Choosing the Right Franchise

A Healthy Franchise System

Wouldn’t it be great if you could tell for sure which franchise business opportunity would be a winner, and which would not — before you made an investment? A new study might help make that a reality.

FranchiseGrade conducted a study of seven years of data from 243 franchises, and was able to distinguish the characteristics that make the difference between healthy franchises and franchises that don’t see the kind of growth and opportunity for success that the researchers defined as healthy.

For the years studied, 2008 to 2014, franchise locations as a whole saw overall growth of 13.7%, a nice increase over the course of the recession. Within the random sample the researchers studied, about two thirds of the franchise businesses showed healthy growth and one third did not.

The characteristics they found might not be the ones you would predict. For example, company-owned locations were present in healthy franchise systems. The authors of the report figure there are two reason for this. First, the fact that the corporation is able to own and run some stores is a sign of financial stability.

Second, the company-owned stores can be used to test concepts and run experiments. The franchisor can try out products or marketing ideas in settings they can control, work out the kinks, and then roll the new ideas out to franchisees with confidence.

Higher turnover rates might seem like a negative, but that’s not the case. Turnovers in healthy franchise systems turned out to be transfers or sales of franchises, while less healthy systems were more likely to have terminations or non-renewals. Both successful and unsuccessful closings show up in turnover rates, with a happy franchisee retiring from many profitable years in the business having the same effect on the math as an unhappy franchisee giving up on a failing enterprise.

Turnover rates can’t be used to distinguish between healthy and unhealthy franchise systems, according to this study.

One characteristic that showed up in unhealthy franchise systems was franchises which were sold, but which never opened. SBNO (sold but not opened) franchises should be considered a red flag when you’re researching a franchise, researchers determined.

A large number of franchisees who make the investment but give up before opening their shops and making a profit could, the researchers realized, mean that selling franchises is the main revenue stream and focus for that company. You want to work with companies that make most of their money from royalties paid by successful franchises. Companies with that focus will support their franchisees over the long run.

Healthy franchise systems, the study found, were more likely to provide a good return on investment for franchisees, and more likely to show steady growth over time.

The researchers concluded that more detailed Item19 disclosures in the Franchise Disclosure Document could make it easier for franchisees to distinguish between healthy franchise systems that offered a good investment and those that might be more difficult to succeed with. However, the success of an individual franchise is never guaranteed, and always relies on the individual franchisee.


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