How to Give a Franchise the Once-Over
by Ed Teixeira
A good amount of information has been written about how to evaluate a
franchise opportunity. Here is a way to do an initial franchise review before
spending a lot of time and money.
When individuals are considering a franchise opportunity I recommend that
they follow a specific process. I devote over 130 pages in my latest book,
Buyers Manual, to the franchise process. The majority of this content
includes the franchise evaluation process. However, there are situations when a
prospective franchisee or a franchise consultant or broker would prefer to
conduct a franchise program review without devoting much time or money to this
activity. In order to perform this evaluation youíll need a copy of the
franchise disclosure document. When it comes too seriously considering a
franchise opportunity a complete and detailed evaluation needs to be conducted
which should include the utilization of legal and financial professionals.
Here is how I give a franchise the once-over:
- Franchisor Management-I review the
management background and experience of the key executives and
support staff. Itís important to me that they have experience in
the business and in franchising. The franchisor should have
leadership that reflects a cross section of skills and
- Franchisor Litigation- the legal history is
an indicator of franchisee and franchisor disputes. I want to
know if the franchisor has taken action to protect its system
and brand or is it case of franchisees having disputes with the
franchisor because they are not receiving support or making a
profit? Some medium to large franchisors report no litigation
while some smaller franchisors may have had a number of legal
disputes. The amount and type of litigation is an area that can
serve as a red flag.
- Franchisee Fees-If the franchisor charges
various fees for services above and beyond the royalty and ad
fund fee I would take a closer look at their program. Some
franchisees charge fees for attending meetings and conventions.
Be sure that the initial franchise fee and royalty is comparable
to similar franchises.
- Required Suppliers and Rebates-I review
whether the franchisor requires purchases from specific vendors
and then relate that to the information in Item 8 which shows
the percent of purchases from the franchisor and other vendors
and suppliers. In addition, does the franchisor receive rebates
from vendors and suppliers?
- Franchisor Training Programs-these should
be comprehensive and presented by more than one person. I like
training that includes some onsite training for the new
- Franchisee Territory-The territory should
be defined in a consistent manner and large enough to allow for
franchisee growth. Franchisors that grant small territories
without true exclusivity make me nervous.
- Item 19-If the franchisor doesnít make a
financial disclosure under Item 19 Iíll want to know why,
especially if itís a franchisor with a minimum of 100 units.
This doesnít need to be a reason to disqualify the franchisor
but I would want to know their reasons for not disclosing
- Franchise System Growth-Has the number of
new franchisees reflected steady growth? I look for gaps in the
number of franchisees. The tables in Item 20 contain a wealth of
information which can indicate a cause for concern.
- Financial Statements-The franchisor
financials can tell a story. Unless the franchisor is a start-up
there should be three (3) years of audited financials available.
I look for a steady stream of revenues from franchisee
royalties. Initial franchise fees should not represent the
preponderance of revenues unless itís a start-up. Look for a
profitable franchisor operation; however, there may be cases
where a franchisor may take bonuses or distributions to lower
Here is some advice from the FTC:
ďThe disclosure document gives important information about the companyís
financial status, including audited financial statements. You can find
explanatory information about the franchisorís financial status in notes to the
financial statements. Investing in a financially unstable franchisor is a
significant risk; the company may go out of business or into bankruptcy after
you have invested your money.
Itís a good idea to hire a lawyer or an accountant to review the franchisorís
financial statements, audit report, and notes. They can help you understand
whether the franchisor:
- has steady growth
- has a growth plan
- makes most of its income from the sale of franchises or from
- devotes sufficient funds to support its franchise systemĒ
Before getting deeply involved with evaluating a franchise opportunity you
can perform what I refer to as a doing a franchise once-over. This is an initial
step in the franchise process that can give you an overview of a franchise
opportunity before expending lots of time. If you decide to move ahead with a
specific franchise opportunity, be sure to utilize an accountant and franchise
attorney to guide you along the way.
© 2011 FranchiseKnowHow, LLC
Ed Teixeira is the President of FranchiseKnowHow, LLC. He can be reached at