Business Principles 101: With Franchises, Try It Before You Buy It

Buying a franchise poses far less of a danger than starting a business from scratch. Assuming the franchise fills a need or want, the business opportunity has already been found, and the business methods required to exploit the opportunity have been perfected. After all, the definition of a franchise is a successful business that licenses its trademark and business methods for an initial fee, and customarily requires a monthly ongoing royalty, which is commonly calculated as a percentage of the gross income. The words "assuming the franchise fills a customer need or want" are important; remember, fatal flaws are normally found in the assumptions. In recent years the "business methods" franchise has become popular. One should make sure that this type of franchise really does fill a real want or need before you buy into it.

Most franchises are relatively simple businesses to operate, although full-service automotive and heavy equipment dealership franchises, such as car dealerships, are rather complex businesses. All good franchisors operate sophisticated training programs for their franchisees.

The best of the franchisors have ongoing training programs where attendance by franchisees is mandatory. An exhaustive study of the franchise industry is beyond the scope of this article. There are entire books dedicated to the intricacies of the franchise industry. I will, however, deal with some of the fundamental practical issues that are perhaps not emphasized by others.

I have often had students complain about: (1) the initial cost of a franchise, (2) the royalty payments based on the gross revenues, (3) the required franchisee periodic training sessions.

The initial up-front fee for a franchise is driven by supply and demand, which is a function of the profitability of the franchise. There are some franchises that are almost guaranteed to make you a multi-millionaire and thus command a very high up-front franchise fee. The royalty payments are, for many franchisors, the major revenue source. If there is no royalty fee, the franchisor is telling you that they don't care if you succeed or not. As a matter of fact they probably hope that you do not succeed in that when you fail they can resell your area. The periodic training sessions are an indication that the franchisor is deeply committed to consistent and improving quality of the franchise's products or services. If the franchisor does not require royalty payments or periodic training, stay away from that franchise.

As a prospective business owner, becoming a franchisee has one additional advantage. You can "try it before you buy it." I would strongly recommend that any prospective franchisee follow that course of action. Let me tell two stories that two acquaintances of mine experienced.

Shortly after I graduated from college, a friend of mine decided to buy a small instant print shop franchise. I do not remember the name of the franchise, but one of the advantages of this franchise was that they used a Xerox model 914 that produced instant plain paper copies. The franchise also used the more traditional printing presses for larger printing jobs.

At the time, the model 914 Xerox machine was an astonishing machine, in that plain paper copiers did not exist until 1960, and the model 914 Xerox was the first truly successful plain paper copier. My friend's business, which was in downtown Denver, was an instant success, but there soon developed a problem. My friend discovered that he was allergic to the printer's ink used in the traditional printing process. The net result was that he was forced to sell the franchise, which covered the entire state of Colorado, losing some of his startup money. Had he not had the allergy to printer's ink, he would have become a very rich man. It is too bad that neither of us had much business experience at that time.

Today, I would recommend that my friend sell his printing shop as a sub-franchise and establish other sub-franchises throughout Colorado, because his master franchise covered the entire state. When I mentioned the story to my Dad, he told me that a family friend, who was an attorney in Wichita, Kansas, had been a founding member of a Cadillac Plastics franchise in Wichita. Unfortunately, Dad's friend had a strong allergic reaction to styrene, the chemical that produces the distinctive odor that is emitted by the polyester resin most commonly used in the manufacture of fiberglass parts. He also was forced to sell his interest in the Cadillac Plastics franchise. Both of these men could have avoided their experience if they had tried before buying.

The franchise business is one of the few businesses where it is very easy to try the business before you buy the business. There are many reasons, other than a physical allergy, to "try it before you buy it." You will find out what kind of people the franchisors are, and how difficult it is to work under their business rules. If your location is successful, are they likely to open another franchise two blocks away? You will learn much about the day-to-day operation of the business, and if this is the kind of activity at which you want to spend most of your waking hours. How profitable is the business, and what are the problem areas? The franchisor, if they are open and honest, will tell you the same things, but not as forcefully as the actual experience of working in an operation. Additionally, most state laws do not require franchisors to exercise any fiduciary duty when selling a franchise. Thus, a franchisor does not have to tell a franchisee the bad things about the franchise.

Are there any ground rules when choosing a franchise at which to work? I am not talking about whether you should pick McDonalds or Jiffy Lube. I am talking about whether you should pick the Jiffy Lube at Fifth and Main, or the one in the West End of town. You want to choose a test franchise that is not in the city where you want to locate, but in another city that is of similar size and demographic makeup. The reason for this is that you do not want the owner of the franchise to think that he is training his competition.

I know of no other type of business where an entrepreneur has the opportunity to learn the real-life, day-to-day operation of a business before he or she commits their money to the ownership of the business. For goodness sake, take that opportunity. There are enough hidden business problems to deal with already. Do not add ignorance to the list. Poor planning and ignorance are the root causes for the vast majority of infant mortalities of startup businesses. A franchisee probably offers the first-time entrepreneur the best chance for success, providing the chosen franchisee is a real business that fills a real need for its intended customers.

Joe Geiger has started, built and sold 10 businesses. He is a lecturer on business principles, a business consultant specializing in fundamental business problems, and author of the book Entrepreneurial Success, 101 business Principles, and The Road to the Top. He is also a professor at John Tyler Community College. He can be reached at www.TheRoadToTheTop.com

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