How to Buy a Franchise?
Are you looking to make a change in your life? Do you want to start your own business and be in business for yourself? Are you looking to buy a franchise or want to learn more about franchising and the options available to you?
When you buy a franchise there are a lot of factors to consider and, in this guide, you’ll learn the steps to buying a franchise, how to find the right fit, and how to make sure you’re legally protected.
The steps to buying a franchise, include:
- Conduct Your Initial Research
- Understand the Role of Franchise Brokers
- Find the Right Fit for Your Budget and Values
- Review the Franchise Disclosure Document
- Attend Discovery Day
- Legally Protect Yourself and Plan for the Long-Term
1. Learn what Franchising is About
Franchising should be a win-win situation for everyone involved in the business. When you buy a franchise, as a franchisee, it’s important to understand your role in the franchising process, what franchising is all about, and the role of the franchisor you’ll be working with. Understanding each role will help you determine whether or not buying a franchise is right for you and what to look for when selecting a franchise.
Role of a Franchisee
A franchisee is the person buying a franchise. As a franchisee, you’re seeking fresh opportunities and looking to join an established brand with a strong track record, an experienced and supportive team, and a plan for success.
As a franchisee, part of your role includes paying an initial franchise fee to join the franchise network. You should also expect to invest your own time, managerial effort, and capital into developing and opening your franchised business, as well as paying royalties and other potential fees to the franchisor after your franchise location opens.
Because franchisees help franchisors expand their brand, they are extremely valuable to the franchise system. Good franchisors will invest a lot of time and money into attracting properly capitalized, well-qualified franchisees that they know will add value, growth, and revenue to the business.
Role of a Franchisor
A franchisor is the person a franchisee buys a franchise opportunity from. An example of a franchisor is the corporate team behind brands such as Dunkin’ Donuts or McDonald’s.
Franchisors grant franchisees the rights and license to open their own locations using the franchisor’s established brand. The role of a franchisor includes providing franchisees with support, training, systems for operation, supply chains, and economies of scale in order to run their businesses properly and effectively.
The benefits provided by franchisors should ideally put franchisees in a significantly better position than if they’d opened a business independently. Like any business decision, though, success is never guaranteed. Because of that, it’s important that prospective franchisees educate themselves about their industry, conduct thorough research, work with a qualified attorney, and seek out franchisors whose goals and values align with their own before buying a franchise opportunity.
2. Conduct Your Initial Research
You can find franchise opportunities in a variety of ways. Common methods include online ads, contacting franchisors directly, utilizing franchise portals, and working with franchise brokers. When considering franchise opportunities, it’s important to do your homework and conduct careful research before making any decisions.
Outbound Research
When conducting outbound research, franchisees will spend time online doing deep investigations into the franchisors they’re considering buying franchise opportunities from. The outbound research process will typically include conducting Google searches for mentions of the brand, visiting franchisor websites, and utilizing franchise portals.
Franchise Portals
As a prospective franchisee, portal websites can be useful for narrowing your search down to franchise opportunities that align with your goals, budget and interests. When using portal websites, prospective franchisees should remember that listings are typically paid for by franchisors seeking exposure for their brand. Because of that, it’s important to conduct your own research independently to make sure any franchise you’re considering buying aligns with your needs.
Franchisor Websites
Prospective franchisees should plan to do a deep-dive into the brands and opportunities they’re considering. When viewing franchisor websites, look for content that introduces the members of the management team, discusses the brand’s culture and values, and highlights the successes of the franchise’s existing franchisees. You should also plan to verify information through your own research.
3. Understand the Role of Franchise Brokers
Sometimes referred to as franchise consultants, franchise brokers generate leads to connect well-qualified franchisee candidates with franchisors that match their unique goals and interests.
Working with a good franchise broker can be extremely advantageous to franchisees, but it’s important to make sure the broker you’re working with is both professional and actively committed to your success. As with any professional relationship, prospective franchisees should educate themselves about the role brokers play in the franchising process.
What to Look For in a Franchise Broker
When considering working with a franchise broker, prospective franchisees should look for brokers that are part of an organization, involved in continuing education, and active in evaluating franchise opportunities. It’s also important that brokers have a good track record and reputation, and care deeply about the long-term success of franchisees.
Good franchise brokers should work with you to evaluate your goals, capital requirements, the types of businesses you’re interested in, and the kinds of income generation or returns you’re looking for before recommending franchisors they feel would be a good fit.
Broker Fees and Commissions
While many franchise brokers will tell franchisee candidates that their services are free, it’s important to note that brokers receive a commission from the franchisor after the sale of a franchise is completed. Their commission can sometimes be 50% or more of the initial franchise fee, which is paid by the franchisee to the franchisor at the time of purchase. Because of that, it’s important to make sure any broker you work with is an industry player that prioritizes the long-term success of both parties.
