Tips on How to Pick the Right Franchise
This article appeared in Issue 3#3 (March/April 2009) of Business Franchise Australia & New Zealand
Looking ahead to 2009, more people are expected to consider buying a franchise as the job market shrinks and unemployment grows. To buy and operate a successful franchise requires more than just having the cash or debt facility to pay for it. Potential franchisees must be prepared to do some serious hard yards to research and understand the business, the franchisor, and themselves in order to make the best possible decision.
And here is the first hurdle: A potential franchisee must be prepared to roll up their sleeves and put some real time and effort (as well as some money via personal development and professional advice) into their franchise search.
If not, they greatly increase their chances of picking the wrong franchise, and losing part or all of their investment. To increase the chances of picking the right franchise, here are some key pointers:
What should I look out for?
This boils down to three key things: Profitability, sustainability and strong, competent leadership. In good times, tough times, or any time, these three criteria remain the same.
Of course it’s rare that a franchisor will make representations about profitability or concede that their business is anything less than sustainable. It is rarer still that a franchisor would claim to have anything less than strong, competent leadership, so these concepts all need to be tested by a potential franchisee’s own research. If a potential franchise buyer is not prepared to invest the time to properly research what they are buying, then they must accept some or all of the responsibility if the investment fails.
How much time should I spend researching a franchise?
As a rule of thumb, I recommend that a first-time potential franchisee be prepared to spend at least one hour of research for each thousand dollars they are looking to invest in a business.
For a franchise that costs $50,000, that’s 50 hours of research. For a $100,000 franchise, that’s 100 hours of research, and so on. For a franchise costing $200,000, that makes a total of 200 hours research, or the equivalent of five weeks full-time work at 40 hours per week.
That might sound like a lot, but the saying that “a fool and his money are soon parted” might have been created specifically for those people who recklessly invest after making hasty, ill-considered decisions.
What sort of research should I do?
Such research might include (but not be limited to):
- Reading for themselves ALL the franchise documentation provided, in addition to getting advice from experienced business, accounting and legal advisors. Many franchisees fail to read their franchise contracts, and then afterwards discover they have signed for something that they didn’t know about or wouldn’t otherwise agree with. Reading the documentation for themselves will also help potential franchisees understand the advice they are being given, and to ask more informed questions of their advisors and the franchisor.
- Contacting all the current franchisees in the system (or at least as many as possible) to ask them about their satisfaction with the franchise, the lessons they’ve learned along the way, and the sort of research they did (or wished they had done) before buying the franchise. The list of current franchisees and their contact details will be included in the franchisor’s disclosure document, however this document may only be available at a relatively advanced stage of negotiations with the franchisor, and in the meantime, franchisees’ details or locations may also be available on the franchisor’s website and in the telephone directory.
- Contacting the former franchisees who have left the system in the last three years. Franchisors must provide a list of these franchisees and their contact details (where known) in the disclosure document. By contacting former franchisees, a potential franchisee will have an understanding of their satisfaction with the business and their reasons for selling or otherwise no longer being involved with the business. Again it is important to contact all (or as many as possible) of the names provided. Calling just one or two is likely to provide a distorted positive or negative view of the system, and only after contacting the full list can a potential franchisee develop a balanced view of the satisfaction of former franchisees and why they left.
- Compare concepts. There is usually more than one franchise concept servicing a market niche (however unique), so check out the value of the competing offer. Even if the initial investment price is the same, similar franchises may have radically different fee structures, marketing levies, support systems, purchasing or other arrangements that can radically affect the long-term value and profitability of the business, or satisfaction of the franchisee.
- Verify for themselves any statements or representations made by the franchisor, or issues raised when contacting current and former franchisees. This might include even spending time doing market research such as counting houses in a territory, searching ABS and other sources of statistical information, counting vehicle or pedestrian traffic and directionality outside a potential shopfront, or many other things. While this may sound tedious, it’s all part of ensuring that the facts being used to make the decision to buy the business are the right facts.
- Working part or full time for a period in a franchised store or territory to get a genuine feel for the business (in which case, the longer the better, and the one hour per $1,000 invested rule can be extended). People who have worked in franchises before buying them increase their operational proficiency and become culturally acclimatised to the organisation, thus reducing the likelihood of a horrible “I wished I’d known this before” moment after the investment has been made.
