Assessing the merits of whether to franchise
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Free Download - Tasmania the new frontier By Rod Young |
More businesses than ever before are embracing franchising. The yet to be released 2006 survey on franchising will almost certainly show substantial growth beyond the 850 Australian franchisors identified in the 2004 survey.
The 2006 survey could identify that more than 1000 Australian businesses operate within the definition of franchising in the Trade Practices Act (TPA). When you consider that Australia has almost 1,000,000 businesses and that 999,000 are not engaged in franchising, you might consider the decision to franchise is a radical one.
“Many franchisees have opted for franchising as a low risk enterprise, and by and large the vast majority of franchisees are successful”
However, careful consideration of the wording of the definition of franchising in the Franchising Code of Conduct which is unambiguous black letter law might lead business owners who do not consider themselves engaged in franchising to think again. Many co¬operatives, buying groups, dealerships and distributorships may be caught by the above definition and describing the arrangement as a 'license' does little to protect those who breach the Code.
Putting aside those businesses which are caught by the Franchising Code, but which either choose to breach the Code by not complying or who are ignorant of it, what exactly has prompted around 1000 organisations to embrace franchising and therefore deviate from the traditional business development path that has evolved since the industrial revolution?
The answer to this question is a rich tapestry of fact and fiction that has been built around the franchising phenomenon since the early 1950s in the United States and the early 1980s in Australia.
One chapter of the fiction could be paraphrased by franchisors that promote to their prospective franchise buyers: "Buy a franchise and buy success". Many of these franchisors have believed that by franchising, success will follow. The reality is less certain among those new franchisors who believe and promote this half truth as the key feature of their business when they jump onto the franchising bandwagon.
Many franchisees have opted for franchising as a low risk enterprise, and by and large the vast majority of franchisees are successful. Many would-¬be franchisors have seen and read about the franchising success of McDonalds and KFC and other world wide businesses such as Coca Cola, Pepsi, Ford, Toyota, Shell and BP. Each has built a massive enterprise through franchising.
Australian franchising icons such as Australia Post, Forty Winks, Bakers Delight, Boost Juice, Donut King, Hairhouse Warehouse, Dymocks, Cartridge World, Fernwood, Mortgage Choice, Cash Converters and Healthy Habits have been held up as shining examples of what franchising can do.
Franchisors are not shy about promoting the success of their franchise. The rapid growth of franchise networks is hailed as an 'economic miracle' and regular lists of the fastest growing franchises are published to demonstrate the success of franchising.
Any reader of the business press will see stories of successful franchisors and franchisees. Over the past 20 years the growth in the number of franchising companies and their 60,000 franchised owner operators make franchising a powerful magnet for those business owners keen to expand.
Does franchising make franchisors successful?
The reality is that while the majority of franchisees are making money, the performance of many of the 1000 franchisors is less clear. An understanding of how a franchisor generates revenue and profit is instructive.
A franchise network that has no company operated outlets and is 100% franchised relies for its profitability on the sale of franchises and the ongoing royalty stream flowing from the successful operations of the franchises. In some cases, supply side rebates and renewal fees after the initial franchise term help supplement revenue and profits for the franchisor.
Depending upon the magnitude of the initial franchise fee and the rate of the initial franchise fee and the rate of franchise sales, the initial franchise fees can support the overheads of a franchisor of personnel, infrastructure and facilities and still create good profitability during the growth phase of the franchise.
However, as a franchise system grows, the reality is that new franchise sales will decline once market penetration approaches its peak. It will grind to a sudden halt if existing franchisees do not validate the viability of the financial performance of the business.
Unless there is continued growth and a harmonious relationship with franchisees, cash flow generated from initial franchise fees will dry up and the franchisor must rely on ongoing income from the current franchise pool to maintain profitability. When franchisee viability is marginal and franchisor/franchisee relationships are strained, the income stream from ongoing royalties may come under stress, leaving the franchisor with a modest or even dwindling revenue stream and little prospect of further growth.
In a franchise network, ongoing franchise sales and therefore royalty growth are dependent on the early franchisees achieving profitability quickly with a reasonable degree of satisfaction about their decision to buy their franchise. Future franchise sales are heavily dependent on existing franchisees confirming to potential franchisees that the franchisor has a good system and the choice of that particular franchise is a wise decision.
