PROFESSIONAL ANSWERS TO QUESTIONS FROM OUR READERS
I am looking at buying a mobile franchise and borrowing all the money I need to get in. Is that a good idea?
My recommendation is to have at least 50 per cent in cash, and not to borrow more than 50 per cent. The reason for this is simple. Let me give you an example.
Before you go and buy a house, you have already determined what price range you can afford. You know how much you have saved up and you have already been advised the maximum amount you can borrow – this is based on your level of income which determines your repayment which then determines the maximum amount you can borrow.
So, armed with this information, you now have a budget for the maximum amount you can spend to buy a house. The end result is that you are going to end up with a house that you can afford to pay off each week based on the income that you earn.
You should follow a similar process when buying a business.
Most accountants would advise you to never borrow more than 50 per cent of the capital required to get into that business. And I have to agree with that.
For example, if you are buying a business that has a total purchase price - including all the costs of acquisition of $100,000, my rule of thumb is not to borrow more than 50 per cent of the annual net profit of the business (before interest, tax and owners wages), or 50 per cent of the all up purchase price of the business, whichever is the smaller figure.
Don’t forget that loan repayments have to come from the profit that the business makes.
The rest of the money has to be in cash from your own resources – not borrowings against other assets.
Business loans are generally short-term loans of five to ten years (generally they will match the term of your franchise agreement), and have higher interest rates and fees. This means that your loan has to be repaid over this time period, therefore increasing the monthly repayment amount. Can the business afford to pay that each month?
In the example below, have a look at the effect of 50 per cent, 75 per cent or 100 per cent borrowing of the all up purchase price of a business at $100,000. Assuming the business makes you a $100,000 a year net profit (before interest, tax and owner’s wage), you can easily see that the more you borrow, the bigger the reduction in your final net profit.
Refer to March/April 2012 magazine for table
So you can see how important it is for the business to make this sort of profit consistently to be able to pay its borrowings. Can the business afford this each month? If it can, will it leave you with enough money to live?
These are simple enough calculations which I would highly recommend doing first when deciding first how much you should borrow.
There are plenty of challenges in running a business – why burden yourself with the extra stress and worry of borrowing too much.
I am looking at paying $50K for a mobile franchise business – how much money should I make from this?
Over the years I have spoken to many people enquiring about a Franchise. I always like to ask people this very question and the responses I get are varied and wide.
The answer is really simple.
If you were going to put $50K into your bank account in a term deposit you are going to earn about 4% to 5% interest – no risk!
If you put this money into the share market then you will probably earn a dividend from those shares of about 2% to 5% depending on the shares that you buy – but you are going
to take a lot of risk and who knows what the value of those shares will be when the time
comes when you want to sell them.
If you put this money into a business, then the amount of money it will make you will
depend on the risk associated with running that business. Most accountants you speak to will measure risk by placing a higher rate of return on the investment with the highest risk.
For example, a business that has a low perceived risk would expect good rate of return to be around 15 to 20 per cent. This means that the business has an 80 to 85 per cent chance that the earnings of the business will be stable and maintainable.
If the business has a medium degree of risk, then the required rate of return is around 20- 25 per cent. If the business has a high degree of risk, then the required rate of return is closer to 25-30 per cent.
So, using these figures, let’s assume that the mobile franchise business you are looking at has a high degree of risk and you will require a 30 per cent rate of return on your money–that is $15,000 (30 per cent of $50,000). Add to this the owners wage for running the business and the total of these two figures gives you a good idea of how much money you should be looking at making.
In determining the owners wage for running the business, all you have to do is look at the market place and find out how much you would have to pay an employee to run this business for you full time.
If your research determines that you would have to pay someone $55,000 per annum - then the total income that you are looking at is $70,000 per annum net profit (before interest, tax and owners wages). If it makes more than that then that is a huge bonus.
The most common asked questions when buying a franchise
I have been running my Bathroom Werx franchise system now for the last 26 years. Over this time I have spoken to hundreds of people who were interested in our franchise. The following is a list of the most commonly asked questions about our franchise over the years:
• How much can I make?
• How many hours do I have to work to make it?
• How much will it cost me to get into it?
• What are the rules of the franchise system?
• What happens when I want to get out –how does that work?
• Who does all the marketing, bookkeeping, debtor collection, administration?
• How often do I have to pay the royalties?
• How much tax will I have to pay?
• Do I have my own territory?
• Can I speak to some of your franchisees?
• Is there a lot of competition in this business?
• How long does it take to do the training?
• What market research do you have for my area?
These are all good questions for you to ask any franchisor about their franchise.
I have looked at a few mobile franchises and some have fixed fee royalties and some have royalties based on a percentage of the sales. Which one is better?
Every franchise system is different and has generally been developed to provide the most efficient way of running a business that delivers the best customer service possible. In deciding which one is better for you, it is important to have a gook look at the business itself to determine how much support you will need to run the business.
Generally, fixed fee systems are simple, easy to run businesses that do not require a lot of training and more importantly do not require a lot of ongoing training and support. As the franchisor only receives a fixed amount each month, there is not a lot of incentive for the franchisor to provide you with the range of support services that you would find in a royalty based system.
There is nothing wrong with that however - it really depends on what the business is. For example, if you run a house cleaning business, once you have been trained and your week is filled up with cleaning houses for your clients, then that is it for you. You have reached the limit of the income that you can earn. So a fixed fee for this type of business makes sense.
A royalty based system is a true franchise model, as the franchisor receives a royalty based on the sales you make in your business. The franchisor in these systems is motivated to help you grow your business - as the more sales you make, the more royalties the franchisor collects.
To help you achieve this, the franchisor generally provides a range of support services for their franchisees to help them achieve that growth. These support services cover marketing, advertising, operations, finance, administration, conventions, field support, etc.
So the answer to your question is that it depends on the business. Generally, the more sophisticated the business is, the more likely it is to be a royalty based system.
How do I decide what sort of mobile business I would like?
Ask yourself the following questions:
• Can I see myself getting up every morning and jumping in my vehicle to drive to my first job?
• Will I enjoy doing this work every day?
• Does my family support me in my decision in buying this business?
• Can I work with the people in the franchise organisation? Do they give me confidence in their abilities to run the franchise?
• Can I put in the hours required to run this business every week?
• Can I work on my own every day?
Getting into business is a serious undertaking that is going to consume a lot of your waking hours. So it is a good idea that the business is something that you enjoy doing.
You will be putting a lot of hours into your business especially in the first few years, so having the support of your family is very important.
George is CEO of the Bathroom Werx Group. A CPA by profession, George began as a franchisee in 1986 after a career in merchant banking and finance. He then became the franchisor in 1988 and began franchising in 1990.
George is one of Australia’s leading exponents of service franchising and is the Past Chairman of the Franchise Council of Australia.
Bathroom WERX renovates over 200 bathrooms every month around Australia for their customers.
Contact George at: