FranchiseGrade.com has a new study which seeks to identify the franchises that are heading up — and those that are heading down. Having this kind of information as you choose the best franchise opportunity for you will certainly be handy! How close can they get to an accurate valuation?
The researchers began by sorting all the franchises being studied into two piles: those that had a larger number of franchise locations over a period of five years, and those that had a smaller number. Then they looked to see what characteristics the growing franchises had compared with those that were shrinking.
Here are the features they identified:
Increased working capital
While the franchisors at the bottom of the “growing” pile had a bit less in working capital requirements than those at the top of the “shrinking” pile, accessing more capital generally when with growth.
Defined territory
The growing franchisors had defined territories for their franchisees, either in the sense of laying out a specific area for each location’s territory, or else by providing a radius of miles around each franchise.
Companies that left franchisees to duke it out with nearby competitors were more likely to end up in the “shrinking” pile.
Item 19
Item 19 of the Franchise Disclosure Document is called “Franchise Performance Representations,” and it’s optional. However, among those surveyed, nearly 80% of the growing franchise companies provided this information, while fewer than 60% of the shrinking franchisors did so.
There are many reasons that a franchisor would not choose to provide Franchise Performance Representations, and the majority of franchisors in both groupings from this survey did provide FPRs, so this shouldn’t be a deal-breaker, but it should provide food for thought. Franchisors who are doing well are more likely to be willing to prove it.
Franchisee Turnover Rates
Turnover rates show how many franchises are still in business, compared with the number that have closed. The survey didn’t show a big difference in the rates.
However, they did show a big difference in the reasons for the turnovers. Growing franchises were more likely to show turnovers caused by transfers than by franchisees closing the business or by terminations. The opposite was true for shrinking franchises. In fact, the bottom 25% of the franchises in the survey had more than 36% of franchise turnover attributed to going out of business.
Differentiation
“Differentiation” was the fifth element the survey identified. It was actually more about advice for franchisors than for franchisees. The report pointed out that top growth franchisors were more likely not only to have growth, but also to have a Franchisee Advisory Council or Committee and an Independent Franchisee Association. The top quartile for growth had an average of 8% growth over five years, and 41.8% of their Franchisee Turnover Rate was based on transfers.
These top-performing franchises, FranchiseGrade.com suggests, should point these things out to their prospective franchisees. This is a way, they figure, to differentiate strong and growing franchises from those that might be struggling.
Ask these questions as you do your due diligence on the franchise business opportunities you’re considering.
