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By Paul D’Amato, SCORE Counselor and former franchise Owner 

 

Franchising 

Franchising accounts for 40 percent of all retail sales in the United States, employs over 18 million people and accounts for roughly $1.5 trillion in output.[1]  Many people that are interested in becoming an entrepreneur look at franchising as a viable option to help them start a business. Be careful.

Franchising is not for everyone, and it is likely you will work at least as hard or harder for yourself as you do working for someone else. If franchising is something you are considering, here are some things to think about before going too far:

Is the business a good fit for your personality?

Nearly all franchise companies will tell you that they have such a clearly defined business that anyone can run it. Even if this is true, and I feel in many cases this is just a sales pitch, it is important that you are happy doing whatever it is. For example, there are some excellent franchises that rely on the franchisee making sales calls. If you are skilled at sales and enjoy it then these franchises may be a good fit for you. However, some people may hate to make sales calls and a business that relies on the franchisee making sales calls may be a big mistake. Whatever business it is, don’t kid yourself into thinking that you can get someone else to manage it. You will be extremely involved and will be overseeing every aspect of the business. Because of that, it is critical you find something that is exciting for you and is a good fit.

Due diligence

Due diligence is a term given to the process of verifying for yourself that the business is what it claims to be. You should plan to spend as much time as it takes in this process to make sure that you understand exactly what you are getting into. A full description of due diligence is certainly beyond the scope of this article, but I do want to point out a few of my favorite things to look at when I first start looking at a franchise.

Time Commitment

It has been very enlightening for me on several occasions to compare what franchisors claim for time commitment against what the actual franchisees are saying the time commitment is. Recently I was looking at a franchise that claimed on one of its video presentations to take no more than 10-15 hours per week for the franchisee. In fact, they said that you could easily run this franchise and continue to be involved full time in another job. This seemed almost too good to be true to me, and when I started talking to franchisees it turned out that it was. I called and talked to five different franchisees in various parts of the country and every one said that they were spending at least 40 hours per week running the franchise and that it was a much greater time commitment than what they had been led to believe. Be sure to do your homework and research.

Profitability

The central question of every investor in a franchise should be; are you going to make money? Unfortunately, this can be one of the most difficult questions to answer. It is not required that franchisors make an earnings claim in their disclosure materials to you. Many franchisors do not make a claim about earnings because it opens them up to liability with their franchisees. If the franchisor tells you that you are going to make a 20 percent return on your investment and you lose money, the franchisor might end up in court.  So, although there are arguments why some franchisors do not make earnings claims, I would be leery of any franchisor that is unable or unwilling to give you any information about how your investment might do. I would be much more inclined to invest in a franchise that publicly makes an earnings claim.

Whether the franchise gives you an earnings claim or not, you are still going to have to verify profitability by talking to existing franchisees in the business. Unfortunately, franchisees can be hesitant to give you actual numbers. It would be very rare for a franchisee to fax you their income statement and balance sheet for instance. However, I have been quite successful in asking enough questions that I arrive at a pretty good picture of how they are doing. For example, asking how many customers they have and their average ticket price per customer is a good way at getting their gross sales figure without asking directly.

Exit Strategy

I have a good friend who is a business consultant at McKinsey and one of his favorite questions to ask his clients is “okay, but what then?” If everything works well, and in 10 or 15 years you want to retire, will you be able to?  Some franchises do not allow the transfer of the franchise to another party. On the other side, some franchises are more than happy to buy you out at a fair price whenever you are ready to sell. It is much easier to ask these kinds of questions before you get involved with a franchise than once you have signed on the dotted line. It is always good to have an exit strategy even if you never use it.

Evergreen Provision

Similar in some ways to an exit strategy is what is sometimes called an “evergreen provision.” This provision in the franchise agreement gives the franchisee the right to transfer the franchise to your kids without the franchisor blocking the transfer in some way. Personally, I would love to be able to pass a business along to my kids someday so this is another thing I look for.

Defined Territories / Encroachment

Most lawsuits in franchising seem to come out of encroachment.  Encroachment is when the franchisor opens another store right across the street from your store and half of your customers leave. This is a nasty practice and certainly something that you should be very careful to research before you enter in to any franchise. What makes this subject so complex is that you want lots of branches for brand recognition – just not right next to your branch. One of McDonald’s strengths, of course, is that they have locations all over the world. However, even McDonalds has to be careful not to open their branches so close together that neither can survive. Exactly how this is managed varies from franchise to franchise, but is a very important thing to take into account. The policy should be clearly spelled out in the agreement so you don’t wake up and find a new location right across the street.

Franchising is a very important part of business in the US and the rest of the world. Franchises come in virtually every industry and in a myriad of shapes and sizes.  I would encourage people who are planning on becoming an entrepreneur to look into franchising as an option. As my mother says, “you won’t know any less.” But you need to be careful. Do extensive due diligence. Talk to franchisees, talk to your friends, get advice from accountants, get counsel from lawyers, and come into the SCORE office in Grand Rapids (111 Pearl St. NW) for some free advice paid for by the Small Business Association.  wwwscoregr.org

 

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Banking for a new business

Submitted by Dick McKenzie, SCORE Counselor

 

What does a “Lender” look for when considering a business loan to a new business?

