What are the advantages and disadvantages of buying an existing franchise unit?
One of the downsides to becoming a franchisee is the waiting. If you have a retail location, you will wait for the site selection process to be completed, then wait again for the lease signing and build-out phases. Next you wait for customers to find you. If you have a service-based business, you must go out and sell your services. Finally, you will wait until the income from your store exceeds your expenditures – the point at which you start “making” money.
One way you may be able to jump-start your new venture is to buy an existing franchise unit. But before you sign on the dotted line, go through this checklist to evaluate an existing franchise operation:
- First, evaluate the franchisor before you evaluate the existing business.
- Examine the FDD (Franchise Disclosure Document)
- Talk to the corporate staff
- Perform your due diligence by calling existing franchisees
- Once you are satisfied with the standards of the franchisor, talk to the owner of the unit you are considering and ask the following questions:
- What is the current owner’s motivation for selling?
- Is the unit successful?
- What has the financial performance of the franchise been over the past year or two?
- Does the current location have key employees? If so, how likely are they to stay with the business when you have assumed management?
- When you are satisfied with answers on how the business has been run, move on to questions about the physical location, such as:
- What is the status of the current lease?
- Will any of the equipment need replacing in the near future?
- Have there or will there be changes to the demographics in the neighborhood of the store that will adversely impinge on your ability to run a profitable business?
- Does the city plan to make any changes to the roads or areas around the business that could impede your customers from reaching you?
Why You Need to Ask These Questions:
Franchisor
Just because you are looking at buying an existing franchise business, don’t forget that you will ultimately be a franchisee of the franchisor. As mentioned in the checklist, your process should begin just as if you were buying a new franchise, with steps such as evaluating the FDD, talking with many existing franchisees in the system, and learning about the training and support provided by the franchisor. If you don’t “click” with the corporate staff or if the culture of the current franchisees does not seem to fit, it would probably be best to pass on this opportunity.
Motivation
There are many reasons why a successful business person may wish to sell a thriving business, such as illness, retirement or simply the desire to do something else. Your challenge as a potential buyer is to find out if the motivation the seller says he has matches what’s really happening. The last thing you want is to be stuck with a business that is on a downward slide, either because of mismanagement or because the business doesn’t fit the neighborhood.
A business owner is not likely to tell you that he’s been losing money because he can’t keep employees or lacks customer service skills. That would be like a home seller saying that the house is great except the neighbors are noisy and the roof leaks. But in any case, the disadvantage of buying a business with a bad reputation outweighs any perceived advantages. You will need to dig deep to find out the real reason the current franchisee wants out from under this business.
Performance
If you are buying an existing business, the price you pay should be based on how well the business is performing. You would expect to pay well for a business earning money and should pay a lower price for a unit that is not. Therefore, determining how the business is doing is very, very critical to your decision to buy and to the price you will offer to the seller.
The seller should provide you with balance sheets, income statements, tax returns and other financial statements. You will want to check these figures with the franchisor to compare how these figures match up with other franchisees that have been in business a similar amount of time. You may also want an accountant experienced with this type of business to look over the figures as you want the most accurate picture of the performance history possible.
Employees
One of the advantages of buying an existing business is that you may inherit skilled, well-trained employees. Get a good understanding of the current employees and delve into their relationship with the current owner as well as any contracts, salary-disputes, or lawsuits that may be in effect.
Real estate / lease / inventory
If the business has a lease, find out if the landlord will transfer the lease to you and how long the lease runs. If you are buying the current equipment and inventory, be sure to get a list of each item, its condition, the purchase price, whether the equipment was purchased or leased, and how each item was valued for the sale. Since there’s no fixed price for buying an existing franchise, you will want as much information as possible to determine what price you are willing to pay.
Miscellaneous
There are other things that may impact not only the value of the business as it stands today but the ability of the business to be profitable down the road. One example is that the road in front of the business may be due for some lengthy construction projects, preventing customers from reaching your door easily. Customers can be like water and will run down the shortest path. If it takes an effort to get to your business, they may avoid you and go somewhere else.
As another example, let’s assume the franchise you are interested in buying is a trendy martini bar. This territory may have been drawn because it had a high number of young couples who would have the time and income to patronize the establishment. But what happens when the neighborhood changes and becomes full of families with young children? Neighborhoods change just as people change and the demographics of an area, both now and projected into the future, can spell the success or failure of a business.
Buying an existing franchise may be a shortcut but whether it turns into a shortcut for success or the road to disaster depends on how thoroughly you research every aspect of the franchise company and of the existing business. Rely on experts to help you – like a small business banker, a business accountant, and a franchise attorney – whenever information seems fuzzy, or you just need more help understanding what you are looking at.
Remember that buying an existing business is a negotiation process and that you are under no obligation to accept the seller’s price. Your place of power is that you can always buy a new franchise and start from scratch, often for the same or less money. So don’t be tempted to accept the offer unless you have done enough research to determine if the price is fair and that the business stands a very good chance of success with you as the new, proud owner.
