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Researching a Franchise

Buying an Existing Franchise

What you need to know when you plan to buy a ‘used’ franchise instead of a new one.

Jeff Elgin

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If you’re considering buying an existing franchise operation from an acquaintance, and want to be careful, there are certain things you should look out for. You also need to know how to find out if the selling price of the business is reasonable.

In franchise terminology, the purchase of an existing unit in any system is referred to as a ‘resale’. A resale can have some wonderful advantages over starting a new unit from scratch, but it can also be a nightmare. It’s essential that you know what to seek and what to avoid in this process.

There are two types of franchise units offered for sale. The first group consists of successful operations that are making money. The other group consists of units that are not successful and are either losing money or barely making ends meet. Each group can potentially represent an opportunity for you, but the risk associated with the second group is substantially greater. During your investigation, you must determine which group the unit falls into right now, and which group you think it will fall into after you’ve owned it for a while. Do not make the assumption that it’ll stay in the same group it’s currently in. So how do you figure this out?

The first question to ask yourself is, “What is the motivation of the seller to sell the business? Why do they want to get out of the business, and why now?” Are they ready to retire, or just want a change of pace? Or are they trying to escape an unbearable grind of 80-hour work weeks and constant employee hassles? Do they know about some future change that’ll make the business less viable, and want to get out before it happens?

At the risk of appearing cynical, this is critical information. It’ll probably take a little digging on your part to find the truth. Most sellers are smart enough to figure out that if they tell you the business is horrible, you’re not going to want to buy it from them. They all dress up the business in its Sunday clothes for your inspection.

Ask the right questions

To be safe, you need to not only talk with the seller, but also look at other sources of information. These other sources should include the franchisor as well as competing chains in the business or other industry sources.

From the seller, you need to find out:

  • What is their motivation for selling? Is their reason completely believable, and does it suggest anything negative in the future?
  • What has the financial performance of the franchise been over the past year or two? What are the trends, and what are the reasons given for the trends, particularly if the recent trend data is flat or negative?
  • What is the status of the employees of the franchise? How important is retaining key employees in successfully producing future projected results? How sure are you that they are going to stay?
  • If the franchise is site-dependent for success, what is the status of the real estate? Is there any challenge with the continuation of the lease? Is there any scheduled future road construction or other impairment that might affect otherwise positive results?
  • Do they know of anything that has not yet been disclosed to you that might hinder future performance of the business? Make sure to ask this question point blank; your attorney can include their answer in the purchase contract to protect you.

You should also go to the franchisor and conduct a complete investigation of the franchise just as if you were going to open a new unit from scratch. This exercise will give you valuable information to understand the business and to make sure you’ve asked the seller all the right questions.

Verifying answers

Finally, you should ask the franchisor to confirm the information you’re receiving from the seller, including specifics. They won’t want to do this, because they don’t want the legal liability, but they also don’t want you to join their system under false pretences. If the seller is not being honest with you, you’ll often pick up clues from comments made by the franchisor.

This article focuses on the negative potential of the resale process. Don’t misunderstand, though: resales can be great, as long as you avoid a few basic mistakes. Invest the time to gather the relevant information, and you should be fine.

Getting the right price

You first need to determine whether you think the future performance will be positive under your ownership. If the answer is no, or you’re uncertain about potential risk factors, your best strategy is to forget the resale. The risk is just too great.

But if the answer is yes, and the business is currently successful, you’ll have a fairly easy time dealing with pricing, since you have existing earnings to work with. The best valuation method is to use a multiple of the net cash flow you will receive from the business.

Net cash flow is the difference between the revenue of the business and the necessary business-related expenses required to produce the revenue. You should have access to the historical financial statements of the business to derive this number.

Most business owners run expenses through their business that aren’t really required to operate the business. These can be expenses like company cars, football season tickets or meals and entertainment. There might also be extraordinary salary costs associated with the owner. Take the net income of the business and add back these unnecessary expenses to determine the true net cash flow you can expect.

The price of this type of successful business should be about two to five times this net cash flow number. The more stable and dependable the cash flow, the higher the multiple that’s reasonable for you. The multiple is also higher when the trends of the business growth are positive rather than flat or negative.

