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The Money Connection

Written by: Mary Tomzack

Article Overview: New franchisees need to come up with a lot of money, especially when considering the total cost of building a location, supplies, overhead, and living expenses while you get started. Franchisors need to find big bucks, too, especially when they're trying to keep up with the demands of a growing system. Where do franchisees and franchisors find the money to finance their franchise dreams? We talked to Bernard Siegel of Siegel Capital and John Rinaldi of Irwin Franchise Capital for their views on how to make the money connection.

The Money Connection

March Part 1 - The Money Connection
New franchisees need to come up with a lot of money, especially when considering the total cost of building a location, supplies, overhead, and living expenses while you get started. Franchisors need to find big bucks, too, especially when they're trying to keep up with the demands of a growing system. Where do franchisees and franchisors find the money to finance their franchise dreams? We talked to Bernard Siegel of Siegel Capital and John Rinaldi of Irwin Franchise Capital for their views on how to make the money connection.

Siegel Capital provides expert help in franchise financing
The folks at Siegel Capital know the franchise industry inside and out after being in the business of brokering small businesses and franchises for 23 years. In 2002, a separate entity was spun off to utilize the firm's accumulated expertise in packaging financial programs for both franchisors and franchisees.

President and founder, Bernard Siegel says, "We do work with franchisors. That may mean finding private financing to see them through the development stage when they need additional working capital, helping them build out their company-owned units, or making acquisitions of smaller chains to convert to their system. But mostly we arrange financing for people who are opening up franchises or acquiring existing franchises."

When someone is thinking of buying a franchise, one of the big questions is whether the money is going to be available. It doesn't cost anything to find out if it's do-able though because Siegel offers free prequalification. "We've had many franchisees that were thinking of the ABC franchise but really were not ready to make a move because they were not sure they could actually arrange financing to do the project," says Siegel. "When they call us up, we already know what it really costs to do that system because we've done the financing 20 or 30 times before and we know the system. We check the potential buyer out quickly and, usually, within a day, we call them and give the good news that they do qualify."

For those prequalified franchise buyers who want Siegel Capital to proceed with the loan process, the firm helps them cost out the project, making sure they realize all the expenses they are going to have. "On average they're going to have to come up with 20% of the transaction. They can get some of that money, depending on the lender, from home equity, or by using their 401K money, retirement funds, savings, and/or other personal liquid assets," says Siegel. For the rest, credit has to be decent - not great - but reasonable. "Some lenders have a scoring system, some don't. For those that do, the most common number required is a 650 credit score, which is not great credit," states Siegel.

Don't wait until you have a location to apply
Individuals buying franchises often find themselves in a kind of Catch 22 because they have no location yet because they need financing to get a location. Siegel recommends not waiting until the location has been secured. "We can get preapproval or even a loan proposal without a location. That way, when they're talking to landlords you can show them they already have the financing in place. That makes you a stronger potential tenant. So if the landlord is thinking, 'I'm going to put in either a Wireless Toys or an ABC company, but this guy from Wireless Toys has a letter that his financing is already in place, so I'll go with him.' That's a big advantage. That's why we recommend not waiting until you've got a location. As soon as you're sure you're signing a franchise agreement with the company, that's when you really should let us get you packaged and officially approved," says Siegel.

At the heart of any deal like this is the business plan. By using an expert in franchise financing, you can avoid the stress of putting together one by yourself. Siegel says, "When a customer calls and says we want a Wing Zone or Dunkin' Donuts or Salad Works, a business plan is unnecessary. We've already got a template. All we have to do is ask enough questions to get a feel for the location and then we can do as good a guess as anybody else on how it's going to play out. That's all the lenders really need. When you're buying an established franchise name, these large fancy business plans are really overdone. The lenders just want to know if you can afford to pay back the loan. And they want to understand what your assumptions are, how did you estimate your costs, how did you figure out your volume estimates, and what does it look like month to month for the first year. If you can demonstrate your methodology and your numbers are reasonable in comparison to what's happening in that industry, that's all they're looking for."

