How to Research a Franchise
Return back to main pageResearching A Franchise Business
Review of the business before you buy a franchise
Is the franchise model viable? Can it make money?
There are a number of steps to take to before your buy a franchise. The process can take up to 90 days or longer depending on your goals and objectives. Before buying a franchise, you want to learn the business model and make sure it works and can be successful in your market. You will also want to have a firm understanding of the franchise management team, learn if the franchisees are happy and making money, review the Franchise Disclosure Document (FDD) as well as the Franchise Agreement. Information below can help you with your research.
Does the franchise model work? Can it generate the revenue to be successful in your marketing? Does management have a strategic long term vision for the business? Once you have identified a franchise that peaks your interest, you will first want to understand if the business model works and has long term viability. Here are some things to consider:
The value of the name and brand recognition for the company and its product or service.
Does the franchise have their trademarks properly registered?
How long has the franchise been in business?
Does the franchise have a good reputation for quality products or services?
Does management have the right experience to lead the company?
Does the franchise devote adequate resources to the success of the franchisees?
Are the franchisees happy, successful and making money?
Reviewing the FDD – The Franchise Disclosure Document is an important document to review with your attorney. For more information about the FDD please click this link.
Franchisor’s Experience – Many franchisors operate well-established companies with years of experience both in selling goods or services and managing a franchise system. Some franchisors started by operating their own business. There is no guarantee, however, that a successful entrepreneur can successfully manage a franchise system. Find out:
How long the franchisor has managed a franchise system?
Are you comfortable they have enough expertise in the industry?
Validation with Franchisees – The validation process is when you speak to current and former franchisees to assess their satisfaction with the franchise. This is one of the most important parts of your research. When speaking to franchises, try and understand their background and their skills and understand what makes them successful. Here are some additional questions to ask:
How long the franchisee operated the franchise?
Where are they located? Are they happy with their location?
Understand their total investment, including any hidden or unexpected costs.
How long it took them to cover operating costs and earn a reasonable income?
The quality of the training and on-going support.
Their relationship with the franchise? Are they happy?
Does the franchisee recommend the investment?
Review of Earnings Information – You will want to assess how much money you can make if you invest in a particular franchise system. Be careful. Earnings information can be misleading. Insist on written substantiation for any information you may receive that suggests your potential income or sales.
Franchisors are not required to disclose information about potential income or sales, but if they do, the law requires that they have a reasonable basis for their claims and that they make the substantiation for their claims available to you. ALL INFORMATION REGARDING POTENTIAL EARNINGS SHOULD BE DISCLOSED ON ITEM 19 OF THE FDD.
When you review any earnings claims, consider:
Sample Size – Say a franchisor claims that franchisees in its system earned $50,000 last year. The claim may be deceptive if it doesn’t represent the typical earnings of franchisees. The disclosure document should tell the sample size and the number and percentage of franchisees who reported earnings at the level claimed.
Average Incomes – A franchisor may claim that the franchisees in its system earn an average income of, say, $75,000 a year. Average figures tell very little about how individual franchisees perform. An average figure may make the overall franchise system look more successful than it is because just a few very successful franchisees can inflate the average.
Gross Sales – 5 Some franchisors provide figures for the gross sales revenues of their franchisees. These figures don’t really tell about the franchisee’s actual costs or profits. An outlet with a high gross sales revenue on paper may be losing money because of high overhead, rent, and other expenses.
Net Profits – Franchisors often do not have data on net profits of their franchisees. If you get net profit information, ask whether it includes information about company- owned outlets; they often have lower costs because they can buy equipment, inventory, and other items in larger quantities, or they may own, rather than lease, their property.
Validation with Third Party Sources – In addition to speaking with franchisees and the franchisor, you can learn more about the franchise by speaking with additional sources like financial institutions, the Small Business Administration (SBA), Dun & Bradstreet reports and the Better Business Bureau (BBB).
Discovery Day – This is when you visit the headquarters of the franchise. It’s an opportunity to meet the management, tour current locations and see if you are comfortable with the business.
Before You Sign the Franchise Agreement
Work with your CPA and a Franchise Attorney
Work with your CPA and a qualified franchise attorney
In addition to reading and reviewing the disclosure document, peaking with current and former franchisees, it’s recommended you work closely with your CPA and qualified franchise attorney.
An accountant can help you understand the company’s financial statements, develop a business plan, assess any earnings projections and the assumptions they’re based on, and help you pick a franchise system that is best suited to your investment resources and your goals.
A franchise attorney can help you understand your obligations under the franchise contract. These contracts usually are long and complex. It’s better to have a clear understanding of your obligations prior to signing your agreement and paying the franchise fee. Franchise law is a very specific field. It’s best to work with counsel who works exclusively in the franchise industry.
The Decision to Buy A Franchise
Have a Business Plan When Buying a Franchise
Starting your business may take several months. Estimate your operating expenses for the first year and your personal living expenses for up to two years. Compare your estimates with what other franchisees have paid and with competing franchise systems. You may be able to negotiate a better deal with another franchise system. An accountant can help you evaluate this information.
I Want to Learn More About Buying a Franchise!
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If you’re serious about buying a business and want to learn more about how our franchise consulting and brokerage services can help you please call 866 934 7167 or email us at info@sunshineconsultingltd.com.