There are four (4) basic questions a “Lender” needs to answer in making his or her decision.

1. What is the loan to be used for?

2. How much is the loan for?

3. How does the loan get repaid?

4. If repayment is not as planned, how does the “Lender” get repaid?

To answer the first two questions, the “Lender” is looking for a Business Plan. The key elements of the plan to include: type of business, the organization, a marketing plan, their competition and why the business will be successful; what is its niche or advantage over other types of businesses in the same market?

To answer the 3rd and 4th questions the “Lender” will want to review the financial information, which should include: 1) the borrower’s investment in the business, 2) a 24 month income and cash flow projection prepared by month and the assumptions used to determine the projections, 3) a pro-forma business balance sheet, 4) personal financial statement and 5) personal income tax returns for the past 3 years (including all schedules).The key elements that the “Lender” is trying to determine is the client’s ability to provide the necessary equity investment to start the business and necessary funds (personal and business) to operate the business until cash flow is sufficient to maintain its operation.

To cover the initial risk the “Lender” will be looking for collateral support to cover any potential shortfall. In addition to the business assets, support will normally be in the form of a personal guaranty supported by personal assets which may include a 2nd mortgage on their home, savings, CSV life insurance an/or marketable securities.

When meeting with the “Lender”, the “Borrower” should treat the meeting with the “Lender” as a job interview. He or she should have a short well rehearsed oral presentation answering the four basic questions. The “Borrower” should have copies of the information outlined above to give to the “Lender”. The professionalism in both the presentation and the information will have an impact on the time and effort the “Lender “will put into making a decision. The easier it is to review and understand the information, the easier it is for the “Lender” to make a decision.

As the “Lender” is not going to review the information at this initial meeting, volunteer to answer any questions either by phone or in person he or she may have after their review. Also ask for a time when you could expect to hear back from them. Prior to meeting with a “Lender”, you should obtain a copy of your personal credit report. If there is derogatory information; be able to address the reasons for its occurrence.

Many of the loans will relate to the SBA (Small Business Administration) ask for information and the requirements for guaranteed loans and direct loans. If your loan request is denied, make sure that you are provided a letter detailing the reason for the turn down.

For free business counseling, contact SCORE at (616) 771-0305 or email score@grandrapids.org. Visit their website at www.scoregr.org

 

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How to Decide on a Business for Me?

Submitted by Bob Cooper, SCORE Counselor

 

Deciding on the product or service that you can form into a business, starts by looking at yourself. What skills and interests do you possess? You are going to devote a lot of time and energy to the enterprise, so it is necessary that you enjoy doing the activity that will be your business.

For example, don’t decide to operate a restaurant just because you love to eat. You might even be able to make a super hamburger on the grill, but to translate that into a full time occupation of operating a restaurant, with no knowledge of the restaurant business, would be a mistake.

Therefore, the first job is to investigate you to determine your skills, interests and desires. The best of entrepreneurs love their chosen business, and are prepared every day to be challenged by the tasks that need to be done.

If you are presently employed, keep your present job while you start your new business. Calculate the amount of money it will take to keep you and your family afloat for at least six months. This is the amount of money you need in the bank before you should leave your present job.

Almost everyone starting a business needs support. That support may take the form of money; however the best support takes the form of an experienced entrepreneur with whom you can discuss your ideas. When you are starting a business a person with experience can be the best support system of all.

Once you have an idea for a business that you have an interest in, and that you feel you have the experience to excel in, you must determine the strengths and weaknesses of the competition. As part of your marketing effort, list all of your potential competitors and their strengths and weaknesses, and then compare your product or service to your list of competitors. Will you be better, cheaper or faster than your competition? In other words, why will your customers buy from you? It is important to recognize that the day before you started your business, all of your potential customers had the products and services that they needed from someone else. Then why should those customers, a day later, need your product or service?

The other side of your marketing effort is to determine who your customers are and how you will connect with them. Keep in mind that every person or company is not your customer. Make a list of the demographics that best describe your customers, and based on that list, determine how you will connect with them.

Do research on your product or service to determine how successful and needed it may be in the marketplace. The world will not beat a path to your door just because you are in business to develop customers, you need to market your product or service to your network of potential customers.

Be professional. You are planning to start a business and that business is a reflection of you, so treat the business and yourself professionally. You want people to know that you are serious, and that you will treat the business and your customers as a professional. That includes having business cards, a business phone, a business e-mail address and having a website on the Internet. Part of being professional is building a business plan and planning ahead regarding the management and operation of the business. Do your homework before starting a business.

For free business counseling, contact SCORE at (616) 771-0305 or email score@grandrapids.org. Visit their website at www.scoregr.org

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