Is it really a good idea to invest in a franchise?
Wednesday, February 23, 2011/
Franchise businesses are attractive to first-time business owners.
In most cases they offer a tried and tested way of doing business that removes a lot of start-up risks.
Despite the benefits there are still a number of key issues that you need to consider before signing up.
Some of the benefits of buying into a franchise include existing brand awareness and marketing support provided by the franchisor, market knowledge of products or services, established business systems with ongoing support, designated geographic operating territories that manage competition, combined buying power with suppliers and reduced failure rates compared to other small business start-ups.
It’s not all upside though. Some of the cons include royalty fees paid to the franchisor reducing profits you can take, less freedom in decision making, higher start-up expenses and a possible bad choice if you haven’t covered all the bases when evaluating whether to buy into the franchise.
Comprehensive due diligence is the key to making a sound decision about investing in a franchise business and many of the considerations are financially based.
One of the key areas to evaluate is what your investment costs will be – franchise fees for the initial purchase can be as low as $10,000 or as high as $1m.
The franchise fee normally covers licensing costs to use the franchise name, rights to use the systems, as well as the cost of training, support and site selection. Specific software requirements may also be built into the franchise fee.
Additional costs might include fit-out (equipment, furniture, fittings and signage), inventory (products you need to stock) and other supplies involved in running the business (office supplies for service-based businesses or cups and utensils if you’re in the food service sector, for example).
You also need to factor in costs for legal and accounting advice, staff recruitment, insurances, Workcover and any finance lending you require.
In addition to the franchise fee you will typically pay ongoing service fees or royalties to the franchisor and possibly a franchise renewal fee.
You may also require working capital to ensure that you have sufficient cash to meet the day-to-day needs of the business and finance the gap between when you outlay operating costs and recover those costs when your customers pay you.
When all those costs are taken into consideration the three most important questions you need to address are:
- Can you afford to invest?
- Is the franchise well run?
- Will you get the return you expect?
It’s important to be clear that you’ll have the funds required before you spend too much time and energy negotiating with the franchisor or heading down the path of choosing a site and starting training.
Training could be a substantial investment because some franchise training programs run for six months full-time, when you won’t be earning an income.
It could all be a waste of time if it turns out that your bank is unwilling to provide any loans you may require.
Banks will request information and reports from you or the franchisor in order to assess your lending needs.