Franchises: What to watch (out) for

When you consider that franchises annually generate two trillion dollars worldwide and account for 50 percent of all retail sales in the United States, it’s no wonder many entrepreneurs engage in this form of business ownership.

It makes sense. With franchises, someone else has gone to the effort and expense of researching, developing, and branding a successful business model. Consequently, success rates for franchise-owned businesses are generally higher and less risky than independent businesses.

Often when thinking of franchises, people think of fast food chains, like Subway or McDonald’s, both of which just happened to take Entrepreneur’s top two slots for 2010 franchise rankings. But franchises take many other forms, including cleaning, education, health, fitness, beauty, Internet, and even professional services businesses.

If you think franchising may be right for you, you’ll want to do your homework. Here are some key factors to consider:

What interests you?  The average franchise agreement is ten years, so it’s important to make sure you choose a business sector that interests you and can hold your passion for the long term.

What can you afford?  The average initial investment for a franchise is about $250,000, not including real estate. Be sure to look at the costs for the particular franchise you want and assess whether you can afford not only the initial investment but also the fees and operating costs of running the business when compared with income forecasts.

How much freedom do you want?  Beyond examining how much involvement you’ll need to maintain in the day-to-day operations, it’s also important to fully understand how much flexibility the franchise agreement allows for minor adjustments to your particular operation.

What do other franchisees say?  Talk with franchisees of the franchise you’re exploring. Ask them about any surprises they’ve encountered, how earnings compare with the franchise’s claims, what kind of support they’ve received from the franchise, and how much entrepreneurial freedom they have.

Any discrepancies between what franchisees say versus the franchisor itself should be treated as red flags. Watch, too, for these additional warning signs:

  • Litigation—Franchisors are required to provide a franchise disclosure document to serious franchisee prospects. That document lists any litigation in which the franchisor is involved. Any more than one or two cases per 100 franchisees may indicate trouble—especially if they are cases filed by franchisees against the franchisor.

  • Overeager franchisors—Good franchises are made by good franchisees, so the franchisor should be just as careful about entering an agreement with you as you are about entering an agreement with the franchisor.

  • Unit failures—Franchises are required to disclose how many units have closed or turned over and why. For longstanding franchises (20 years plus), turnover is expected from time to time; for newer franchises, high turnover may indicate problems.

If you’ve researched franchise opportunities and have found one that appears to fit your lifestyle and financial goals, be sure to ask an experienced attorney to review the franchise disclosure document with you and any subsequent franchise agreement. You’re placing all your assets on the line—along with your future. It makes sense to have an expert advisor by your side.



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