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A Guide to Franchise Financing

Guest post by: John Henning

Article Overview: So you've decided to buy a franchise. Congratulations! Franchising is a great way to go into business for yourself with reduced investment risk. Associating with an established company provides instant name recognition as well as access to training and ongoing support to help ensure your business is a success. Now it's time to determine how you will finance your new business. Fees associated with purchasing a franchise may include franchise and royalty fees, equipment, inventory, working capital and more. The first step is to take inventory of your financial resources by creating a personal finance statement to verify your net worth. This statement should include a listing of both your assets and liabilities.

A Guide to Franchise Financing

So you've decided to buy a franchise. Congratulations! Franchising is a great way to go into business for yourself with reduced investment risk. Associating with an established company provides instant name recognition as well as access to training and ongoing support to help ensure your business is a success. Now it's time to determine how you will finance your new business. Fees associated with purchasing a franchise may include franchise and royalty fees, equipment, inventory, working capital and more. The first step is to take inventory of your financial resources by creating a personal finance statement to verify your net worth. This statement should include a listing of both your assets and liabilities.

A list of your assets may include:

* Cash on hand

* Checking and savings accounts

* Real estate/property

* Automobiles

* Investments such as stocks, bonds and securities

* Pensions and IRA's

Once you have determined your resources available to put towards a new business, you can decide which financing option is right for you based on the start-up and total capital required. Below are some of the options available for financing a franchise:

Cash

Depending on the amount of liquid capital you have access to, you may be able to pay cash for your business. However, you should be sure that you'll still have enough cash on hand after purchasing a franchise to grow your business, especially if you are interested in a multi-unit operation.

It's important to consider that approximately 99% of businesses are started with borrowed money, including many of today's largest corporations. So don't feel that you need to have all of the cash required for your investment on hand, or that you must use all of your available cash to start your franchise business. There are many other options available to supplement cash investments.

Conventional Loans

In general, lenders are more likely to approve loans for franchisees versus independent business owners. However, keep in mind that most lenders will require you to put down approximately 30% of the total capital needed to purchase your business. In addition to a personal finance statement, most lenders will also require you to provide a detailed business plan describing how your business will operate. The plan should include projected income and expenses through the first three years of business.

Remember that you must do your homework before approaching a lender. They will want to know that you have researched all aspects and feel confident that you are capable of operating a successful business. In addition, it's also a good idea to pull your credit report before meeting with a lender to identify any mistakes or negative reports so that you can correct any errors as well as be prepared to explain any past credit problems.

SBA Loans

You can find out if you are eligible for a U.S. Small Business Administration (SBA) Loan by contacting your local SBA office or a lender. Though these loans are furnished by private banks and other traditional lending institutions, a portion of the loan is guaranteed by the U.S. Small Business Association. The benefits of an SBA Loan for franchisees include expedited loan processing, competitive rates, and longer terms. As well, most of the bank fees often charged with a conventional loan may be waived with an SBA guaranty.

You can also look into whether or not a franchise is listed on the Franchise Registry when selecting an opportunity. Loan applications for SBA approved franchises are typically reviewed and processed more efficiently by the SBA and its lenders because through the Registry process the franchise agreements have already been reviewed. Franchises not listed on the Registry must have their agreements reviewed and evaluated at the time you apply for SBA lending which can take time.

Franchisor Financing

Some franchisors may provide either direct or indirect financing for franchisees. Direct financing, where the franchisor directly finances the franchisee, is less common but some companies do offer it. With indirect financing, the franchisor locates a third-party lender for the franchisee through a company the franchise has an established relationship with. Still, with either type financing, you will be expected to pay a percentage of the cost just as you would with a conventional loan as franchisors rarely offer 100% financing. Some franchisors may also offer leasing options for hard assets such as equipment, vehicles or machinery.

Retirement Funds

Another alternative to traditional funding options is to tap into your 401(k) or IRA funds to start your business. Qualifying retirement funds may be drawn upon as a capital source without incurring taxes or penalties, and can also be used in conjunction with traditional and SBA financing helping to alleviate some of the debt associated with obtaining a loan.

Second Mortgage

A second mortgage loan may be obtained on your home or other piece of property and in some circumstances can be the simplest way to get the money you need to buy a franchise. Rates are typically low and the interest can be written off. However, it is important to keep in mind that you could be risking your home when choosing to obtain a second mortgage on your primary residence.

Investors

When you borrow from a lending institution to finance your business, you retain full ownership of the business and have no further obligations once the loan has been repaid. With an investor, you don't have to repay the money invested in the business, but you will share the profits.