Turning it around

The second type of resale, when the business is not currently performing well, is more difficult to price. The existing owner will always have many good arguments about why the business isn’t performing, but ultimately it comes down to whether you are convinced that a simple change in ownership will fix the problems.

About the only time this is true is when the existing owner is not operating the business according to the system designed by the franchisor. If you have confirmed that most or all other franchisees following this system are doing fine and have determined that there are no other problems related to, say, a bad location, then you can proceed with some confidence.

In this circumstance, you are looking for a real bargain. If you’re not going to get a great deal on the resale, why bother? You can always open a new unit with this franchise as an alternative to buying this resale. To evaluate the resale price, start with the total cost to open a new unit in the system, including all the marketing costs and operating reserves necessary to operate a new unit until you reach the average breakeven time on operations.

From this figure, subtract a liberal allowance for the money you need to invest in marketing and operating expenditures to get the resale unit to breakeven. Also subtract a liberal allowance for any infrastructure investments you feel might be necessary to get the physical plant and employees of the unit up to scratch.

The difference in this calculation represents the absolute maximum price you should even consider paying for this unit. A reasonable person would almost certainly discount this difference substantially to offset the risk associated with buying someone else’s problem.

If the seller is not happy with this method of valuation, that’s OK. You’re the one who’s going to have to live with this purchase, and you want to walk away from this type of resale unless it looks like a very strong opportunity to you. Feel free to tell the seller to try to find a buyer at a higher price and call you back if that attempt is not successful. There’s no line of people waiting to buy unsuccessful units, and you’ve got time on your side.

Professional advice

You don’t need an advisor to determine whether this may be a reasonable transaction for you to pursue. You absolutely do need a good attorney who is experienced with business purchase agreements if you want to go forward with the purchase.

Your attorney will assist you with the letter of intent, the purchase agreement, the assignment documents, the bill of sale and all the other requirements to complete this transaction.

This process isn’t brain surgery, but a good attorney will point out a host of protections that you might not have thought of, and the fees are generally not a large percentage of the purchase price.

Resales can be a wonderful way to enter the franchise business. You can avoid much of the pain associated with starting a new business by buying one. Just make sure you are careful and diligent, and this process should work to your advantage.

Jeff Elgin has developed a consulting system that matches pre-screened, high-quality prospective franchisees with the franchise opportunities that best fit their personal profile.

Company Posts

Don’t Tread On Toes – Why Investing In A HIQ Franchise Will Offer You More Opportunities

Are you looking at investing in a tyre replacement and service industry? Look no further than the Hi-Q franchise.

HI-Q

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Vital Stats

Established in 1999, Hi-Q is a successful and diverse multi-product, multi-brand leader in the tyre replacement and service industry with a network of over 130 franchisees nationwide.

With the support of international tyre giant Goodyear, Hi-Q has established a solid reputation of ‘the one you can trust’, and the Hi-Q approach and philosophy is embedded in this.  We have the trust of our customers, our network and our suppliers – that’s why you can trust us to take you and your business to the next level.

When you’re working with people’s safety, trust forms the most significant part of the equation

Hi-Q introduced the original and innovative TyreSurance initiative – the only aftermarket tyre damage guarantee product that backs the consumer no matter the brand of tyre. Each Hi-Q Franchise offers a broad range of brands within the different product and service categories that customers know they can trust, and at prices they can afford. Product and services include tyres, exhausts, shocks, batteries or brakes, wheel alignment or balancing, and a 10-point safety check.

We have identified areas of opportunity to extend our Franchise footprint growth. If you are looking to join a new franchise and you share in our values and vision, we would like to hear from you.

For further information on how to become a franchisee, call us on +27 11 394 3150.

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Related: We Want To Invite You To Join Us On The Hi-Q Journey And Become A Franchisee

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Researching a Franchise

Be In The Property Business For Yourself, Not By Yourself

Why property franchising makes good business sense in today’s market.

Keith Broadfoote-Brown

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Opening a real estate franchise has been a thriving and successful business model in South Africa for decades. Despite the challenges currently facing the South African economy, property will continue to prosper and provide entrepreneurs with an opportunity to own their own successful businesses and become leading members of their local business communities.

