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BUYING A SMALL BUSINESS

How to Determine Which Franchise Business is Best for You

With thousands of franchise opportunities, it's no easy task. Follow our guide to choosing one that will give you a greater chance of success.
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Two years ago, John Falvey, then a specialist broker for Goldman Sachs on Wall Street, decided he needed a career change. After quitting his job, he came across an old colleague who was thriving as a franchise owner of a mobile pet-grooming business.

So Falvey decided to get into the franchising business, too. After a four-month search, he now spends his time cleaning the ducts of air conditioning and heating systems as a Rockville Centre, New York-based franchise owner of DUCTZ, an Ann Arbor, Michigan air duct cleaning franchise organization. "It isn't glamorous," he says. "I'm crawling around an attic sweaty and dirty. It's not sexy, but if it makes me money, maybe it's not that bad."

Though Falvey says his career change has been a profitable one, duct cleaning isn't exactly for everyone. But if you want to get into franchising, then you're in luck: there are thousands of different types of franchise businesses you can buy into, at varying levels of investment of both time and money.

The problem? The decision can be overwhelming. No one particular business is for everyone, but to find one that will give you a greater chance of success, you should be prepared to devote a significant amount of time and research. Here's our guide to choosing a franchise business.


Choosing the Right Franchise: Get to Know Thyself

Before you jump into any particular franchise opportunity, you need to start by getting intimate with yourself. "You have to take more than just a step back," says David Omholt, president of Plano, Texas-based franchise consulting firm Entrepreneur Authority. "You have to be brutally honest with yourself and introspective about what you're trying to accomplish by buying this business."

Here are some typical questions a franchise broker would ask to get you started on the search for your franchising soul mate:

What do you want out of a franchise business? People buy into franchises for a variety of different reasons. Is this something that you want to do as a hobby, and still work a full-time job on the side? Will this need to become your primary source of income? Are you looking to build equity? Do you eventually want to own more than one franchise?

"It sounds so simple, but the type of business you eventually select really flows from what you're trying to accomplish," says Jeff Elgin, CEO of FranChoice, a franchise consulting firm based in Eden Prairie, Minnesota.

How much money do you have to invest? You might have an idea of what type of business you want to get into, but taking inventory of your capital will give you a realistic sense of what franchise opportunities are possible for your budget. Like any business, you shouldn't expect to be profitable right when you open your doors, so make sure you have enough money to live off of while you get off the ground.

You should be prepared for the fact that loans won't necessarily be easy to come by. According to Omholt, a total investment (including your franchise fee, working capital, inventory, equipment, and other costs) of $200,000 or less will typically be a business without a physical retail location. In this case, it may be harder to secure loans from the bank. With a total investment greater than $200,000 (and a good credit score, usually 725 or above), you can most likely buy into a physical domain with hard assets and it will be easier to secure a loan for the balance of the investment.

If you've done some poking around online, you probably will have noticed a few franchise opportunities promising investments as low as $10,000. A word of caution from Omholt: "There's nothing more expensive than a cheap business. This probably will have a high turnover rate, will be more saturated and competitive, won't provide a lot of support and training, and won't be a business you can resell."

What's your exit strategy? This is a commonly neglected question potential franchisees fail to ask themselves, Omholt says. "Be honest about how long your runway is," he says. "Is this something you want to do for five years and flip? Or is this something you intend to pass down to an heir?" Answering this question is important because different franchisors have different restrictions on selling to other franchisors, for instance, and some franchise businesses aren't even scalable in the first place.

How much risk are you willing to assume? Once you've reviewed your financials, you can probably get a sense of how much risk you're able to assume, but also take into account your personality: how risk-averse are you? "There are some great, well-established companies with long track records of franchising success, but they aren't exactly on the cutting edge anymore," says Mark Siebert, CEO of the iFranchise franchise consulting group, based in Homewood, Illinois. "The newer, cutting edge companies are riskier, but they can potentially offer higher returns."

How involved can you be? Some people prefer to be directly involved in the delivery of the business's product or service, but for those who open a franchise on top of working a full-time job, this isn't an option. Think about which days of the week you'd prefer to work. "Some people tell me they'd only like to work weekdays during the day," Elgin says. "That basically eliminates two-thirds of all franchise opportunities."

What are you good at? Examine your skill sets, what you've acquired in your previous professional experience, and what you're comfortable with. Are you comfortable with sales and cold calling? Do you like interacting with customers behind the counter of a retail location? Can you manage people? (Many people are used to corporate employees, but in many franchise businesses, you'll have to manage minimum wage employees with high-turnover rates.) Do you like being out in the field working with clients and customers, instead?

While you may have the relevant skills, you don't have to be an expert in your field, just yet. Take Falvey and air conditioning and heating ducts, for example. "You shouldn't pigeon hole yourself into the industries that were in your corporate universe," Omholt says. "Franchising allows you to reinvent yourself and go into a completely different industry and leave the functional expertise to the franchisor."

How important is status? If someone asks you what you do, would you be comfortable saying you own a business that cleans the grease out of the commercial hoods in fast food kitchens? "A lot of people say I would never go into that business because they don't want to explain that to friends at cocktail parties," Elgin says. "I actually like disgusting businesses like that. They're often huge moneymakers because they don't have a lot of competition."

