When franchisors fail
Tuesday, 17 June 2008
By Jason Gehrke
The current implosion of the retail jeweller Kleins has again brought into sharp focus the tied destinies of franchisees with their franchisor.
Despite being around for 26 years, despite its large number of stores, and despite its wholesale and international operations, Kleins is now in its final death throes after the company’s administrators last week announced that out of 36 expressions of interest, none were prepared to buy the business.
In other words, it was too far gone to be rescued, and needed to be put out of its misery. And because the franchisor held the head leases on all of its franchised locations, it means the end of the line for its franchisees too.
For those franchisees who had staked all or part of their future prosperity on a Kleins franchise, this outcome must be devastating. In the main they will be left with next to nothing (or worse) from their franchising experience – no capital gain on the business asset they worked to build, a shop fitout that is now effectively worthless, and the prospect of hawking unsold products on the cheap at markets or on eBay to recover some of their stock outlays.
In the 2006 report When the Franchisor Fails, University of New South Wales academic Jenny Buchan looked at the critical issue of franchisee survival in the event that a franchisor collapses.
The result was not good. Buchan found that 13 out of 14 franchisees involved in a system collapse lost money – a staggering 93%. Most were unable to continue their businesses directly or indirectly as a result of the franchisor’s failure, and in addition to losing their own livelihoods, also had no option but to terminate the employment of their staff.
Thus begins a ripple effect that is yet to be felt to its full degree in the Kleins collapse. This collateral damage to those franchisees, their families, employees and communities is substantial, and forgotten amid the confusion around the demise of a high-profile brand.
At the time Buchan’s report was released, it was widely criticised by some high-profile participants in the franchise sector as scaremongering, and casting a shadow over the sustainability of the entire sector. Their interpretation of the report was completely at odds with the report’s underlying issues, and indicated that the franchise sector was only interested in good news about itself, and not prepared to consider potential downsides to franchising.
Buchan’s report found that 40 franchise systems had failed between 1990 and 2005, with the largest of these being the Traveland chain of travel agents, a subsidiary of Ansett. (Most of the Traveland franchisees were able to continue operating as independents or by joining another chain, but this is not an option for Kleins.)
The difficulty of finding details of failed systems meant those that had sunk without trace were not able to be included in the survey. The 40 systems that were included had an average size of 27 outlets. How many more systems that failed with far fewer outlets and which did not make it on to the research’s radar during the survey period may never be known. It is more correct to say that at least 40 systems failed between 1990 and 2005, but the number could be higher.
My own research analysing the advertiser list of a 1996 edition of Franchising Magazine indicated that of 113 franchisors then advertising for franchisees, 34 could no longer be found to exist just 10 years later – an attrition rate of 30%. Many of these were very small, start-up systems with a handful of outlets, but the consequences of their failure are equally devastating to their franchisees nonetheless.
Kleins and many other businesses today are sailing in murky economic waters. Not only are the conditions becoming unpredictable, but icebergs can appear from nowhere to sink a system, and with it, the dreams of its franchisees. An ever-vigilant franchisor captain and crew, plus a ship nimble enough to avoid disaster is essential for successful franchising.
Calls for an ACCC investigation of the Kleins franchisor may give its franchisees some hope of a future reckoning, but for many, the sinking feeling of being a passenger on the Titanic must be quickly becoming a reality.
Read more on Kleins and franchising
Jason Gehrke has a passion for franchising. He has been involved in the sector for 17 years as a franchisee, a franchisor, provided PR and marketing services to more than 30 leading Australian franchise systems, and presented to literally thousands of potential franchisees and franchisors over the years. He is a director of the consultancy Franchise Advisory Centre and is the immediate past CEO of automotive paint and plastic repair franchise, Kwik Fix International, a 2004 Australian Franchise System of the Year winner.
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Comments
K writes: It's nice to read the thoughts and kindness and I am one who believes that what goes around comes around. Kleins head office people could never know how it hurts to lose your marriage and health over the faith you placed in them and the ability that you were lead to believe they had.
You cannot ever understand what it is like to dread the mail and letters/phone calls from head office telling you are in breach of your contract for a stupid reason and yet they were always in breach but we could do nothing. They will never understand working seven days as the store you brought in good faith could not afford to pay staff let alone you.... as for your health, can you see it going down only to not be able to afford medication, and your credit rating gone due to inability to pay simple accounts.... Please someone make them accountable. I watched H.O. send people overseas only last year as incentive....please! I could see we were going down, why did they do that?
Why were they selling off company stores and closing company stores.... I am sure they were treading water to get though so that the francisee was left holding the bag. Kleins has so much to answer for, so much you need to pay back in your next life.... I just hope to get through this life and get older to see my grand kids grow up, however with the stress I am under I find it hard to get out of bed – I wonder if you do.
