Startup Junction

Under the FTC's Franchise Rule, anyone interested in a franchise must receive the Franchise Offering at least 10 business days before they are asked to sign any contract or pay any money to the franchiser. You should carefully lead the franchise offering and understand the following:

What is the business background

You should learn about the background of the executives of the franchise system. They should have some experience in managing a franchise system. If they do not have the experience, then your money can be at a big risk.

What is the litigation history

You should learn about all the litigations the franchiser and its executives are involved in. A higher number of lawsuits are a red flag and you should consider other franchise options.

Have they filed for bankruptcy

If the franchiser has filed a bankruptcy then most likely they will be unable to support your business in the long run due to poor financial conditions. You should consider avoiding a franchiser with a bankruptcy.

What are the startup and ongoing costs

The franchise offering should list all the startup and ongoing costs. We have list of typical costs. Any additional costs should be carefully evaluated before signing up for the franchise. List of typical costs:

1. Continuing royalty payments.
2. Advertising payments, both to local and national advertising funds.
3. Grand opening or other initial business promotions.
4. Business or operating licenses.
5. Product or service supply costs.
6. Real estate and leasehold improvements.
7. Discretionary equipment such as a computer system or business alarm system.
8. Training.
9. Legal fees.
10. Financial and accounting advice.
11. Insurance.
12. Compliance with local ordinances, such as zoning, waste removal, and fire and other safety codes.
13. Health insurance.
14. Employee salaries and benefits.
15. It may take several months or longer to get your business started. Consider in your total cost estimate operating expenses for the first year and personal living expenses for up to two years.

What are the restrictions

Almost very franchiser dictates who you will be managing the franchise. Typical restrictions stated in most of the offering documents are:

1. The supplier of goods from whom you may purchase.
2. The goods or services you may offer for sale.
3. The customers to whom you can offer goods or services.
4. The territory in which you can sell goods or services.
5. Understand that restrictions such as these may significantly limit your ability to exercise your own business judgment in operating your outlet.

What are the termination conditions

The franchise offering may set some conditions under which they can terminate your franchise contract. Most of the franchises come with a 15-20 year term after which you may need to renew the franchise contract. You should carefully understand these terms.

What training and other assistance is available

Every franchiser offers training to the franchise owner and its employees. You should look for answers to the followin in the franchise offering:

1. How many employees are eligible for training?
2. Can new employees receive training and, if so, is there any additional cost?
3. How long are the training sessions?
4. How much time is spent on technical training, business management training, and marketing?
5. Who teaches the training courses and what are their qualifications?
6. What type of ongoing training does the company offer and at what cost?
7. Whom can you speak to if problems arise?
8. How many support personnel are assigned to your area?
9. How many franchisees will the support personnel service?
10. Will someone be available to come to your franchised outlet to provide more individual assistance?

How advertising is done and what are the costs

Almost every franchiser requires you to contribute a certain percentage of your revenue for the national advertising and brand building. You should look for the answers to the following questions:

1. How much of the advertising fund is spent on administrative costs?
2. Are there other expenses paid from the advertising fund?
3. Do franchisees have any control over how the advertising dollars are spent?
4. What advertising promotions has the company already engaged in?
5. What advertising developments are expected in the near future?
6. How much of the fund is spent on national advertising?
7. How much of the fund is spent on advertising in your area?
8. How much of the fund is spent on selling more franchises?
9. Do all franchisees contribute equally to the advertising fund?
10. Do you need the franchiser's consent to conduct your own advertising?
11. Are there rebates or advertising contribution discounts if you conduct your own advertising?
12. Does the franchiser receive any commissions or rebates when it places advertisements? Do franchisees benefit from such commissions or rebates, or does the franchiser profit from them?

Who are the current and former franchisees

The franchise offering may list the current and former franchisees. You should use this information to contact them and further investigate the franchise. You should ask the following questions:

1. How long has the franchisee operated the franchise?
2. Where is the franchise located?
3. What was their total investment?
4. Were there any hidden or unexpected costs?
5. How long did it take them to cover operating costs and earn a reasonable income?
6. Are they satisfied with the cost, delivery, and quality of the goods or services sold?
7. What were their backgrounds prior to becoming a franchisee?
8. Was the franchiser's training adequate?
9. What ongoing assistance does the franchiser provide?
10. Are they satisfied with the franchiser's advertising program?
11. Does the franchiser fulfill its contractual obligations?
12. Would the franchisee invest in another outlet?
13. Would the franchisee recommend the investment to someone with your goals, income requirements, and background?
14. Be aware that some franchisers may give you a separate reference list of selected franchisees to contact. Be careful. Those on the list may be individuals who are paid by the franchiser to give a good opinion of the company.

What is the earnings potential

Most of the franchisers are not required and will not make earnings claims. Because FTC's Franchise Rule requires franchisers to have a reasonable basis for any earnings claims and to provide you with a document that substantiates them. Instead franchiser may give you another indicators such as total number of stores and royalties collected. This may help you come up with some rough estimate of the revenune by using the equation below.

Average Revenue Per Store = (Total Royalties / royalty rate) * ( 1 / Number of Stores)

However this is not a clear indicator of earnings as the profitability of each franchise depends on how business is being run and where it is located. But it can give you a good starting point.

What is the financial history

You should learn about the franchiser's financial history and growth plans. It is advised that you should hire a lawyer or a CPA to get answers for these questions.

1. Does the franchiser have steady growth?
2. Does the franchiser have a growth plan?
3. Does the franchiser make most of its income from the sale of franchises or from continuing royalties?
4. Does the franchiser devote sufficient funds to support its franchise system?