“The residential property market is a dynamic, thriving industry offering substantial career opportunities.

Joining a property franchise business gives entrepreneurs the opportunity to align themselves with reputable, established businesses with a national footprint who have invested in their brands and have access to international networks,” says Russell Berkman, Franchise Director at Jawitz Properties.

While the property industry is competitive there is still great potential for growth. Worldwide, franchising has proven to be one of the most successful business models with failure rates well below those of starting a business from scratch.

Related: How to Become a Property Franchisee

For the franchisee, it is one of the most intelligent ways of starting and growing a business and by combining the proven business formula of the franchisor with the entrepreneurial drive of the owner-franchisee, the likelihood of a successful business venture for both parties is increased significantly.

According to Keith Broadfoote-Brown, the owner and Principal of the Jawitz Properties Ballito franchise in KwaZulu-Natal, property franchise still makes good business sense in today’s market.

The benefits of being a property franchise owner

Becoming a property franchisee gives a businessperson unlimited potential to succeed in the property industry as the success achieved is a direct result of the effort, commitment and drive put in. It means being self-employed within an organisational structure and offers the same structure and benefits to sales and rental consultants.

“It gives you the opportunity to leverage your business’ success off the intellectual capital, brand, expertise and know-how of an established business that has a proven business model, IT platforms, marketing expertise, training and self-development programmes as well as having access to years of experience in these fields.  My mantra is ‘be in business for yourself, not by yourself’,” says Brown.

Skills needed to succeed as a property franchisee

The most important competencies would be to have an entrepreneurial character and business skills such as financial literacy, HR/people skills and marketing acumen; a people’s person with a resilient and driven personality. Experience in real estate is always beneficial but not required as it is all about using business skills, marketing acumen and entrepreneurial tenacity to make your mark.

Related: How Brigid Prinsloo Made (A Lot Of) Money On Airbnb

Brown explains, “Absolute professionalism and integrity and a fierce determination to exceed your client’s service expectations are essential. And you must be able to develop a highly competent sales team, explore new opportunities for your business and operate as a team player within a franchise structure”.

Current state of the property market

The property market in SA currently reflects the economy and is weighted in favour of buyers, so sellers need to be very realistic with their price expectations. Buyers are buying where they perceive good value and value is indeed the key driver in the market today.

The opportunities are strong for buyers to invest in this ‘down’ market and conditions are also ideal to upgrade one’s home. In every region and in every suburb there are homes offering good value and these are selling well, despite the tougher trading conditions.

Opportunities outweigh the challenges

“The opportunity for real estate professionals is to find and secure the well-priced, good value, properties as they are selling!

It is also an opportune time to enter the market as a franchisee or new agent/intern as I am firmly of the view that great estate agents learn their profession well in a tough market and when the market improves, as it surely will, these sales professionals will have a solid grounding and strong foundation on which to build their real estate careers.

Challenges are to manage costs in these tough trading conditions. To keep motivated and continue to consistently drive the very basic activities needed to succeed in real estate,” says Brown.

Top 3 things to consider before entering the industry

According to Brown, his top 3 considerations are as follows:   

  1. You need sufficient start-up capital as the initial investment in starting the business and the monthly expenses to run the business can be substantial. The income from sales and rentals may be slow in the early years, hence the need for good planning and sufficient start-up funds.
  2. Owning one’s own business means the buck stops with you! A well thought out and well implemented business plan is key. The first 2-3 years consist of long hours and could potentially be financially strained, as in any start-up business, but the rewards of owning your franchise and being ‘master of your own destiny’ are worth it!
  3. This is a tough business for tough-minded people. Having an initial mindset of ‘it is harder than I think’ rather than ‘it will be smooth sailing’ is a better approach and will prepare the franchisee for the hiccups that will surely come along.

Property franchising makes good business sense

The end result of being a successful property franchisee is financial security. Owning a brand office assures the owner of having an asset and the credibility, back-up and brand promise assures clients they are in safe and professional hands.

“I would definitely recommend being part of a major brand rather than a being a small real estate entity, especially in this competitive industry. Property is a challenging industry that, like everything else, goes through cycles, influenced by factors like inflation and interest rates, among others.

