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March 6, 2017 Biz Books

Tips to determine how to join the right franchise

“Take the Fear Out of Franchising” by John P. Hayes (BizCom Press, $12.95).

It's well-documented that more small businesses fail than succeed. But when it comes to franchises, the successes outnumber the failures. In simple terms, a franchise owner doesn't start at ground zero; in return for a fee, the franchisor provides A-Z training in how to build and operate a business, and some provide assistance with financing.

Hayes explains what you need to know about making sure you're a good fit for a particular type of franchise, and how to decide which franchise to buy. Here's some of what you'll learn:

“A franchise is a license.” If you think you're in control, you're not. The franchisor controls the what, when and how of the franchisee operations. Franchisors may even have a list of preferred suppliers. Step off the prescribed path and your license can be revoked — which can have disastrous financial results.

“Know thyself.” Skill trumps passion. Don't think a franchisor will evaluate whether you have the requisite skills and mindset to own a business. Even if you have those skills, you may not have the industry-pertinent skills to succeed. While you will commit to learn those skills, accept the fact that the learning curve could make it difficult to succeed. Why? While you're learning what ownership and leadership means, you're also expected to manage day-to-day operations, make decisions, hire the right people and deal with questions from employees and customers.

Hayes provides a free tool at https://www.surveymonkey.com/r/howtobuyafranchise to help you assess which franchise opportunities are your best fits. Even when there's a good fit there's due diligence you need to perform before buying in. Federal law requires franchisors to provide prospective franchisees an annually updated disclosure agreement, which has 23 items of key information. “A legitimate franchisor will not ask you to sign any documents or pay any money until you've had the disclosure agreement for 14 days.” Before you request a copy, engage an attorney and accountant familiar with franchising to explain its terms and terminology. Here are things to focus on:

Item 19 (an optional item) indicates earnings claims. Given that earnings vary by location, time in business, and efficiency of operations, etc. many franchisors do not make such claims. That said, you should ask the franchisor for franchisee earnings information for top-, middle-, bottom- and new- (i.e. less than 2 years in business) performers coupled with demographic information about their territories and competition. Not having such information should raise a red flag.

Item 20 helps you determine the success-versus-failure rates of the franchise brand. It covers 1. The number of outlets (franchise and company-owned); 2. transfers to new owners; 3. The number of locations opened, closed, terminated, non-renewed and reacquired; 4. Status of any company-owned outlets; and 5. projected new openings. Play close attention to 2 and 3; a high number of transfers, terminations, non-renewals or re-acquisitions should raise red flags.

Item 21 provides a summary of the franchisor's financial situation and should lead to a thorough review of the financial statements. A franchisor's income comes from two sources — initial franchisee fees and licensing fees tied to a percentage of a franchisee's revenue. Established franchisors derive a higher percentage of income from licensing fees than new, rapidly-expanding franchisors.

The International Franchise Association (IFA) can help, too; check out www.franchise.org/what-should-i-ask-the-franchisor. To complete your due diligence, contact franchisees — especially the top performers and the new ones. The IFA provides several questions to ask; check out http://www.franchise.org/what-should-i-ask-the-franchisees.

Key takeaway: Hayes recommends buying a franchise “only from a franchisor who has documented the skills and values possessed by top-producing franchisees.” He also believes you should measure your results against those of top performers to gauge whether you're climbing into their ranks. If your trend isn't upward, consider selling to minimize the financial damage.

Jim Pawlak is a nationally syndicated book reviewer.

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