Out-of-work professionals look to franchising for new opportunities
The pandemic created a recession unlike any other. Americans finding themselves unemployed were given the needed push to take on the risk of starting a new business, leading to an entrepreneurial rebirth. It is possible to open your own business without starting from scratch by purchasing a franchise. This can be an attractive way of hitting the ground running and potentially reducing some of the risks associated with a startup business.
So, what is a franchise? A franchise is a legal relationship where one party, the franchisor, grants the other party, the franchisee (you), the right to use and benefit from a trademark and a business system in exchange for a fee.
Franchising, just as in any new business, is a significant financial investment. Determining the right franchise to purchase means you must consider the system, contract terms and financial risks.
Which franchise?
Consider the following when acquiring a franchise:
Market competition. If one company is seeking to franchise to profit from a trend, it almost certainly isn’t alone. Even with trends, there is a point of market saturation.
The strength of the franchise system. Is the franchise you are considering well-established? When purchasing a franchise, the strength of its brand recognition is important.
Passion. You should be passionate about the business you are starting. Although a franchise offers the potential of hitting the ground running, the daily grind of operating it, employees, etc., are still present just as in any new business.
Considerable provisions
When purchasing a franchise, it is highly recommended to have an attorney who is experienced with franchise law review the franchise disclosure document to avoid costly mistakes. Franchisors often indicate that the FDD is not negotiable. This is not true. In this post pandemic world, provisions that should be carefully considered include:
System standards. Standardization is a hallmark of franchising, because customers know what they can expect, they typically visit a franchise. If your franchise agreement requires you to use a designated supplier, that supplier might not be able meet your franchisee’s needs due to unforeseen circumstances.
Minimum royalties and marketing fund contributions. Some franchise agreements include provisions for minimum royalties and marketing contributions. These provisions require franchisees to pay a recurring amount regardless of their revenue.
Legal compliance. It is common for franchise agreements to include provisions that require franchisees to comply with all applicable laws and regulations.
Force majeure. Force majeure provisions allow for deviation from certain franchise agreement provisions in the event of pandemics, wars, major storms and other catastrophic events. When negotiating a franchise agreement, franchisees (and their franchise attorneys) must now carefully review this clause and negotiate any modifications necessary to protect against the types of business risks presented by the COVID-19 crisis.
Loan options
Purchasing a franchise is a big financial investment, and the cost can be intimidating. Each loan option has risks and rewards to consider, including:
SBA loans. These are loans from a commercial bank that are backed by the U.S. Small Business Administration. They provide prospective franchisees access to the funds needed and can provide banks with guaranteed repayment.
Conventional bank financing. If you do not qualify for an SBA loan, another option may be to obtain conventional bank financing.
Franchisor financing. Some franchisors offer financing to new franchisees, which if available is disclosed in item 10 of the franchise disclosure document.
Private equity. Although most private equity funds focus on investing in large multi-unit franchisees, private equity avoids the risks of defaulting on a loan, but it comes with other strings.
Veteran financing programs. If you are a veteran, you may qualify for the International Franchise Association’s VetFran Program or one of several SBA programs that are exclusively available to military veterans. These programs offer financing, discounts and other incentives.
Home equity line of credit. If you have equity in your home, you may be able to obtain a home equity line of credit to finance your franchise purchase.
Retirement savings. Using your retirement savings to finance your franchise requires thorough evaluation because of possible tax implications and the risk of losing your retirement savings if your franchise fails.
It is possible to open your own business without starting from scratch by purchasing a franchise. Getting this head start and the support can be an invaluable advantage.
Click here to read more from the June-July 2021 issue of Northwest Indiana Business Magazine.