While franchise brokers can be extremely valuable for making connections with franchisors, prospective franchisees still need to take accountability while seeking franchise opportunities. Even when working with a franchise broker, you should plan to do due diligence on your own by conducting thorough research and independently validating franchise opportunities before making a purchase.
4. Find the Right Fit for Your Budget and Values
When considering buying a franchise, it’s determine whether or not your goals align with those of the franchisor. A good place to start is by evaluating your capital and financial needs, and comparing them to the capital requirements and income potential of the franchise opportunity.
Evaluating Capital
One of the most important things to evaluate when deciding whether a franchise is the right fit is capital. During this process, prospective franchisees should consider all of the capital available to them in the form of savings, SBA loans, or other forms of financing. Make sure you have enough capital to cover the costs of the initial franchise fee, as well as enough reserve capital to continue operating after opening.
Franchise Investment Levels
The next step to deciding whether a franchise opportunity is the right fit for you is establishing your investment level. This is a function of evaluating capital that can help prospective franchisees determine how much they’re willing to invest in opening the business and supporting it over time.
Financial Goals
Finally, prospective franchisees should evaluate their personal financial goals to make sure they align with the franchise opportunity’s offerings. Whether you’re looking to replace or supplement your current income, or seeking more work-life balance, determining what you want to get back from the franchise can help you decide whether the franchise opportunity is a good fit.
Aligning Values With the Franchisor
Prospective franchisees should look for franchise opportunities in industries they find interesting and that align with their values. Prospective franchisees looking for a high return on investment should look for opportunities in more lucrative industries that yield higher profit potential. On the other hand, those seeking more work-life balance or looking for a new career they’re passionate about might benefit from opportunities in different industries.
No matter what you’re looking to get back from a franchise opportunity, it’s important to seek out franchise opportunities that align with your personal goals in order to ensure the best fit.
5. Review the Franchise Disclosure Document
Once you’ve found a franchise that can be a good fit for you, the next step is to review the Franchise Disclosure Document (FDD), which contains detailed disclosures about the franchise’s operations and financials.
During the evaluation process, you should expect to view presentations and videos provided by prospective franchisors, and to meet with them in person before buying. Serious prospective franchisees should also anticipate a discovery day to learn more about the franchisor’s operations, financials, culture and more.
Additionally, prospective franchisees should plan to review an important legal document called a Franchise Disclosure Document (FDD), which contains detailed disclosures about the franchise’s operations and financials.
Understanding the Franchise Disclosure Document
An FDD is one of the first pieces of information you should expect to receive as a prospective franchisee during the evaluation process. Under federal and state franchise laws, franchisors are required to provide this document to prospective franchisees at the start of a mandated 14-day disclosure period prior to the sale of a franchise.
Critical FDD Items
The FDD is a critical tool for evaluating a franchise opportunity. It contains important legal and financial disclosures that all franchisee candidates should review carefully before making any decisions about purchasing a franchise. Because of that, it’s important to know what to look for in an FDD and understand what its disclosures represent.
Management and Fees
When reviewing the FDD, franchisee candidates should expect to find information about how the franchise system has grown or contracted over time, as well as information about current and former franchisees. You should also expect to find information about who the franchisor is, who the members of the franchise management team are, whether they’re involved in litigation, and a list of fees including the initial franchise fee, royalties, and other business-related fees.
Financial Data
Prospective franchisees can find important financial performance data about the franchise system under Item 19 of the FDD, including the gross sales or gross profits of the company-owned franchise locations.
When reviewing the disclosures in this section of the FDD, it’s important to exercise caution and scrutinize the data provided. Franchisee candidates should make sure the franchisor has included financial performance representation, including how much existing franchisees have earned and how long each franchise location has been open. If financial data is lacking in this section, make sure to ask for more information.
Another important component of the FDD is Item 7, which discloses the estimated startup expenses for the franchise, including three months of reserve capital. By reviewing Items 19 and 7, prospective franchisees can get an idea about whether the franchise’s financials and income potential align with their own capital requirements prior to making the purchase.
Identifying Red Flags
Despite the significant legal and financial disclosures provided in the FDD, franchisee candidates should scrutinize the data presented to them in order to fully understand whether the franchise opportunity will be a good fit.
For example, if Item 19 only discloses the franchisor’s gross sales, it can be a good idea to ask for more data and details during the evaluation and discovery process. While gross sales can give potential franchisees an idea about the franchise’s top-end potential, profitability can be difficult to evaluate without more information.
As a prospective franchisee, it’s important to have all of the information necessary to make good business decisions. If you notice that important information or financial data is missing from the FDD during the evaluation process, make sure to ask in-depth questions and get all of the information you need prior to making a decision.
