Four questions to ask before starting a franchise
Opening a franchise is a tempting approach to entrepreneurship. You get a playbook and an established brand, and the franchising opportunities appear virtually聽endless. FRANdata, a franchise-focused research and advisory firm, estimates that are launched each day, with the lodging industry, health and fitness businesses, and sit-down restaurants leading the charge.
Business-owners-to-be have taken notice. The International Franchise Association Educational Foundation estimates that will be up 3.1% in 2016, compared with a growth rate of 1.9% in nonfarm private-sector employment, continuing a steady trend established in 2011.
But it鈥檚 not all froyo and free lunches. Franchise owners face many of the same problems as traditional entrepreneurs, including , managing a staff, and keeping customers happy.
Before you sign any franchise agreement, ask yourself these four questions:
1. Are you comfortable running a franchise?
Yes, a franchise comes with guidelines from the company to help you get started, but you have to feel comfortable executing the vision, says Darrell Johnson, CEO of
鈥淭hat involves two strategies: outward facing and inward facing,鈥� he says. Outward-facing strategies聽are聽consumer-focused and include customer service, marketing and sales. Inward-facing strategies involve the nitty-gritty of business management, such as human resources and financial management. 鈥淵ou have to be good at both, or feel comfortable putting people in a position to do those things for you,鈥� Johnson says.
Even with the support of a brand behind you, you鈥檙e still entering a world where you are in charge of hiring 鈥� and firing 鈥� employees, managing finances, and turning a profit.
鈥淵ou can鈥檛 just say, 鈥業 love yogurt and want to sell frozen yogurt,鈥� 鈥� Johnson says.
This is true, he notes, not just of opening a franchise but also of starting any type of business.
2. Do you have money, and then some?
鈥淲hatever you think you鈥檙e going to need in the way of capital to get started,鈥� Johnson says, 鈥渉ave a fair amount of cushion beyond that.鈥�
Beyond traditional costs associated with starting a business, franchisees also face specific fees required to get their store off the ground. They include a franchise fee charged by the brand, potentially costing tens of thousands of dollars, and royalty and marketing fees, regularly taken as a percentage of sales.
Outside of fees and startup costs, Johnson recommends having a healthy amount of to help get you through unexpected events, such as liability issues when a customer slips and falls, or broken equipment.
鈥淭he day you run out of cash is the day you close,鈥� he says. 鈥淵ou need that working capital to last you longer than you鈥檙e led to believe or think is necessary.鈥�
3. What brand will you pick?
Just because you like a certain hotel chain doesn鈥檛 mean you should hit up the nearest location and start talking numbers. Doing your due diligence before picking a shop is crucial because different franchisors, even within the same industry, may be drastically different.
Take, for example, a franchise restaurant with a full menu versus one that specializes in just a few items, like a wing joint or an ice cream parlor. Although both are in the food industry, one situation may be better suited to a first-time franchisee or vice versa.
How do you gauge?
Johnson鈥檚 advice is to step away from the computer and into聽a franchise store.聽A good strategy is to interview franchisees who have already opened a store to get their insights on how well the brand functions.
Start by asking them whether they would do it again given everything they now know about the brand and the franchisor, Johnson advises. If they say yes and are excited about it, ask them questions about how to succeed. If they say no, you may get hints through your interview about how many of their problems were because of the brand and how many were the fault of the owner. A strong owner can make a huge聽difference in the success of a company.
Follow up with specifics:聽Ask about how customers in the area receive the brand, and what customer service challenges the franchisee has experienced. Deep insight into the brand can help you determine how well it will fit into your desired market.
If you need additional guidance, a franchise broker can help you decide what company to partner with, and a franchise attorney can help you understand a specific company and the implications of franchising with it.
4. Does the franchise offer support?
In the franchise world, you鈥檙e never truly in business by yourself. However, even though you have access to the brand鈥檚 marketing strategies, the day-to-day operations are still your responsibility.
You鈥檒l likely get guidance about store cleanliness and signage, Johnson says, but you should ask a franchisor what type of business and management support you would receive. 鈥淚t鈥檚 not when everything is working that [the prospect] should be concerned,鈥� he says. 鈥淚t鈥檚 when [he or she] has questions, issues and challenges. Where do they turn to get guidance and support?鈥�
If you鈥檝e never run your own store, ask if the franchise offers basic business training to help you understand your finances and insurance policies, as well as management training to help with tricky human resources issues, like dealing with a problem employee. Knowing upfront how much you can rely on the brand is crucial to determining whether you feel confident opening up a storefront on your own.
A word of caution
Although franchises might seem like a relatively easy business investment, they鈥檙e not bulletproof. A 2014 Wall Street Journal of SBA 7(a) loan default rates found that Planet Beach, Huntington Learning Centers, Quiznos and Cold Stone Creamery were the franchises with the highest default rates between 2004 and 2013, totaling more than $90 million.
To avoid a franchise flop, read the company鈥檚 carefully and create a business plan for the store you plan to open. You can also check out the Federal Trade Commission鈥檚 , which offers advice about identifying potential opportunities and evaluating your earnings.
Jackie Zimmermann is a staff writer at NerdWallet, a personal finance website. Email: jzimmermann@nerdwallet.com. Twitter: . This article first appeared at .
