Resources for Educators

Basics of Buying A Franchise

Many of your students may be interested in franchising as a path to entrepreneurship. Franchising is an extremely popular way of doing business, and offers business owners a way to go into business for themselves with the support of a successful and tested brand behind them.

How it Works

When you buy a franchise, you become a franchisee, and own a unit of a franchise system. The owner (called the franchisor) grants the right to use its operating system, name, trademarked materials, products, and marketing techniques. As part of this agreement, franchisees must pay two types of fees:

  • initial fee: a payment upfront.
  • royalty fee: an ongoing payment (either on a monthly, quarterly, or annual basis) that’s usually a percentage of the franchisee’s yearly gross sales.

Both payments give franchisees the right to trademarks, tradenames, logos, advertising or other commercial symbols that belong to the franchisor.

But it does not give the franchisee the right to deviate from the business model—and for good reason. Think about stepping up to the counter of your favourite fast food restaurant: when you order a burger, you’re already eagerly anticipating the taste you know and love.

Maintaining brand consistency not only keeps loyal customers happy, but allows the franchisee to replicate the franchisor’s success.

For a franchisee, benefits include:

  • Becoming a part of an established brand
  • Working with a proven business model rather than starting from scratch
  • Attracting an established customer base
  • Becoming part of a system with multiple units, that has greater purchasing power
  • Shared advertising and marketing costs
  • Operational support and training

Finding a Franchise Fit

There are franchise systems in almost every industry and type of business in Canada. One of the biggest questions prospective franchisees ask is: how do I find the franchise that best suits me?

Before starting to look at franchises, these prospective business owners should focus in on what they want and need from a franchise system, and identify the skills and qualities they can bring to their potential role as a franchisee.

Sometimes this means following one’s passion—for instance, for someone who loves animals, maybe a pet grooming franchise would be of interest. However, it’s also important to think about not only what services or products the business offers but what running it might involve. For example, if you have a passion for food, but dislike early mornings, it might make more sense to focus your investigations on restaurant franchises that don’t serve breakfast and open later in the day.

Beyond passions and skills, it’s also important to consider financial situation. Prospective franchisees should know their net worth and whether their resources are readily available (unencumbered) or tied up in other assets (such as a house or car). An accountant who specializes in franchising can help determine the level of resources required. (More on accountants and other valuable experts below!)

Prospective franchisees should consider this list of questions before deciding on a brand to invest with:

  • What do I enjoy doing? What am I good at?
  • What am I passionate about? What do I dislike?
  • What transferrable skills and experience do I have?
  • What do I want to achieve by starting a business?
  • Do I have family support? Am I prepared to work long hours, especially during start up?
  • What level of income do I need to maintain my current lifestyle? What income would I like to make down the road?
  • What is my risk tolerance? How much am I prepared to invest?

Fact Finding

Once a potential franchisee knows what kind of franchise they’re looking for, they will have to start investigating and evaluating the franchise systems that meet their criteria.

There are many ways to go about this. Currently, one of the most popular is the internet. Sites like the Canadian Franchise Association’s (CFA) LookForAFranchise.ca provide search tools to help find franchises by category, investment level, and location. You can also request further information and materials from the individual systems.

Franchise tradeshows are another great way to evaluate franchise opportunities, with the added bonus of meeting franchise representatives face-to-face, in a relaxed environment. Individual franchise systems may also hold their own ‘discovery day’ seminars to help prospective franchisees learn more in a live setting.

Reviewing franchise opportunities can take time, and involves reviewing documents and writing business plans. At this stage, some prospective business owners choose to engage a franchise consultant, who can help with self-assessing, introduce opportunities they may not have considered, help evaluate opportunities, assist with a business plan and financing, and even help negotiate conditions in the franchise agreement.

After zeroing in on a few options, it’s important to visit those franchises’ locations, if possible, and to get familiar with their products and/or services. Another key step will be to meet with key team members at their head offices. It will be up to the prospective franchisee to decide how comfortable they are with the franchise system’s culture and people.

Expert Advice

Assembling a team of franchise experts helps prospective franchisees ensure their eventual franchise business gets off to a great start. Here are a few professionals that it’s important to recruit. Many of these relationships will continue even after the franchisee has established their business.

  • Franchise accountant: can help assess net worth, create a business plan, and with cash flow for your business.
  • Franchise consultant: can guide a self-evaluation and identify franchises that might meet the client’s needs.
  • Franchise lawyer: can help review any documentation or contracts and offer advice on issues such as irregularities or points of negotiation.
  • Franchise banker: can help create a business financing package, including loans and other financial products.
  • Franchise insurance provider: can ensure the client has the insurance coverage they need to protect their franchise business.

CFA’s franchise support services members include professionals from these disciplines and more, all of whom specialize in providing products and services for the franchise industry. The CFA’s support service directory offers information and contact details.

Financing Fundamentals

So what does it take to buy a franchise? When it comes to financing, the first step is determining the cost of the investment and all the expenses included in the franchise.

A prospective franchisee should:

  • Consider the startup costs and working capital they need once their business is up and running
  • Know how much money they need to invest (The franchisor often requires up to 50 per cent of the cost in equity)
  • Learn the difference between the total costs and the cash equity, which is the amount they’ll need to borrow
  • Indicate the amount of time it will take to repay the loans, and for the business to cover the operating costs
  • Account for unforeseen circumstances, such as a delay in opening or a slow ramp-up period

While it may seem overwhelming, a prospective franchisee can always speak with expert advisors if they’re unsure about how to calculate costs. A franchise banker can assist in determining financing requirements.

Research

Before making a decision to purchase a franchise, it’s important to do a deep dive into researching the franchise system.

This research should include:

  • Asking for a copy of the franchisor’s disclosure document
  • Speaking with existing franchisees
  • Visiting the franchisor’s head office and meet the management and support team

A disclosure document is an extremely important part of assessing whether the franchise is a good investment. Disclosure documents are provided to prospective franchisees by a franchisor, and contain a summary of information on the business, including franchisee obligations, financial information, projected earnings, and more. You can learn more about franchise disclosure documents in the Franchise Tutorial.

It’s important for a prospective franchisee to engage a franchise lawyer at this point in the process. A franchise lawyer can:

  • Explain the conditions in a franchise agreement, such as protected territories, non-competition restrictions, and obligations following the termination of a franchise
  • Advise if the franchise fee, royalty, and other fees are average for the market
  • Explain the franchise agreement and outline the legal risks and consequences
  • Review disclosure documents and provide a snapshot of a franchisor and its activities
  • Assist in the negotiation and finalization of the franchise agreement and other documents.

Once a prospective franchisee has made their decision, they sign a franchise agreement with the franchisor.

Investing in a franchise business is an important decision; like all business ventures, there is some risk involved. One of the best ways to mitigate risk is to make the most informed decision possible, which is why it’s vital for those buying a franchise to learn as much as they can and do their due diligence before signing on the dotted line.


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