- Undertaking small business and franchise training courses and workshops. People going into self-employment for the first time don’t know what they don’t know and look to the franchisor to fill this void for them. This creates the opportunity for unscrupulous franchisors to abuse their trust, or for the franchisee to develop unrealistically high expectations of the system for which the franchisor cannot deliver. Understanding basic principles of franchising, as well as basic business concepts and financial literacy are essential to improving and maximising the long-term value of any franchise investment. The Franchise Advisory Centre (www.franchiseadvice.com.au) run a number of workshops, seminars and short courses, as well as various state and federal bodies, TAFE colleges and business/industry associations.
What are the best franchises in the current economic climate?
Established systems with a critical mass of profitable, satisfied franchisees will not only weather the current economic storm, they will come out the other side in top gear and quite possibly buy out or take market share from a competitor or two along the way. Furthermore, these systems will need to have dynamic and talented leadership teams, strong corporate governance, and enduring customer appeal.
Having said that, concepts such as “established”, “critical mass”, “satisfied”, “dynamic”, “talented”, “corporate governance”, and “enduring appeal” are subjectively assessed, and relative to the eye of the beholder. An evaluation of a system on these criteria might produce different outcomes for different people.
Cash businesses (or those with incredibly tight credit controls) combined with clever marketing and exceptional levels of customer service (and there are many examples of these in both service and retail franchise brands) that fit the above criteria will perform strongly in the next couple of years.
What about new franchises?
There is opportunity in adversity for any entrepreneur. New franchise concepts emerge in Australia at the rate of about 100 per year, however not all of these will be viable in the long run.
Businesses that help maintain the functionality and extend the life cycle of existing assets do well at times when people can not afford to buy new assets. For example, home maintenance and renovation, vehicle rejuvenation and accessorisation, etc, help extend the useful life of these assets when their owners can no longer afford to upgrade them for new homes or cars. Concepts (mostly mobile services franchises) that trade time for money by providing services will still experience strong demand, as their customers are likely to be working longer hours in jobs where they themselves will be expected to achieve more with less.
What should I be wary of?
The recently-unemployed, particularly those with sizeable payouts for years of accumulated service, holiday pay, etc, are prey for unscrupulous operators. As the economic cycle continues to turn, the ranks of the unemployed looking to buy a job via franchising will increase considerably as corporate layoffs and downsizing becomes painfully common.
These people, most of whom will have never been in business for themselves before, may well make excellent franchisees. However their potential naïveté makes them particularly vulnerable to poorly-considered decisions, hastened by unnecessarily eager franchise salesmen.
Anecdotally, many new franchises based on flimsy concepts sprung up during the last recession and lured the recently-unemployed with the prospect of easy riches. Unfortunately, few of these franchisors and still fewer of their franchisees have survived today. The key lesson here is to undertake proper research. (See research hints above).
What laws exist to protect franchisees?
It is also worth noting that although the last recession occurred before the Franchising Code of Conduct was introduced (ie. the laws that regulate the franchise sector), there is no amount of legislation that can adequately protect a franchisee from a hasty, unresearched and ill-considered investment decision.
Distributorships and licensed business opportunities are often advertised alongside franchises, but look, sound and feel the same as a franchise. No matter what they call themselves, if in the eyes of the law they are a franchise, then buyers are entitled to receive a disclosure document (containing a variety of important information as well as the lists of current and former franchisees critical for proper research), as well as a mandatory cooling-off period, recourse to mediation in the event of a dispute and all the other protections available to franchisees under the Franchising Code of Conduct.
The best way to distinguish between a legitimate franchise offering and something that is designed to separate an aspiring business owner from their cash is to educate yourself, and do your research. Only then can you make a balanced decision that takes into account your long-term interests.
Jason Gehrke is a director of the Franchise Advisory Centre and has been involved in franchising for 18 years at franchisee, franchisor and advisor level. He provides consulting services to both franchisors and franchisees, and can be contacted by email at email@example.com or by phone on 07 3716 0400.