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How to choose the right franchise - Part 2
How to choose the right franchise - Part 2
By Nick James on May 18, 2011
In part one of this article we looked at how to create your list of potential franchises and the initial stages of the evaluation process that follows, following part one you should have a good idea of what you want out of a franchise and have put together a short list of the franchises that you think suit your needs best.
In part two of this article, we will look at how to shorten this list again with the next phases of the evaluation process.
Application Forms/Confidentiality Agreement
A good franchisor will generally want some detailed written background about you at a reasonably early stage in the recruitment process. This will normally include the signing of a confidentiality agreement because they will be divulging to you the intimate workings of their operation and rightly require some protection in this regard. The information they generally look for covers your previous business experience, qualifications or technical experience, questions concerning your personality or character and an evaluation of your suitability for this franchise. It is important for both parties that they are aware of your financial resources and obligations at an early stage, as it is pointless carrying on with the process if you cannot afford the business, or meet the working capital requirements.
If your partner or another persons is to be involved either operationally or financially there may well be a requirement for information on them to be submitted, they may be asked to complete the same set of information requirements. Also you will probably be required to provide references and an authority for the franchisor to run a credit check on you.
Field Visits and Talking to Franchisees
This is where reality bites. You may have this ‘idea’ of what the business is like, which in reality may be completely different. There is nothing like getting out on the road in a franchisee’s van or serving customers in a retail outlet to get a feel for the operation. Be wary of franchisors who don’t offer you that opportunity of either visiting or working in the field. It is a sure sign there is something to hide. At the same time, remember there are also the potential for poor performers in the field, franchisees that are not representative of the system or achieving the results that you could.
Where there are not existing franchisees but only company outlets or companyoperators exist, insist on spending time with managers or employees to get a feel for the operation. They are the closet things to franchisees that exist. Again, remember that they may have their own agenda or point of view. Where there are franchisees already in the network, speak with them as much as possible. They are already in the market trading as a franchisee and working with the franchisor. There is plenty to learn from them. Ask about the marketing, the support services provided, the competition, the day to day experience. Ask them what they think it takes to be successful, what type of person is suited to the role. Then you can evaluate yourself more closely to see whether you are suited to the business.
Armed with this intelligence, you should have answered some of your questions or doubts and have further questions or doubts and have further questions that you should now direct to the franchisor.
Disclosure Document and Franchise Agreement
Franchise Disclosure Requirements
The Code requires that all franchisor members supply franchisees with a Disclosure Document and prescribes that it must contain certain information as mentioned above. Under the Code, franchisors must provide a Disclosure Document to all prospective franchisees at least I4 days prior to signing a franchise agreement. This Disclosure Document must be updated at least annually, and must contain certain specified information.
The disclosure document should include:
- A company profile with details of the company and its officers. The purpose of this is to enable the potential franchisee to do their own checking on the particulars of the people involved in the franchisor company. It does not remove the onus on the buyer and his advisers to exercise due care, but it does provide the necessary information to check.
- An outline of the franchise and this must include:
• History of the system.
• Trade mark particulars.
• Details of all payments to be made by the franchisee to the franchisor.
• Details of any amount refundable if the agreement is terminated after a deposit is paid.
• A summary of terms and conditions for purchase of goods A summary of terms and conditions relating to termination, renewal, goodwill and assignment of the franchise.
• Summary of the main obligations of the franchisor By setting out clearly the terms and conditions upon which the franchise is to be sold and operated well in advance of signing an agreement, the franchisor is ensuring the dearest possible understanding of the nature of the arrangement for the potential franchisee. By bringing out the key points of the franchise proposition, franchisees are less likely to miss vital information that may influence their purchase decision.
Financial
There must be a list of components making up the franchise purchase for example, the franchise fee, along with costs. It must also include details of any financial requirements by the franchisor (e.g. required equity levels), and provide a certificate of solvency signed by the directors of the franchisor company. This enables the purchaser to confirm that the costs of establishing the franchise are reasonable, and that both they and the company have a clear understanding of each other’s financial position.
References
The document must contain a list of existing franchisees and company outlets, along with details of any franchises terminated or not renewed in the past year and information on any outstanding litigation. As mentioned, prospective purchasers are always well advised to talk to existing franchisees about any system which interests them; this makes the process easier, and also enables checking of details.
Projections
Where figures are included, they must be clearly qualified as to whether they are examples of actual performance achieved, or that they are projections. If the latter, the basis of any assumptions made must be included. There must also be a clear statement of what is and is not included (for example, an owner’s drawings or the cost of servicing loans) and confirmation that the figures do not represent a guarantee of performance. Purchasers can reasonably expect an outline of what the business they are buying might achieve, but this is an area fraught with danger as, in business nothing is certain. The purpose is to qualify the figures by how they why they are prospective business.
