11 Jan 10 Financial Questions to Ask Before Starting a Franchise
10 Financial Questions to Ask Before Starting a Franchise
Owning a franchise, like owning any type of small business, involves several different motivators. Some do it for the love of the product, some do it because they have a desire to be their own boss, and some do it to get in on the ground level of a company that’s on the rise. Regardless of these motivators, the one thing that unites all business owners is the almighty dollar. You wouldn’t be opening your doors for business if you didn’t expect to make decent money, now would you?
It’s no secret that when you’re opening a franchise, the first and most important questions you should be asking yourself involve the financial stability of both you as a franchise owner, and the parent company as a franchisor. You don’t want to invest your hard earned dollars only to get billed for costs you can’t afford a few months down the road. Conversely, you don’t want to get stuck investing in a company who’s going to be downsizing or even worse — closing down a year from now.
To help avoid these unsavory outcomes, there are ten financial questions you should be asking yourself before buying a franchise.
1. What is the initial investment?
Often times, your franchisor can give you vague answers to this question. For example, their Uniform Franchise Offering Circular (UFOC) might present this info in a variety of potentially confusing ways. This is where conducting your own independent research comes into play.
Consult local franchisees and learn about their personal experiences. Remember that not every franchise invests the exact same amount, but it’s good to have a solid benchmark so you can make an educated estimate at how much you’re going to have to save up.
2. How long will it take for me to break even, and how much capital should I have saved up before that point?
No one’s going to be crashing through your door the morning of your first day of business, and even if you do open to a lineup that stretches down the block, you aren’t going to recoup your initial costs immediately. Fortunately, there will come a time when you start making a decent profit, but in order to survive that long, you should know how long it’ll take to get to that point, and how much money you should have as padding until then. In the same way that you research the kind of initial investment you’re expected to make, find out from local and similar franchises just how long it took them to get out of the red. Of course, you’re probably not going to be able to get concrete numbers out of other franchisees, so whatever you think you’ll need to stay afloat, budget to throw in a little more for that inevitable rainy day.
3. What lifestyle changes will you need to make?
Your business extends itself beyond the doors of your franchise. Like any small business owner, you should expect to make some significant lifestyle sacrifices as you’re starting up your business. There’s going to be a gap between the moment you open your doors and when you start seeing some real revenue, so plan out your personal finances on a monthly basis. This goes far beyond just cutting out a couple leisurely expenses. Indeed, expect to tug on your bootstraps and reconfigure your entire personal budget. And of course, add extra on top of your planned expenses as unexpected personal financial bumps in the road can happen from week to week.
4. What’s the portion of your total investment that needs to be in cash?
Different businesses, different capital structures. This means that you should expect certain stipulations on how much of your investment needs to be in liquid assets, or in plain cash. This varies between companies, and you may be expected to have your entire investment in cash, or only a very small fraction.
5. How to finance your franchise?
Now that you’ve got your personal budget planned out as well as your strategy to stay afloat before you can support yourself through your franchise, it’s time to look at the different ways you can finance your business. Most likely, you’ll either be taking out a bank loan or some other type of commercial loan. You’ll also have to back up your loan with something tangible such as your home or property (or if you’re in the US, an SBA guarantee program).
One of the easiest ways to secure a loan is by opening a line of credit on your home. To reduce what you might have to borrow, you can also lease the real estate you’ll be using, although your lease will have to be backed by your franchise, meaning you’ll still need to put forth some sort of personal liability.
6. Are there any alternatives to financing, and if so, what’s available?
If you weren’t able to secure the necessary capital via loans, you can always hope a benevolent great uncle comes into the mix and backs you. But more realistically, you might want to consider dipping into your retirement fund. There are companies that offer assistance in early access with little to no early withdrawal feels.
7. How much can I expect to make from this?
It’s always good to have a realistic sized carrot at the end of the stick to look forward to, especially during your first year where you’ll likely be operating at a loss. Every successful franchise has a monetary reward at one point down the line. That’s why it’s important to be realistic about how much money you can make, not only to properly assess whether your investment will be worth it but also to have something to look forward to during your more strenuous times.
8. How do similar franchises perform financially?
Knowing what you should expect to make from your franchise is a solid starting point when assessing the financial viability of your business, but it ignores both the low and high ends of expected revenue. It’s important to conduct research with a large number of similar franchises to avoid any surprises — good or bad.
9. How does competition threaten my franchise?
Once you know how much you’re going to be spending and how much you should be making, it’s important to set your sights on your competition. Most likely, you’ll be operating in close proximity with other franchises. Find out if the franchises are brand new, or business veterans, and how they’ll impact your bottom line. Do your research in similar markets, and compile a strong sample to really refine your revenue estimate.
10. What kind of financial health is the franchisor in?
As an entrepreneur, you could dot every last “I” and cross every last “T”, but at the end of the day, you’re part of a large network of franchises, and the strength of your parent corporation is all too often a major deciding factor in your success. In the UFOC document, you’ll find the company’s audited financial statements, which you’re going to want to look over with a financial advisor who’s got experience with franchising. What’s important here is to not only find out whether the company is in good financial health, but whether it’s showing signs of growth, as well as signs of being able to invest in franchisee training and support.
The Bottom Line
Owning your own franchise is as an extremely exciting experience that can turn very lucrative in due time. It’s important to use these rules as a starting point; find out how much you’re investing, how to obtain your initial investment, and how much you’re realistically going to be making. Mixed in with good management and favourable external conditions, these will help you head down the road to franchise success.
Remember, analyze your market and understand all of your costs (where they’re going and who’s collecting). Owning a franchise may be your version of “being your own boss”, but it also means being your own employee, so find out exactly how you’re expected to run your franchise, as well as profit from the rewards that come as a result.