Dig Deeper: How to start a home-based franchise


Choosing the Right Franchise: Narrow Down Your Options

The sheer number of franchise concepts is nothing short of intimidating, but you'll be able to start crossing a good chunk of them off your list immediately, now that you know exactly what you want.

It helps not to look at particular brands, but first at specific types of businesses (retail, non-retail, industrial, or home-based, for example) and specific concepts (mobile pet grooming, tax services, or sign design, for example). When you're doing so, be logical, not emotional. Driving to different houses and grooming hundreds of different dogs may seem fun to you (or not, if you're a cat person), but does it meet the criteria you've just established about your goals, skill sets, and risk tolerance?

And even though you're narrowing down options, don't cross something off your list without logically thinking it through—past your initial impressions. Michael Greenstein, who owns a northern New Jersey-based franchise called Games2U, a mobile gaming service for birthday parties and community events, never particularly thought he would be in a gaming business catering to children. But the business is already profitable in his fourth month of operations.

"I didn't see myself in something kid-related," he says. "I'm 43, and I haven't played video games since high school. This is something none of my experience in IT management relates to."  

Greenstein found Games2U, based in Austin, Texas, through a franchise broker. Brokers extensively interview  potential franchisees to help find them particularly good matches, especially unusual (but usually profitable) opportunities they might not have originally considered. However, if you're up to the challenge, you can also do the research on your own to find those rare perfect matches, and you should be aware that some brokers only represent specific franchisors.

Once you've gone down your initial checklist, it's a good idea to set a specific deadline to come up with some particular franchisors that are potential good matches for you. "If you don't have an end date, you could end up never making a decision," Falvey says.

Dig Deeper: How to evaluate a franchise business plan


Choosing the Right Franchise: Do Your Due Diligence

Congratulations. You've finally found a short list of franchisors that have made the cut. Unfortunately, your grand opening is still a long way off. "It takes a good two to three months of pretty focused energy for a franchisee to do adequate due diligence and come to some point of clarity," Omholt says.

Each franchisor will have a Franchise Disclosure Document (FDD), which will quickly become your best friend. Under the Franchise Rule, the FTC requires that you receive the document 14 days prior to signing any contract with the franchisor. You will need to study it closely, and be prepared to devote a significant amount of time to doing so—the FDD will typically be about 100 or 150 pages long (including attachments).

Here are some things to look for in the FDD, according to the FTC:

•    What is the initial franchise fee? What are the ongoing royalty fees? Are there any other fees? (Some franchisees have to pay an additional marketing or advertising fee.)

•    What are the rules and restrictions? Franchises have a number of controls to ensure uniformity, such as restrictions on goods and services you sell, suppliers, how you operate (hours, employee uniforms, signs, bookkeeping and accounting procedures), sales area (limited to a specific territory) and rights to termination and resale, and renewal.

•    What is the franchisor's business background? How long has the franchisor been in business, what is the experience of the management team? Is there any history of bankruptcy?

•    What is the franchisor's litigation history? "If you see a lot of litigation," Elgin says, "even if you don't know exactly what's causing it, it's not a good sign."

•    Is there a financial performance representation? Some franchisors will include this earnings claim as item 19 in the FDD, which shows the average franchisee's revenue and profitability, according to Siebert.

•    Find out what you're actually paying for. What type of initial training will I receive? What type of marketing and advertising support will I receive? What type of other support will I receive? (For example, will I receive an ordering system or point of sale system?) Will the support and training be ongoing, with monthly visits?

If you have any questions, be sure to ask your franchisor. It's always a good idea to meet with the franchisor in person to get a sense of their management style and to make sure you're comfortable with it. Ask them what the day to day life of a franchisee at their business is like, or what types of traits or skill sets they have found to most likely lead to success.

In addition to the actual FDD, be sure to evaluate the franchisor's business plan to really understand the concept and what drives customers in the door. The business plan should include a clear marketing strategy and detailed financial projections.

Don't be afraid to do some research on your own. You should look into what kind of competition there is for the business, as well as the failure rates, and any other special requirements. Falvey discovered that other air conditioning and heating duct cleaners tended to do poor work, so the market was ripe for a company that would do high-quality, professional work. He also discovered, however, that he needed to get special licenses in the state of New York to do the work.

Perhaps the single most important part of your due diligence will be talking to other franchisees. You can actually find their names and contact information in the FDD.

"If the other franchisees are not so happy, they will be the first to tell you where the franchisor fell down on the job," Siebert says. "You're going to want to get an objective source willing to say the good and the bad about these guys." You can also avoid scams.

Ask at least 10 to 15 of them about the training, the ongoing support, what types of returns they have made on their investments, and how much they were able to resell for.

"It's about avoiding the expensive mistakes," Elgin says. "That's why you're paying the fees. In theory, a franchise has blazed the trail already and created a track record of success that you can check ahead of time."

Dig Deeper: How to choose the right franchise location


Choosing the Right Franchise: Resources

Federal Trade Commission (FTC) Consumer Guide for Buying a Franchise

Franchise Business Opportunities and Franchises for Sale Directories:

Franchise Gator
Franchise Solutions

Last updated: Jun 4, 2010




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