When considering the purchase of a franchise, it’s crucial to understand the value that the franchise offers. A franchise’s value goes beyond its financials and is deeply rooted in its brand reputation, geographical reach, growth strategy, and unique offerings. This article aims to shed light on these critical aspects, helping prospective franchisees make informed decisions.
The Item 19 Folly
Nearly 40% of franchise systems do not present an Item 19 (Financial Representations) in their Franchise Disclosure Document (FDD). Some franchisors push hard to present an Item 19, believing it is vital to their sales process. However, it’s important to understand that the financials presented in the Item 19 for most franchises can be misleading. Even at 20 units, this is not a large enough statistical sample for financial data to be relied upon. Additionally, most franchisees report data when their locations are 1, 2, or 3 years old, leading to inconsistent financial metrics.
The financial numbers are merely the result of several other factors. These factors should lead your decision-making process. Knowing how a franchise compares to its competitors and understanding the underlying factors that drive success are crucial.
Brand Reputation and Awareness
Perhaps there is no more important asset for a franchise than its brand and reputation. Customers tend to visit franchise outlets with strong reputations, transferring their perceptions of quality from one outlet to all others of the same brand. As a result, franchises with strong brand reputations attract larger customer bases, supporting their success and further growth.
Strong brand reputation indicates that a franchisor has the knowledge needed to build their brand in new markets. The most important trait of a franchisor is their ability to drive customers and revenue at the franchisee level. A franchisor with a higher brand reputation and awareness is likelier to achieve this.
Consider how a franchisor demonstrates brand strength and awareness. Look for case studies on how they have successfully opened new locations and proven tactics to enhance prospects of success.
Geographical Reach
Franchisors with more experience and success in entering new regions exhibit a stronger likelihood of success. This doesn’t mean all businesses must grow to be successful, but a franchisor that has shown it can successfully expand into new regions represents a higher likelihood of success for a franchisee.
Expanding into a new region is a risky venture, involving new supplies, pricing methodologies, and employee matters. Franchisors that have successfully done this multiple times will typically have more success in the future. Ask about their expansion stories and why they were successful.
A Commitment to Franchise Unit Sales
When considering a franchise, it’s essential to understand the franchisor’s growth strategy. The quickest way to increase brand awareness is through aggressive unit-level growth. Without unit-level growth, a franchisor faces the costly endeavor of self-financing brand awareness through various marketing channels, which most franchisors can’t afford.
Rapid growth means that new franchise systems reach a minimum efficient scale to promote the brand name competitively. Early in a franchise’s existence, it is more important for franchisors to allocate resources to sales than supporting existing franchisees.
Ask the franchisor about their growth plans:
- How quickly are they planning on growing?
- What are their goals for units in 1, 3, and 5 years?
- Have they met their past growth goals?
- What strategies are they using to grow the system?
Unique Product, Service, or Systems
For a business to have a chance at being a successful franchise, three elements must exist:
- Unit-level net income margins above 10% after a royalty and recurring brand fee are contemplated.
- A proven system of being able to generate customers, whether through a sales system or brand strength.
- A unique product, service, or system that gives the business a competitive advantage.
Too often, businesses that choose to franchise only look at profit margins. However, without a unique product, service, or system, these factors are difficult to transfer to a franchise model. The success of a franchise often hinges on its uniqueness, whether in its products, services, or operational systems.
For example, Cold Stone Creamery stands out not just for its array of ice cream flavors but for its theatrical, personalized preparation method. This engaging performance, paired with customization, turns a simple ice cream outing into an experience, providing Cold Stone with a distinctive brand advantage.
When considering a franchise, evaluate the uniqueness of its offerings. This uniqueness is crucial for long-term success and competitiveness.
Conclusion
Understanding the value in buying a franchise goes beyond financial disclosures. It involves evaluating the brand’s reputation, geographical reach, growth strategy, and unique offerings. By focusing on these key elements, you can make a more informed decision and choose a franchise that offers true value and potential for success.