increases in the minimum wage could lead to higher labour costs. The more you understand all these elements, the better the decision you will make.
one last thing
There is one last ingredient that benchmarking data can’t take into account – you. Ultimately, if all the figures stack up then your level of success will depend mostly on your passion and your ability to run the business successfully.
Buying a business will inevitably be one of the most stressful things you ever do, but the more you understand about it in advance, the better prepared you will be to run it properly. Using the available benchmarks is a vital part of that process that will reduce the risks. Involve a specialist franchise banker and use their experience to help you. Rather than failing to plan, you’ll be planning to succeed.
The information contained in this article is intended as a guide only and is not intended as an exhaustive list of matters to be considered. Persons entering into franchise agreements should seek their own professional legal, accounting and other advice.
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