Advantages of Franchising your Business
We have decades of experience, insights, and practical advice to help grow your business exponentially through franchising while avoiding the pitfalls. In this blog we dig into the details behind just what makes franchising a growth strategy you might want to consider.
The primary advantages for most companies entering the realm of franchising are capital, speed of growth, motivated management, and risk reduction, but there are many others as well.
Grow your business to new heights and unlock its true potential by franchising!
The most common barrier to expansion faced by today’s small businesses is lack of access to capital. Even before the COVID-19 Lockdown, entrepreneurs often found that their growth goals outstripped their ability to fund them.
Franchising, as an alternative form of capital acquisition, offers some advantages. The primary reason most entrepreneurs turn to franchising is that it allows them to expand without the risk of debt or the cost of equity. First, since the franchisee provides all the capital required to open and operate a unit, it allows companies to grow using the resources of others. By using other people’s money, the franchiser can grow largely unfettered by debt.
Moreover, since the franchisee, not the franchiser, signs the lease and commits to various contracts, franchising allows for expansion with virtually no contingent liability, thus greatly reducing the risk to the franchiser. This means that as a franchiser, not only do you need far less capital with which to expand, but your risk is largely limited to the capital you invest in developing your franchise company, an amount that is often less than the cost of opening one additional company owned location.
2. Motivated Management
Another stumbling block facing many entrepreneurs wanting to expand is finding and retaining good unit managers. All too often, a business owner spends months looking for and training a new manager, only to see them leave or, worse yet, get hired away by a competitor. And hired managers are only employees who may or may not have a genuine commitment to their jobs, which makes supervising their work from a distance a challenge.
But franchising allows the business owner to overcome these problems by substituting an owner for the manager. No one is more motivated than someone who is materially invested in the success of the operation. Your franchisee will be an owner, often with his life’s savings invested in the business. And his compensation will come largely in the form of profits.
The combination of these factors will have several positive effects on unit level performance.
Long-term commitment: Since the franchisee is invested, they will find it difficult to walk away from the business.
Better-quality management: As a long-term “manager,” your franchisee will continue to learn about the business and is more likely to gain institutional knowledge of your business that will make them a better operator as they spends years, maybe decades, of their life in the business.
Improved operational quality: While there are no specific studies that measure this variable, franchise operators typically take the pride of ownership very seriously. They will keep their locations cleaner and train their employees better because they own, not just manage, the business.
Innovation: Because they have a stake in the success of their business, franchisees are always looking for opportunities to improve their business, a trait most managers don’t share.
Franchisees typically out-manage managers: Franchisees will also keep a sharper eye on the expense side of the equation, on labor costs, theft (by both employees and customers) and any other line item expenses that can be reduced.
Franchisees typically outperform managers: Over the years, both studies and anecdotal information have confirmed that franchisees will outperform managers when it comes to revenue generation. Based on our experience, this performance improvement can be significant, often in the range of 10 to 30 percent.
3. Speed of Growth
Every entrepreneur who’s developed something truly innovative has the same recurring nightmare: that someone else will beat them to the market with their own concept. And often these fears are based on reality.
The problem is that opening a single unit takes time. For some entrepreneurs, franchising may be the only way to ensure that they capture a market leadership position before competitors encroach on their space, because the franchisee performs most of these tasks. Franchising not only allows the franchiser financial leverage, but also allows it to leverage human resources as well. Franchising allows companies to compete with much larger businesses so they can saturate markets before these companies can respond.
Franchising is the only way where you can go from 1 outlet to 100 within a year
4. Staffing Leverage
Franchising allows franchisers to function effectively with a much leaner organisation. Since franchisees will assume many of the responsibilities otherwise shouldered by the corporate home office, franchisers can leverage these efforts to reduce overall staffing.
5. Ease of Supervision
From a managerial point of view, franchising provides other advantages as well. For one, the franchiser is not responsible for the day-to-day management of the individual franchise units. At a micro level, this means that if a shift leader or crew member calls in sick in the middle of the night, they’re calling your franchisee, not you to let them know. And it’s the franchisee’s responsibility to find a replacement or cover their shift. And if they choose to pay salaries that aren’t in line with the marketplace, employ their friends and relatives, or spend money on unnecessary or frivolous purchases, it won’t impact you or your financial returns. By eliminating these responsibilities, franchising allows you to direct your efforts toward improving the big picture.
6. Increased Profitability
The staffing leverage and ease of supervision mentioned above allows franchise organisations to run in a highly profitable manner. Since franchisers can depend on their franchisees to undertake site selection, lease negotiation, local marketing, hiring, training, accounting, payroll, and other human resources functions (just to name a few), the franchiser’s organisation is typically much leaner (and often leverages off the organisation that’s already in place to support company operations). So the net result is that a franchise organisation can be more profitable.
Unfortunately, it is difficult to quantify or prove this contention. This much we do know: Research done during the past 10 years shows top franchisers put an average of 40 and 45.6 percent to the bottom line. How many industries can you think of where net incomes in this range are even possible?
7. Improved Valuations
The combination of faster growth, increased profitability, and increased organisational leverage helps account for the fact that franchisers are often valued at a higher multiple than other businesses. So when it comes time to sell your business, the fact that you’re a successful franchiser that has established a scalable growth model could certainly be an advantage.
8. Penetration of Secondary and Tertiary Markets
The ability of franchisees to improve unit-level financial performance has some weighty implications. A typical franchisee will not only be able to generate higher revenues than a manager in a similar location but will also keep a closer eye on expenses. Moreover, since the franchisee will likely have a different cost structure than you do as a franchiser (they may pay lower salaries, may not provide the same benefits packages, etc.), they can often operate a unit more profitably even after accounting for the royalties they must pay you.
As a franchiser, this can give you the flexibility to consider markets in which corporate returns might be marginal. Of course, you never want to consider a market you don’t feel provides the franchisee with a strong likelihood of success. But if your strategy involves developing corporate units in addition to franchising, you’ll likely find your limited capital development budget won’t allow you to open as many locations as you’d like. Franchisees, on the other hand, could open and operate successfully in markets that are not high on your priority list for development.
9. Reduced Risk
By its very nature, franchising also reduces risk for the franchiser. Unless you choose to structure it differently (and few do), the franchisee has all the responsibility for the investment in the franchise operation, paying for any build-out, purchasing any inventory, hiring any employees, and taking responsibility for any working capital needed to establish the business.
The franchisee is also the one who executes leases for equipment, autos, and the physical location, and has the liability for what happens within the unit itself, so you’re largely out from under any liability for employee litigation (e.g., sexual harassment, age discrimination), consumer litigation (the hot coffee spilled in your customer’s lap), or accidents that occur in your franchise (slip-and-fall, employer’s comp, etc.).
Moreover, it’s very likely that your solicitors and other advisers will suggest you create a new legal entity to act as the franchiser. This will further limit your exposure. And since the cost of becoming a franchiser is often less than the cost of opening one more location (or entering one more market), your startup risk is greatly reduced.
The combination of these factors provides you with substantially reduced risk. Franchisers can grow to hundreds or even thousands of units with limited investment and without spending any of their own capital on unit expansion.