Existing Franchisee Validation
As a prospective franchisee, one of the most important tools for evaluating a franchise opportunity is validation – the process of contacting and having conversations with existing franchisees that are part of the franchise system you’re considering joining.
Within the FDD, prospective franchisees should find contact information for the franchise system’s current and former franchisees. While good franchisors should provide videos featuring their franchisees discussing their experiences, it’s important to do due diligence and reach out to franchisees directly to validate the franchisor’s track record. It can sometimes be a smart idea to speak with franchisees located in other states to avoid being perceived as potential competition.
Examples of good questions to ask existing franchisees include whether or not they’re happy with their investment, whether they would do it over again, what kind of capital was required, whether or not the franchisor has kept their word throughout the process, and if the franchisor has offered a level of support the existing franchisee is satisfied with.
By talking to existing franchisees about their experiences and satisfaction with the franchise system, you’ll have a better idea about what to expect from the franchisor.
6. Attend Discovery Day
Once you’ve reviewed the FDD and validated the franchise with existing franchisees, another useful tool for evaluating a franchise is called a discovery day. During this step in the franchise buying process, you’ll have the opportunity to meet with the franchisor in-person and learn more about their system.
What to Expect
During the discovery day, you should expect to visit the franchise headquarters to meet with the management team in person. While it’s expected that the franchisor will be putting their best foot forward, it’s important for prospective franchisees to have candid conversations by asking in-depth questions about the franchise system and its operations, culture and values.
Key Discovery Day Questions
During the discovery day, prospective franchisees will have the opportunity to get answers to their remaining questions about the franchise system. By knowing the right questions to ask, you can leave with a solid understanding of whether the franchisor is a good match for you.
Level of Support
Consider asking whether any of the franchisor’s existing franchisees are currently struggling. If so, find out why. You should also ask how the franchisor is supporting them, and how they plan to support your own location’s future success. Beyond training and opening, ask what steps the franchisor plans to take during the first six months of operation to help your location attract business and keep you on the right track, including support for marketing.
Capital Requirements
Prospective franchisees should also ask serious questions about capital during discovery day. After reviewing the FDD, find out whether the financial data from Item 7 and Item 19 will be realistically sufficient to properly open and operate your franchise location successfully.
Culture and Values
Finally, find out about the franchise system’s culture and values. By asking questions and making observations when interacting with the management team, you should be able to get a feel for whether their values align with yours.
7. Legally Protect Yourself and Plan for the Long-Term
Once you’ve decided on a franchise and you’re ready to move forward, the next step is to legally protect yourself by working with an experienced attorney to negotiate fair terms under the franchise agreement.
Franchise Agreement
A franchise agreement is a legal agreement that establishes the relationship between a franchisor and franchisee, including the granting of the license, right and obligation to establish and operate a franchised business within a designated territory (the assigned territory in which your franchised business is permitted by the franchisor to operate).
Franchise agreements are negotiable to a reasonable extent. However, a good franchisor should strive to maintain a level of uniformity in their agreements with franchisees. Because of that, key points of the franchise agreement shouldn’t fluctuate between franchisees.
Negotiate Your Franchise Agreement
In order to keep things fair and avoid the risk of entering a potentially unstable franchise system, prospective franchisees should exercise caution if they encounter a franchisor that offers to negotiate core items in their franchise agreements. These items can include the initial franchise fee, royalties, or whether franchisees will contribute to a brand development fund.
Work with a Franchise Lawyer
When evaluating potential franchise purchases and negotiating franchise agreements, prospective franchisees should work with an experienced franchise attorney.
Franchise attorneys can help you review the FDD during the evaluation process and alert you to any missing information or financial data to protect your investment. They can also help you review, understand, and negotiate important terms and provisions of the franchise agreement, including liability limits, estate planning, family transfers, setting up corporate entities and more.
When hiring a franchise attorney, prospective franchisees can benefit from selecting a lawyer that charges a fixed fee per service rather than charging for each task individually.
Planning for Your Long-Term Success
Once you’ve purchased your franchise and opened its doors, it’s important to have a plan in place to generate ongoing business. There are several potential mistakes for new franchisees to be aware of, but one of the more common ways they fail is by making the assumption that their success depends entirely on the franchisor. Instead, franchisees need to hold themselves accountable and keep in mind that the success of their business is their responsibility.
Profitability takes time, and formulating a plan for success should start before the franchise is purchased. Before you buy a franchise, make sure to have a realistic conversation with the franchisor about the level of support you can expect to receive from them related to marketing. Make sure to evaluate the capital you’ll need for the first six months of operations and determine how much capital you’ll need to market the business properly during that time.
By being proactive, asking smart questions, holding themselves accountable, and taking steps to make sure a franchise opportunity is the right fit, prospective franchisees can enjoy long-term success in their franchise journey.
