The Great Recession is now more than three years past, yet it’s still dominating the franchise landscape. Financing remains the biggest issue facing both franchisees and franchisors, creating a “new normal” that demands franchisors develop new strategies and cross frontiers, franchisees become more skilled and more qualified, and the industry work harder than ever to plead its case in Washington, on Wall Street, and on Main Street.
Franchisors Respond to the Credit Issues
Once upon a time, the key role of a franchisor was to create a successful business system that could be reproduced again and again. Successful franchisors still need to do that, of course, but it’s no longer enough. Today, franchisors must also be savvy with money and help their franchisees get the credit they need to buy in.
“Helping franchisees access financing wasn’t a function of the franchisor a couple of years ago,” says Shelly Sun, CEO and cofounder of BrightStar Care. “Now it’s job No. 1.”
Innovative franchisors are confronting the credit challenge head-on in various ways. Sun’s strategy was to bring on a new staffer completely dedicated to helping prospective franchisees secure the loans they need. It seems to be working: About 75 percent of BrightStar’s new franchisees who want SBA loans are able to access the money they need to start their business, Sun says. Fewer than 25 percent were able to secure SBA loans before the staffer joined BrightStar in December 2009.
Other franchisors are launching their own lending programs. Paint and collision repair franchise MAACO, for example, signed an agreement for a franchisee lending program with Franchise America Finance in September.
Still others are counting on incentives and guarantees. Service Brands International, parent company of Molly Maid, Mr. Handyman, and ProTect Painters, offers a money-back guarantee, refunding new franchisees the entire $150,000 franchise fee if their businesses don’t hit $150,000 in gross sales within the first 18 months.
Today’s franchisors are also forced to be fearless and cross new frontiers. International expansion is not new, but franchisors are setting their sights overseas more than they ever have. “International expansion can be [very] healthy for U.S. franchise systems,” says Andrew A. Caffey, a franchise legal specialist. “It will enhance the value of the brand and open enormous markets for new expansion.”
Not only is international expansion appealing in light of the state of the U.S. economy, but the timing also seems to be ripe for franchise adoption overseas. “International markets have changed dramatically in the past 20 years,” explains Caffey. “Other countries have promoted franchising successfully and have sophisticated investors who understand the promise of franchising, and they have also adopted new laws regulating the franchise concept.”
Franchisors are also increasingly embracing social media, particularly Facebook and Twitter. Some franchisors are running online contests and developing mobile apps to boost engagement with their customers.
Companies are also beginning to understand how to use social media to market to potential investors and franchisees as well as to consumers. “Brands are now building out their franchise development website on their fan page and integrating it with their salesforce,” says Nick Powills, CEO of No Limit Media Consulting. “By doing this, they can now market the business opportunity to fans.”
Franchisees: Cash Is King!
Not surprisingly, the ongoing credit crunch is also affecting incoming franchisees. For some franchise systems, that means new franchisees must be independently wealthy or have their own access to cash. Jim Amos, CEO of Tasti D-Lite, reports that out of the nearly 600 new units that his company has sold over the past three and a half years, all but two were self-financed.
Another source of franchise investors includes former corporate employees who have given up on the job market and are leveraging their retirement savings to fund their franchise investment. “I think it is safe to say that the Rollover for Business Start-Up transaction is the No. 1 way businesses under about $250K are getting funded,” says Sherri Seiber, COO of FranFund, who estimates that there has been a roughly 75 percent increase in ROBS transactions since 2008. “This rapid growth began in 2009 after the financial crisis and continues today.”
Tom Scarda, a franchise consultant with FranChoice, has noticed that the average age of an incoming franchisee is now 50-plus, while typical buyers in 2005 were closer to 40 years old.
These more experienced buyers are often better educated, more skilled, and more aware of what they want. That can be a winning combination. “There has been somewhat of a silver lining to the financial crisis,” says Seiber. “Some of the franchisees that signed up in the ‘fast and furious’ days of 2000 to 2008 probably should never have been awarded a franchise. Those poor performers affected unit sales [and] franchise validation, and therefore hurt the franchisors’ — and future franchisees’ — ability to access additional capital. The change has been that franchisors are far more discerning about choosing franchisees and far more protective of the overall franchise system. Franchisors invested more in training and operational support, thus ensuring franchisee satisfaction and overall system profitability.”
So even though many franchise systems are seeing slower growth, they’re getting a better class of buyer. At Murphy Business & Financial Corporation, a business brokerage franchise, “The quality of new franchisees is now consistently higher than in the past,” says Roger Murphy, president and CEO. “We are more regularly awarding franchises to senior-executive, really well-qualified, cream-of-the-crop type of professionals because these are the type of people transitioning,” he says.
