Thoughts on franchises?

September 04, 2024

by a searcher from Boston College - Wallace E. Carroll School of Management in Richmond, VA, USA

Morning all,

I am new to the ETA space. I wanted to get the community's thoughts on franchises. I don't think I want to pursue franchisee model over the long term (reasons include inability to scale - territory driven; and royalty model), but was thinking that it can be a jump off point. Appreciate your thoughts.

1. I am speaking with an assisted living placement (for seniors) franchise in Virginia - seems like the revenue model is based on taking a commission on placement center's first month rent. Very small & flexible model. Thinking that this can be a jump off point for ETA.

2. Also, was speaking to a bakery franchise. Royalties based on gross sales and marketing. Really long operating hours###-###-#### hours). I have seen successes in certain markets, but the average franchisee would be akin to taking a salary/benefits working for a company. This would be a big investment, and longer duration.

How painful is the the resale process for franchisee businesses?

Reply by a searcher
from University of Edinburgh in Sammamish, WA, USA

^redacted‌ thanks for the tag ^redacted‌ I assess franchises like I assess any great business: Does it have a strong brand? Can it generate consistent cash flow? Can it be run efficiently? Can it be scaled quickly? Is it easily disrupted? Does the capital structure make sense? Franchises excel in meeting all the criteria for a successful business, offering a promising path to growth and success. However, it's important to be mindful of the trade-offs involved. So, what are these costs? 1. You don't own the brand (this isn't a critical factor for me). 2. You are bound by rules you must follow, so you are not always in control of your destiny. 3. You can't exit as you please; the franchisor has a say in how you exit. For example, you can't close the shop without approval from the franchisor. 4. You pay a monthly royalty (this is not a big concern for me because in a non-franchise business, you would still spend a significant amount on R&D to remain relevant). 5. Franchisors can block your acquisition. I recently entered into an LOI for a franchise, but the franchisor disapproved the purchase because it conflicted with another franchise in our portfolio. Despite these drawbacks, it's important to note that franchising also offers significant benefits: 1. Especially for businesses that require specialized licenses or access, compliance or access can be obtained through the parent franchise. 2. You always have a partner to help you through challenges. For example, in one of my franchises that I recently exited, we mispriced a quote and would have lost money fulfilling the order, but we discussed this with the regional VP and he helped us break even. In a non-franchise business, you are on your own. Therefore, it's crucial to evaluate the franchise for the risk-adjusted cash it generates. Keep these negative factors in mind when deciding whether the risk-adjusted cash flow is worth the negatives and positives of operating a frafranchise (note my use of the word 'operate' as you never really own it; you are just operating it). I'm not going to speak about the specific sectors you are considering, as this is a personal preference. For example, I don't like assisting living broker franchises, but many people are making solid cash from these businesses.

Reply by a searcher
from Massachusetts Institute of Technology in Miami, FL, USA

Agree with a lot of what has been said above. The "right" franchise can be an extremely attractive path for ETA - a good franchisor offers very valuable support and a very valuable network, along with a strong brand and other elements. If unit economics are strong, a driven, ambitious franchisee will ALWAYS have extremely attractive opportunities to invest your capital and grow via M&A or opening de-novo stores, with de-novo development being done thoughtfully and with data analytics behind it. Non-franchise businesses do not necessarily have access to all these resources and to a closed-off market for M&A. A minor point and one that isn't talked about a whole lot, but diligence and the entire acquisition process is filled with significantly less friction. Trust exists because sellers know you are an existing franchisee instead of just a random Joe Schmo, and financials tend to be much more simple and straigthforward, along with existing checks and balances due to franchisor requirements or standards. You can quickly know how to add value or imporve another franchise, hence lowering your acquisition multiples through top-line growth and/or margin expansion.

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