Fully franchised networks need to deliver the promise of profitability early in each of their franchisees' establishment periods, and grow to a significant number of franchised units before the franchise network can make decent profits (more than $1 2 million per annum) and create a worthwhile magnitude of enterprise value ($5 10 million) to make franchising worthwhile.
The reality is that many fully franchised networks are failing to reach critical mass and are not making decent profits or building worthwhile enterprise value from franchising because either the business is unprofitable or the franchise system on which the franchise is to be based is poorly conceived and developed, or both.
Should franchising be considered?
The answer to this question is an emphatic "yes!," but only after the business model is proven.
Only then can an honest assessment of the scalability of the business to be franchised be undertaken. There are several key signposts that can point a business owner in the right direction along the road to profitable franchising.
The following checklist makes an excellent guide:
1. The business should be proven and profitable before franchising is considered.
2. At least two company operated locations should be developed and operating profitably to prove the viability of the business model in multiple locations.
3. The businesses should be operated under management to test the operating and reporting systems.
4. The businesses should be returning at least a 20% return on capital invested.
5. The market in which the business plans to operate should support at least 20 business units.
The last point is important, as the mathematics of franchising will not support the investment of time and money and infrastructure necessary to develop a franchise system that cannot scale beyond at least 20 units. To franchise or operate company locations is not the question.
Franchising does not mean abandoning the growth of a company owned network. Every business should operate as many company owned units as it can afford to finance and operate profitably. Ultimately, franchising should not replace the development of a company operated network but be considered a growth strategy to complement it.
Franchising is both a sophisticated capital management plan and in today's employment environment, it's a key HR strategy to attract and retain motivated owner operators at the customer end of a business. It also addresses the micro¬management of cost pressures on gross profit margins, labour costs and operating expenses.
In a market where increasing occupancy cost can depress profits, the combination of a core of company owned units supplemented by a network of franchised outlets, especially in distant or potentially marginal areas for company locations, is the ideal business structure.
A well developed franchise program can ensure the economies of scale from buying and advertising can be enjoyed while avoiding the high costs of layered management and travel costs that large company owned networks incur when managing sprawling company networks.
In a limited market like Australia where few networks grow beyond 200 units, the operation of company owned locations contribute critical cash flow and profitability, keep the franchisor close to the marketplace and provide a fertile base to develop staff, train franchisees, trial new products and services, and innovate with new locations and presentation.
Assessing the merits of whether to franchise - To learn more about this author, visit Rod Young's Website.
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Anne BarrAnne Barr has over 26 years experience in sales and marketing, six years as a franchisee. She has assisted over 367 business owners and purchasers to achieve their goals in career change, transition and exit strategy. She holds the designation of Certified Franchise Executive from the International Franchise Association, Certified Business Intermediary from the International Business Brokers Association and Board Certified Broker from the Texas Association of Business Brokers. Anne is active in professional organizations, networking groups and volunteers for non-profit entities. As owner/operator of four successful businesses, Anne has proven people skills and enjoys helping clients find the right "fit" in business ownership. Visit www.FranchiseOpportunitySpecialist.com for more information about me and my company. - Visit Anne Barr's Website |
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Jay Kubassek(Jay's Full Bio: EvanCarmichael.com/jaykubassek) In five years, Canadian-born entrepreneur Jay Kubassek went from selling mufflers at a Midas franchise to revolutionizing Internet marketing with the 2004 launch of CarbonCopyPRO, a online marketing education company, now worth over $20 million with customers in over 160 countries.
As an independent film producer, his upstart film fund Aliquot Films is currently producing a films with Spike Lee and Abel Fererra (starring Ethan Hawke and Dennis Hopper.)
Jay's entrepreneurial spirit is irrepressible. He’s the owner of five companies, a professional speaker and trainer, international real estate developer/investor, extreme sport enthusiast and emerging philanthropist. Jay resides in NYC with his wife Jamie, son Milo and dog Cooper. Visit Jay's official website: www.JayKubassek.com - Visit Jay Kubassek's Website |
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