There are two types of investors, active and passive. Generally, active investors take part in the day-to-day operations of the business and passive investors do not. If you do decide to use an investor to help finance your franchise you should consult with an attorney to draw up an agreement.

The bottom line is that investing in any opportunity involves some degree of risk. You must decide based on your resources, responsibilities and ability to sacrifice the best way to move forward keeping in mind that it may be a combination of a few of the options discussed above. Do your research and have all documents in order so that you may present yourself in the most attractive light to lenders, and remember that persistence pays off.

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Article Tags: franchise financing, franchise funding



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Re: Info for would be franchisers... - [quote="Sebastien":1d29sdv1]Like Franchise Times, Franchise Update is a very practical magazine. There is no blah blah, just straight facts that anyone in the franchise community can relate to. I just want to mention that all these magazines are NOT franchisee oriented. I mean these magazines are for franchise professionals. If you're looking to buy a franchise, you won't find much information in there. To answer your question, getting published in Franchise Times was fairly easy. I don't want to brag too much but I think I am known in the franchise industry. I was the marketing guy at Franchise.com for a few years before joining my new company, the World Franchising Network. So people know me and I have a very good relationship with Nancy Weingartner, the Managing Editor at Franchise Times. I was talking with her at the last Franchise Expo South in Miami and she mentioned she'd like me to be profiled. I was like "ok, sure!". I like this franchise executive profile thing in Franchise Times as it is rarely BS. People are usually really natural in there.[/quote:1d29sdv1] Thanks for the follow up Sebastien! And I can't say that I'm surprised that networking with the right people and managing your relationships with them properly are the keys to being published. I guess the old adage holds true of "it's not who you know, but who knows you" that's important.
how much for a franchise fee? - Dear Colleague There is no easy answer to this question. Things to consider: [list=] The sizeof the Franchise Clent base Expected Turnover Intellectual Property costs (recoup) Number of Franchises Number of employees Original Set up costs Franchise admin costs An example: A franchise that I was involved in setting was to a simple "lawn mowing/home repair" franchise. The Franchise included national/local advertising - preparation of client lists - general admin - central accounting etc The Franchise involved 300-500 clients - and an annual turnover of about $300,000 . The annual franchise fee was $30,000. Hope that this gives you some idea Take care Ian[/list]
Re: Franchise Surveys - Another good tool to researching a franchise is to speak with their existing franchisees. This contact information is included in most Franchise Disclosure Documents. In order to get a Franchise Disclosure Document or FDD as it is often referred to, you will have to complete a basic franchise application. The franchisor will then usually provide you with the FDD at that time. Included in that book of information is a list of the existing franchisees, the contract, the investment information etc... This information is required by Federal Law to be disclosed to your prior to making a purchase. So be sure to do your research and start with the Franchise Documents to get the initial information.
Buy a franchise, get 4 free! - I just called a franchise company (I'll keep the name for me) to ask them if they wanted to be listed in the upcoming edition of our top seller publication, the Bond's Franchise Guide. I knew I was gonna be a hard sale. I met the franchisor at the International Franchise Expo in DC a couple weeks ago and he's one of these guys who wants the world for free. I hadn't had the time to tell him about the price that he went "listen, I have a great deal for you. You give me a free listing in your Guide and I'll give you a free franchise!". I then remembered seeing on his booth a "marketing message" saying "Buy 1 franchise, get 4 Free". Basically, you buy the rights for a territory and they give you 4 other territories for free. I kindly declined the offer, trying to be as polite as I could to not offend this man. I knew I was wasting my time with him but I kept going anyways. For 5 solid minutes he tried as hard as he could to have me open a franchise in San Diego for free. I didn't want to confront him (after all, he's still a potential client) but I was saying to myself "what kind of franchise is that if you give it away to anyone and everyone?" This franchisor has only one thing in mind: opening as many franchise locations as possible. But he forgot one of the very basics of franchising: you have to have qualified franchisees... Duh! This means that because someone has the money doesn't automatically means he's going to be a good franchisee. Most franchisors are well aware of that. They'd rather see a very well qualified potential franchise buyer with little money than a totally unqualified potential franchisee with a lot of cash on hand. Those types of franchises usually don't last long. Why? Simply because the system starts collapsing from the inside: franchisees are not adequate for the system thus, they don't operate their store correctly. The brand image starts getting worse. The franchisor can't support its franchisees because he's too busy opening other franchises. Next thing you know, you're reading an article in the newspaper about how this franchise filed for bankruptcy. What do you guys think? If I come to you and say "if you buy a franchise, I'll give you 4 more for free". What would you think?


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