Drive, initiative and resilience are therefore essential qualities for a successful property franchisee. Absolute professionalism and integrity and a fierce determination to exceed your client’s service expectations are essential,” Brown concludes.

Related: Want To Start A Property Business That Buys Property And Rents It Out?

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Researching a Franchise

Col’Cacchio – Benefits Of The Franchise Model

Six key benefits of the restaurant franchise model – and what to look out for when considering a franchise.

Russell Otty

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For investors looking to the restaurant industry and considering a franchise knowing it has a proven track record and is therefore possibly a lower risk, there are a few key things to be aware of about the benefits of the franchise model, which if investigated, can also point to a franchise that is not for you.

Russell Otty, Chief Operating Officer of the Col’Cacchio Group, shares some of these key benefits and indicators of whether a franchise is for you:

1. Making the cut as a franchisee gives you the confidence that you are making the right decision

You may think psychometric testing, three days in a restaurant following a franchisee around, and a panel interview with the senior management of the franchisor, is a bit over the top, but the franchisor that puts you through your paces and assesses your ability and commitment to running the business, is doing you a huge favour and may even help you see this is not for you. It goes both ways, and after an intense courtship, you should know if you want to try a long-term relationship.

Related: Col’ Cacchio: A Passion For Pizza

2. Assistance with location selection and negotiation of the terms of your lease

One thing you can do to limit your risk is to not open a restaurant in the first place if your rent is not going to be reasonable or you simply won’t get customers through the door. The franchisor will vet and approve the site – they will have extensive insight into what has worked or not worked location-wise for their brand, and can assist you to weigh up the area and it’s potential to attract customers.

The commercial terms of a lease is very important – you can’t be too ambitious about turnover targets, and having the backing of a franchisor can be beneficial if a landlord becomes unreasonable.

3. Staff training and development tools on hand

Consistency is important with restaurant franchises, as a customer visiting a brand anywhere in the country, goes there knowing exactly what they are going to get. This is best achieved with solid training, perhaps access to resources such as training videos, and regular visits from franchise managers.

You should check with your franchisor what level of training and franchise support you will have on an ongoing basis. Ask about the ratio of field trainers and operations managers to the number of franchisees in the group. You want the franchisor in your restaurant in some shape or form, two or three times a month, whether it be the training manager, the regional franchise manager or the national operations manager.

4. Access to supplier networks to manage your input costs

Negotiating basket pricing with distributors regionally and nationally, the franchisor will leverage their buying power on your behalf. They should assist to manage your suppliers and make sure deliveries happen on time, and ensure that product quality remains consistent. They can also negotiate to ensure your input costs do not increase before the next menu launch – so you can ensure your margins remain intact.

5. Brand loyalty and locality marketing

When you buy a restaurant franchise, you gain a group of customers who know who you are, the food you serve and the way you make them feel. The money you will pay towards marketing each month gives you insight into the broader restaurant market, the experience of what is working across a number of sites, and how best to keep the attention of new and existing customers.

Some franchisors offer locality marketing assistance – your site and area has specific needs that other outlets may not have, or there may be events in the area that can be leveraged to run special offers. Ask if the franchisor offers this as a service, as it can assist you greatly to have an advantage over other restaurants in your area.

Related: Beginners Guide To Digital Marketing In South Africa

6. Business development insights

The franchisor has access to insights gained across the group, and the systems that they have in place to track costs and increase profit margins, can be of huge assistance. If you are looking for business support, a franchise manager can be the one sitting with you telling you that you spent R2 000 too much on cleaning this month or saying you need to wait till next month to make that purchase. The level of business support you will have access to, is an important factor to consider, depending on the level of support you may require.

Recipe for success

Nine times out of ten, a restaurant franchise that fails, fails because the franchisee loses interest or lacks the commitment to make it work. Selecting the best franchise for you as the investor, or as a restaurant entrepreneur, is the most important first step you can take towards success, so do the homework.

Don’t assume that because you are buying into a successful brand that it will be a success – business is not an exact science – you need to do your own due diligence and take responsibility for your business, because it is after all your own investment.

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