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How a Prospective Franchisee Can Review Item 20

by  By Jeff Lefler

When reviewing an FDD, whether youre a prospective franchisee or a franchise attorney, no one piece of information can be taken independent of other information. However, data collected and analyzed from the Item 20 tables can be used to construct a clearer picture of how healthy a franchise system is.

The Franchisee Turnover Rate (FTR) can be a useful tool to provide insight into existing and potential problems in a franchise system. FTR is defined as a combination of terminated, non-renewed, ceased operations and franchisor franchisee acquisitions posted in Item 20 in the FDD.

When FranchiseGrade examined franchise systems with more than 100 units we found:

  • 18% of all franchisors have a 3 year FTR higher than 10%.
  • 38% of franchisors have a 3 year FTR of less than 5%.
  • 12% of franchisors have a 3 year FTR of 1% or less.
     

Reviewing outlet turnover

The systems in the following graph represent a sample from 1200 FDDs. Data is from 2013 FDDs.

Some of systems have a large number of outlet FTR. Although a possible sign of problems, it's not reasonable to make a final verdict on the health of a franchise system based on this fact alone.

Coverall had over 2000 outlets terminated and only 20 ceased operations in the 3 year period. Quiznos had only 93 terminated and over 2200 cease operations. Even though both have similar aggregate numbers, does the category within the FTR matter?

Snap-on Tool's 79% FTR is based on outlets reacquired by the franchisor. Is this a sign of a franchise system evolving and could this be interpreted as beneficial to incoming Franchisees?

Reviewing turnover rate percentages

Analyzing the FTR adds another piece of data that can be combined with the above to make a more intelligent investment decision.

Although both Subway and Coffee News had a comparable large number of outlets turnover compared to most other franchise systems, Subway's FTR is less than 1% compared to Coffee News FTR of 14%.

It is easy to see that Quiznos data raises some red flags. Quiznos has both a large number of outlets turnover and one of the highest 3 year FTR in the industry. As additional data is collected, a clearer picture will be drawn on the investment worthiness of the franchise system.

FTR does not tell the whole story

Information within Item 20 is extremely valuable when analyzing a potential franchise investment, but it may not tell the whole story.

Even though 26% of their entire franchise system turned over in 3 years, 86% of their FTR is because of ceased operations.

An argument can be made that since it franchises primarily to college students, who then graduate, move on to their careers and cease operations as a College Pro Painter Franchisee, this turnover may not indicate a problem but rather a reflection of their business model.

Collection, analysis and interpretation of data within the FDD is a critical component of a prospective Franchisee's due diligence requirements and process. One cannot look at one part of an FDD and make a determination on the health of a franchise investment opportunity. Rather one needs to analyze every Item, compare the data to other franchise systems and look at the aggregate results to help narrow down your options and minimize your investment risks.

Jeff Lefler is the CEO of FranchiseGrade.com FranchiseGrade.com provides franchise investors the opportunity to grade three comparative franchise systems as part of their due diligence when searching for a franchise investment. It also provides an analysis of FDDs for Attorneys and investors. www.franchisegrade.com

 

 

 

2015 FranchiseKnowHow, LLC

Ed Teixeira is the President of FranchiseKnowHow.com and Chief Operating Officer, FranchiseGrade.com. He is a former franchise executive and franchisee. He can be contacted at 631-246-5782 or at  franchiseknowhow@gmail.com

 

 

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