Basic qualifications for franchisors are a little bit different. "Typically, it has to be a system that has already demonstrated that they can make franchisees successful. Lenders are not comfortable with a company that's only been in business for two years, has just gotten their UFOC, and hasn't put a franchisee in business yet. A track record is critical. There also has to be some reasonable history of having done other SBA loans with a reasonable default ratio. And finally, being on the Franchise Registry is very important because it tells the lenders that there won't be a great deal of paperwork to do and there's no technical reason preventing funding," says Siegel. Being on the Franchise Registry means that the Registry has reviewed the company's UFOC and it meets all SBA rules and regulations.



Financing for the franchise restaurant industry
Irwin Franchise Capital does one thing only: franchise lending. "That's all we do," says John Rinaldi, President. The firm has 55 employees across the U.S. that work with pre-selected franchise companies. "These are franchises that we have evaluated and approved," says Rinaldi. "We make a determination whether or not a particular franchise system is growing and doing well financially and therefore might be in need of a lender to provide financing to their franchisees."

Once a relationship with the franchise company is established, Irwin has access to the franchisees. "We have a database of all the franchisees so we can call on them with the offer to provide financing," explains Rinaldi. "That could be to finance the acquisition of stores either from another franchisee or the franchisor, to build new stores, to refinance debt, or do image upgrades. We finance both real estate and construction loans as well as equipment loans. The terms vary, and could be either a fixed or floating rate."

Working through the franchisors usually means Irwin is on the list of preferred lenders for those companies. "We are a direct lender," says Rinaldi, "not a third party go between. In fact, we are actually one of the most active lenders in this sector.

Rinaldi says that because the firm has selected the targeted concepts, they can ensure that Irwin's underwriters are generally going to come back with an approval after the franchisee is prequalified for financing. "We have a very high percentage of approvals and a very high percentage of closing rates. We've been doing this for a long period of time. As a group, we've been together for over 10 years and most of us have had experience for almost 20 years in the franchise lending community. So we have very heavy experience that we can draw on as we do our business," asserts Rinaldi.

SBA loans for first time franchisees
"We do SBA loans if a candidate is going to be a startup," explains Rinaldi. "It could also be a one unit operator going to two or something like that. We also work with multiunit franchisees in the particular systems we're familiar with."

Like other franchise financial specialists, Irwin already has the kind of information that would go into a business plan. "We already know what the average sales are in a system, what the different margins are, what areas of the country the system is strong in, and whether or not this particular applicant is going into a region where there is some brand value. The applicants don't have to present us any information. If there happened to be something we did not have we would use our own resources to get it. Mostly, we would be looking for that franchisee, assuming it's an existing franchisee, to provide financial information on their business. That would include financial statements on their existing restaurants and some personal information as well as the demographics of where the new unit or units will be. We also provide lines of credit so in addition to considering one unit we could consider several units and make the financing available over a period of time," says Rinaldi.

Owner/operators are attractive to lenders
Rinaldi says that there are three problem areas a lender looks for that may lead to default down the road: Absentee ownership, poor site selection, and poor operators. He explains, "If it's a startup, a first unit, it's going to be a mom and pop type of situation and the owner franchisee will have gone through the training that the franchisor provides. We understand that. But if it is a multiunit franchisee that's growing either within their current territory or outside of their territory, we always want to know who's operating the stores and what the history of success has been. Often you'll see franchisees that do very well locally and then they want to expand their business by opening new stores three states away. They'll hire an operator and try to make it work. But if they have a poor operator it's not going to work. They're relying entirely on another individual to run the store for them in this removed territory."

Rinaldi says site selection is critically important. "You can have the greatest concept in the world but if it's located in a mall that's going to be closed to traffic, it's not going to work. And often we know that the site selection has been faulty because the franchisee was trying to honor an agreement wherein they were committed to opening up x amount of stores in x period of time. So instead of passing by a C or B site, they'll open the site anyway because they want to deliver on their commitment. That can be a big mistake. They are better off just not opening the store if they don't believe it's going to be a good site," says Rinaldi.

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