Real, Fair And Truthful
The purpose of a disclosure document is to arm the franchisee with real, information intended business. By setting this out clearly, the potential franchisee and his or her advisers are in a better position to make an informed decision as to whether to proceed. The disclosure document should contain all the information necessary, nothing relevant should be left out.
Getting Professional Advice
It is important that you utilise the skills of experienced professional advisers prior to making the decision to buy a franchise. The advisers that are most relevant here are your accountant, lawyer and bank. What you have to remember in obtaining this advice, si that advice is only good to take when it comes from experienced impartial advisers who have a good understanding of the strengths and weaknesses of franchising.
There are plenty of examples of advisers who have directed potential well performing franchisees away from good franchise systems due to their ignorance or bias. Don’t let that happen to you. Seek out advisers who are experienced in franchising, and check their experience before deciding to use them. If you have a longstanding relationship with an accountant or lawyers who is inexperienced in franchising but whose advice you trust, then seek that advice from experienced professionals to compliment that advice.
Financial Advice
When getting advice from your accountant it is important that you provide them with all the facts. Every bit of documentation that has been supplied to you should be passed to the accountant to enable them to get an accurate perspective on the franchise proposition, not just the financial information. The Disclosure Document in particular must be fully evaluated by an accountant.
From there they can help you in the following areas:
Prior to choosing the business:
- Evaluating the quality of the franchise proposition
- Evaluating your financial situation and ability to buy and run the business
- Evaluating your potential as an operator of the business (particularly if they have known you for a while)
- Explaining the financial implications of the franchise structure to you
- Appraising economic and industry factors and their relevance to the franchise
After having made your decision to proceed:
- Preparing detailed cash flow projections for the short and long term.
- Determining your borrowing requirements for both the purchase of the business, purchasing equipment and providing working capital to support the business in the early days.
- Helping you choose and establish the operating structure you should use (limited liability company, partnership, sole trader etc).
- Working out how to structure the business purchase and ongoing operation as beneficially as possible in relation to tax.
- Helping with the organisation of any reporting, fee payment or record keeping requirements of the franchise system.
- Providing general business and financial advice regarding the establishment and initial running of your business. Specific questions that your accountant and you should ensure are addressed are included later in this guide.
When approaching your bank for finance, it will be important that the hard work has been done by your accountant so that you can find out as soon as possible what financial assistance the bank is prepared to give. The franchisor will usually have a good idea of what financing is required and any appropriate leasing or financing options you should encourage your accountant to speak directly to the franchisor. This will also give your accountant more insight into the franchise and the quality of the franchisor.
Be careful not to leave the decision making to anyone but yourself. Familiarise yourself with all the documentation, and use your accountant to improve your understanding and inform you of the business and financial implications of entering into the franchise. Then make up your mind.
Legal Advice
Once you have determined that, from a business point of view you are interested in proceeding with purchasing the franchise, you should see a lawyer. Again it is essential that your legal adviser has franchising experience. Franchise propositions can be legally complex and only those lawyers with franchising experience and a commercial bent are generally qualified to provide comprehensive, concise and cost effective advice.
The lawyer will require as a minimum a copy of the Franchise Agreement and Disclosure Document. Before going to see your lawyer however, it is a good idea to have read the Franchise Agreement yourself. While you may not understand it all (as there are specific terms or language that may be foreign to you) it will raise a number of questions that you can direct to the lawyer to ensure they are covered, and answered for you.
Key issues that a lawyer will be able to provide advice on include: term and renewal, territory and exclusivity, termination, assignment, performance criteria, obligations of the parties, and fitout and purchasing obligations. An explanation of key elements of the Franchise Agreement is included later in this guide. Remember that the lawyer’s role is to help you understand the agreement, and make you aware of the implications and potential risks of the franchise proposition. Their role is not to make up your mind for you. That decision is yours. The lawyer’s role is to provide you with the wisdom from which to make a balanced decision.
Summary
Remember when choosing a professional adviser that, because they are providing you advice on a life decision, your choice is an important one. Talk to a few different advisers, see who you feel you can relate to, and who demonstrates that they understand the role you require of them. Ensure they are qualified, do have the experience that they claim to have, and ask for a list of clients they have worked for. There is no harm in checking references to ensure that they are indeed appropriate to provide you with quality advice. Always ensure that you are aware of how they charge and get at least an estimate of fees for the assistance they are to provide. Advisers need to make a living too, and if you use them more, they will charge you more. just because their hourly rate is high however, doesn’t mean that they are not good value. Remember, this is a big decision, so it’s best you are fully armed with the intelligence you need to make the optimal decision.
And don’t forget to take all the time you need!