Buying a Franchise Business? Here Are 5 Tips Before Making The Buy

5 Keys to Consider When Thinking About Buying a Franchise

There are thousands of franchise opportunities for entrepreneurs seeking a proven brand concept. The top franchise industry is fast-food with McDonalds leading the pack. But there are other hot brands out there based on need and niche markets.

According to Washington, DC-based International Franchise Association, an industry trade association, roughly 825,000 franchise businesses across 300 different business categories provide nearly 18 million jobs and generate over $2.1 trillion to the economy.

Purchasing a franchise, whether it be an existing one or a new development, can be a major investment on the part of the potential entrepreneur.

“As with any investment, one wants to make sure that they are gathering as much information as possible to position themselves for success,” says Kevin Hicks, a Partner with Blackman and Associates, a franchise consulting firm with offices in New York and Atlanta. Blackman & Associates identifies viable and lucrative franchise opportunities for both startups and existing businesses.

Hicks, who has also been a multiple unit owner of several food franchise concepts, offers five keys to consider when evaluating a franchise purchase, regardless of what brand.

1.  Return On Investment. Conduct research into what gross revenues and profit margins are for your desired franchise business. You can get this information one of three ways. One way, all franchise companies are required by the Federal Trade Commission to provide a disclosure document called the Franchise Disclosure Document (FDD). The FDD is a valuable tool when examining a franchise. I recommend that all potential franchisees review it and engage an attorney to do so with them as well. It is full of all kinds of information about costs, expenses, brand leadership, products offered, and services provided by the franchise company. It also can also provide earnings information in Item 19 in the FDD.

Contrary to popular belief, all franchise companies can provide earnings claims, but most do not. There are well known brands that are showing leadership by having FDD’s that do provide earnings and profitability for their franchise. Meinke Car Care, Firehouse Subs, Fastsigns, Anytime Fitness, Dunkin Donuts, Popeye’s Chicken and Biscuits, 7-Eleven, and GNC all provide earnings claim statements.

A second way to get this information is get the contact information of current owners from the FDD and find out what the earnings are on average.

A third way to get earnings information is through identifying annual lists from industry research firms, like Technomic.

2.  Support Services and Training. There are two primary benefits of buying a franchise. One benefit is it is a proven system for doing business, with training in business accounting systems, management strategies, how to utilize local and national marketing programs, group purchasing power, teaching hiring practices, and how to maintain inventory control.

The second benefit of franchising are the support services offered by the brand to increase your chance for success. When you have a franchise you are in business for yourself, but not by yourself. The franchisor only makes money if you make money. As such they have a vested interest in your success. To that end, the best franchisors provide support to their franchisees in a variety of ways, such as sending out company consultants to assist with ideas of how to fine tune operations, recommend local marketing strategies, and other suggestions on how to increase profitability.

3. Marketplace Presence. The factors that make up market presence are a) number of closings, b) lawsuits against the franchisor, market saturation of stores, and c) planned future development. Lawsuits against the franchisor are required to be listed in the FDD. You should review them, as this will tell you the problems that may exist with the franchisor and its franchisees. Market saturation limits the potential sales of your business because of the presence of too many stores in a particular area with the same brand. Too many closings may mean that the brand is not highly desirable or viable in your market, or maybe even nationally. Inquiring about future development will share with you the opportunities for future growth and expansion. It will also tell you the demand for the brand in the marketplace.

4.  Number of Corporate Owned Stores. This information tells one where the focus of the franchisor is with their business. If a brand has more than 15% of its units owned by the company, is that franchisor focused on assisting franchisees with increasing their sales and profitability or on operating their corporate units? The percentage of corporate stores speaks to the brands concentration on effort. The primary purpose for company owned stores should be to set operating standards, and to maintain control of product or service offerings. Franchise segment leaders such as Anytime Fitness, Dunkin Donuts, and Liberty Tax Service, have less than 5% corporate owned units.

5.  Reputation in Lending Community. Access to capital is a key component in the success of any business. Franchising is no different. Whether it be start-up, expansion or working capital, how a brand is perceived in the lending community is extremely important as it relates to your ability to secure financing for your franchise. The number of loan defaults of a franchise concept will frame how receptive the lending community is towards financing a particular brand. Question several lenders about a possible loan to your prospective franchise business to get a feel for its marketplace desirability.

Also, check the federal government’s annual Small Business Administration (SBA) franchise loan default list. This list shows the percentage of franchise loan failures from the lowest rates to the highest. Brands such as Anytime Fitness, Comfort Suites Hotels, and Massage Envy all have less than five percent SBA default rates.

“Much like franchising, following these five key considerations won’t guarantee success, but doing so will greatly minimize the risk of your investment,” adds Hicks.