Sandra writes: What about this for a franchise plan? The franchiser does not recoup any royalty or advertising levy until each business meets the franchisor's advertised profit projections. I am sick to death of hearing of small business franchisees forking out massive royalty payments and getting nothing of benefit from the franchisor. Why is it that the franchisor demands royalties from struggling businesses when they can't even pay their suppliers.... the franchisor says "I'm OK Jack" and clearly doesnt give a toss about the suppliers; this is even more evident when the franchisor buys the debt for a 10th of its worth.
D writes: I am an ex supplier to Kleins. The franchisor purchased a large amount of my products three days before closing down. Now as an unsecured creditor I have no hope of ever getting any payment for this or previous deliveries. I will be selling my house later this year so that I can pay my creditors, but no-one seems to care much in Australia about trade credit issues. The attitude seems to be amongst retailers (including franchisors) that they can pay their bills when and if they felt like it. Unfortunately the Kleins stores I went into were tired looking and needed upgrading. I noticed also that my products (the product I will never get paid for) were usually marked up 350% to 450%. No wonder they had trouble with sales.
K writes: I am one of those franchisees and while my contract with Kleins was terminated not long ago I have lost everything. I am single with a mortgage and people to support. I am about to lose the lot because of the way Kleins was run and the pressure they put us under. Remeber the adage “what goes around comes around”. I am watching with interest what is happening. I especially want to see the ACCC look at their business practices and stop this happening to anyone else.
Les Stewart writes: My best wishes to all the Kleins investors.
J writes: I think it's important for franchisees to also take some lessons from this with regard to how they treat their franchisor. I work for a franchisor and am amazed at the attitude of many franchisees towards the franchisor, particularly when it comes to paying royalties and fees. How do franchisees expect their franchisor to survive and prosper if they aren't willing to pay their royalties. I think many franchisees forget that the franchisor is trying to run a business as well. While I know franchisors aren't perfect and some do the wrong thing, I get a little sick and tired of the "franchisor bashing" that appears to have become the flavour of the month, particularly with inquiries in WA and SA.
N writes on this and to J (above): Franchise bashing is the flavour of the month for one reason only and that is, franchisors behaving badly. Take it from me, why pay money for a service you often don’t get? Honesty and transparency from the franchisor would stop the bashing once and for all. These mugs deserve the bashing they get.
S writes on this and to J (above): Your world as a franchisor employee is miles away from the day-to-day realities of a franchisee's world. Do you have your life savings, home, health or sanity on the line? If you find things going pear shaped at work, what do you do? Write a resignation letter giving one or two weeks notice and you’re out of there on to your next job with no money lost. Not so for a franchisee. In these economic times with rising interest rates it could be months before a franchisee could sell their business, and if they're lucky they may break even.
As an employee you do your 38/40 hours per week and you know your pay will be in the bank every week/fortnight. You may even be lucky enough to be entitled to overtime. On the other side of the coin, it would not be uncommon for a franchisee to work 60+ hours a week in their store and then there is always the hours at home doing the obligatory paperwork, pays etc. I know some who would go weeks without paying themselves. I paid myself a paltry amount as I had a mortgage to pay and a child to feed, clothe and school. At times I worked 21 to 28 days straight, sometimes with only three hours sleep a night, with an hourly rate working out at about $3 during these times. And please don't assume that being a franchisee of a franchise system automatically means there is going to be a huge net profit at the end of the year.
Have you considered that in many cases it may not necessarily be an unwillingness to pay royalties but is in fact the financial inability to pay them.
Jenny Buchan's report found that 93% of franchisees lost their livelihoods from a franchise system collapse. Of these how many lost their homes, suffered health issues and mental anguish or suffered the disintegration of their families. It would be interesting to know how the board of directors/management team of these collapsed franchise systems fared. Did they lose everything or were they in a position to be able to afford the best solicitors and accountants to give them the advice on how to protect their assets?
You say you are sick and tired of the "franchisor bashing" well I am sick and tired of the "franchisee bashing". Some franchisors will have you believe that any franchisee who speaks out or takes a stand is a “bad operator” and is the maker of their own demise.
I commend the WA and SA governments for initiating their inquiries. But one has to ask why the Federal Government hasn't undertaken a full investigation into the franchising sector having received so many complaints and horror stories. The problems within the franchising sector have been escalating over many years and it is only through the increasing number of those willing to speak out will change come about to protect those contemplating entering a franchise system in the future. "Forwarned is to be forearemed".
To K and fellow Kleins franchisees and suppliers, my thoughts and best wishes go out to you.
Judy writes: You have no idea how many people will be affected by the Kleins collapse. Possibly the worst in Australian history. Unfortunately I am one of those people. If anything good can come out of this, something has to be done about leasing arrangements. To the 120 or more franchisees who are going through this, I know how it feels. It is like being in a non-stop nightmare. Good luck to you all.
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