Should You Franchise Your Small Business?

By Robert Lerose. Originally posted on Bank of America’s Small Business Online Community.

According to the International Franchise Association, franchises are expected to create 247,000 new jobs in 2015—a 2.9 percent jump over last year—and outperform every segment of the overall economy for the fifth year in a row. Beyond the larger impact on employment, the rewards of franchising your own business include helping to expand your brand, giving you access to a handsome amount of capital, and recruiting passionate, knowledgeable talent in a relatively fast timeframe. But the downside for the franchisor is a certain loss of control over the management of a particular site and taking a smaller cut of the profits. Some small business owners rush into franchising without even adequately seeing whether their business is franchisable.

Returns on investment

Experts point to three major benefits of franchising your business: money, committed managers, and efficient expansion capabilities. “Money is certainly the biggest reason. The franchisee basically spends all the money on the investment, so you’re freed from capital constraints and can grow using somebody else’s money,” says Mark Siebert, CEO of iFranchise Group, a Homewood, Illinois-based franchise consulting firm.

Second, franchisees are usually highly motivated, stay for the long-term, and show more commitment than store managers who don’t have a huge stake in the operation. Siebert says that it is not uncommon for a franchisee to outperform company owned managers by as much as 30 percent. Third, you don’t need to tie up your resources to get the new location up and running. For example, a franchisee would be responsible for finding a site, signing the lease, hiring local workers, and training the staff.

“You can provide the franchisee with guidelines and maybe with outside resources, but they do all the work,” Siebert explains. “You don’t have to build a big infrastructure, so your corporate overhead is lower. The franchisee is the one signing all the leases. As the franchisor, you’re minimizing your risk by letting the franchisee assume some portion of that.”

And the drawbacks? The franchisee will get to keep the majority of any profits and you’ll have to cede a certain amount of authority—not easy for some entrepreneurs to accept. “You’ll still have absolute control when it comes to your brand’s standards, but you’re not going to be able to hire and fire a franchisee or their employees the way that you would with a corporate employee,” Siebert says.

In evaluating whether a business is suitable to be franchised, Siebert says to consider three things. First, does your business have a unique business model or dominate its particular niche? Has the business shown that it can actually make sales consistently? Does the management team have credibility and experience in knowing how to run their business successfully? Second, can your small business be duplicated easily? Or will your business encounter regional or legal hurdles? Does it work because it occupies a preferred location or can it flourish in different markets?

“Third is what we call the acid test. We’d like to see a financial return on the investment and a financial return on the time,” Siebert says. “Will the franchisee make a return on their time that is about the same kind of return they’d make if they got a job doing the same thing? If I’m going to be managing a sandwich shop, I would get a sandwich shop manager’s salary. And then if I’m going to invest $200,000, I’d want to get a return on my total investment as well. Typically if you are looking at an individual franchisee—by that, I mean somebody who buys one location at a time—they’re looking for a return in year two or year three of at least 15 percent. For someone who is going to do multiple locations, that individual would typically be looking for a return that’s closer to 20 percent or more.”

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