These new buyers are also changing the franchisor/franchisee relationship. Caffey has noticed that franchisors are becoming more aggressive about pursuing alternatives when it comes to resolving disputes with their franchisees. He reports that mediation is now becoming a common option built into franchise agreements, which should ultimately result in less litigation. “Disputes are resolved in mediation approximately 80 percent of the time,” says Caffey. “Mediation is a natural technique for franchising because of the continuing business relationship of franchisor and franchisee, and is now becoming recognized by the U.S. franchise community.”
Which Franchises Are Benefiting?
While the credit crisis has stunted the growth of some franchises, others are enjoying a growth spurt in this new economy. Franchises offering a less expensive path into the franchising industry continue to push low-cost concepts into the limelight. The trend is motivating some franchises to lower their franchise fees, as shown in our research from this year’s AllStars franchise ranking.
That’s one reason Jeff Elgin, CEO of FranChoice, predicts that service franchises will continue to be hotter than product franchises, since they typically have lower investment levels and higher margins for franchisees. Caffey believes that minimal overhead costs will bolster demand for franchise programs designed to let franchisees work out of home offices.
And Michael Ansley, president, CEO and chair of Bagger Dave’s Legendary Burger Tavern and a Buffalo Wild Wings franchisee, sees strong growth ahead for franchise concepts that cater to the ever-important Millennial generation (see “Marketing to Millennials: You’d Better Learn to Keep Up”).
Franchising will have to continue to adapt and innovate to fit with this new normal. Amos of Tasti D-Lite thinks that small-box retail franchising is beginning to show signs of moving towards non-traditional locations. “The result is lowering the cost of entry for the franchisee, requiring a smaller foot print and less leasehold improvements that may be able to survive in something other than an A location.”
The Franchising Industry Ramps Up Lobbying Efforts
In light of the dire economy, the industry as a whole has had to pull together and find new strength in unity — especially when it comes to lobbying Congress. Established in 1960, the International Franchise Association has long represented the efforts of the franchising industry. But the IFA in economically prosperous times was very different than the IFA of today.
To combat the credit issue, earlier this year, the IFA organized the first ever Small Business Lending Summit. More than 200 lenders, government officials, and franchise business leaders came together to forge new relationships and develop tools to help lenders and franchise businesses better understand the new rules impacting lending and to get credit flowing again.
Meanwhile, FranPAC, the political action committee for the IFA, has more than doubled in size over the past several years and, according to Ken Walker, CEO of Driven Brands and the 2010 chair of the IFA, collects nearly $1 million in donations per two-year congressional cycle.
The IFA is even taking on health-care reform. Many in the franchise industry are concerned that the Patient Protection and Affordable Care Act will increase health-care costs for companies, and the IFA is gathering information and research to promote a repeal of the law.
“The IFA has made a concerted effort to raise the awareness of the economic impact of franchising among Washington, D.C., policymakers to ensure they understand the impact of new — and proposed — laws and regulations on the industry’s ability to grow and create jobs that the country so desperately needs,” summarizes Steve Caldeira, IFA president and CEO.
The Year Ahead in Franchising
While U.S. franchisors increasingly look to international markets for new opportunities, they also need to be prepared for international franchises invading the U.S. market.
According to Caffey, European franchise concepts will be coming to the U.S. in greater numbers, pioneered by specialty concepts such as bread and pastry shops from France, cosmetics companies, and high-end fashion brands. “In 2012 and beyond, this will become a part of the [competitive] scene in franchising,” he says. YO! Sushi, a U.K.-based sushi brand, as well as Belgian Beer Café, a Belgian bar and restaurant concept, are two such foreign-based brands that have just recently started to make moves toward U.S. expansion.
What else 2012 brings for the franchise industry depends largely on the economy, tax reform, and health-care reform. And because 2012 is an election year, these issues and many others will be up for national debate. “We need leadership that understands the heart of the entrepreneur, the courage, the wisdom, the vision, and the persistence that is necessary to start these businesses and make payrolls and pursue the dream,” says Amos of Tasti D-Lite.
As the franchise industry continues its recovery from the Great Recession and adjusts to the new normal, some established franchises — including Friendly’s, which recently filed for bankruptcy after more than 60 years in business — have not been able to weather the changes. But for franchising in general, the new normal holds benefits as well as challenges. Those franchises able to adjust and adapt may find that business is better than ever.
See the full list of 2012 AllBusiness AllStar Franchises.
Sara Wilson is a freelance writer who specializes in issues related to small businesses. Contact her at wilson.sara@gmail.com.
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