Choosing the Right Franchise, Franchise Operations

How to Spot a Bad Franchise Opportunity

Man sitting in front of his computer with hand-drawn eyes on yellow post-it notes covering his eyes.

So, you’re going down the black hole of endless research for the perfect franchise opportunity. And for good reason: It would be naive to assume every franchise you come across is a good investment.

How do you figure out which is the opportunity with the lowest risk and highest probability for success? Here are some warning signs or proverbial red flags to look out for to help you avoid wasting time, money and effort:

Beware the High-Pressure Sales Pitch

You know those get-rich-quick seminars? That’s not what buying a franchise should feel like. Instead, it should feel like more of an interview. If you can feel a franchise representative’s desperation or they want you to make a quick decision, it’s a bad sign. It also says they probably don’t have your best interest in mind. Plus, admirable franchises with proven track records of success have reputations to uphold; you don’t get a good reputation with a pushy demeanor.

In some cases, they oversell the franchise and make a pitch that doesn’t quite match what’s in the Franchise Disclosure Document (FDD). Compare what the franchise representative promises with what’s in the FDD. At the end of the day, you’re legally bound to what’s on paper.

Heed Questionable Company History

Just like Yelp, you’re bound to uncover negative reviews about a franchise no matter how trustworthy they are. But, if you notice a trend of trouble that seems to follow the company, be forewarned. Look out for a history of legal issues or litigation disputes. Franchise expert, Ed Teixeria wrote an article in Entrepreneur that included the following advice: My rule of thumb has been litigation that represents more than 5 percent of the number of franchises should be reviewed.

Be Wary of Missing Paperwork or Vague Verbiage

Franchise representatives are also sales people. Pay attention to their verbiage. If they talk around a subject instead of directly addressing it, that’s a red flag, especially if they can’t provide the necessary documentation typically provided during the franchise sales process. An intentionally vague pitch means there’s a good chance they’re hiding something.

Watch Out for Outrageous Fees

Three things to look out for with this one: (1) if a franchisor is more concerned about upfront fees rather than royalties (2) if the franchisor tries to “sweeten the deal” by discounting fees and royalties (3) if a franchisor doesn’t disclose the profit and loss statements or franchise performance representation (Item 19 of the FDD).

Experienced franchisors know the money is in the ongoing royalties, not upfront fees. Also keep in mind; you’re buying into a business model, not a used car. Heavily discounted fees are a sign that the franchisor is willing to diminish their brand to make the sale. Unless you’re looking at a company new to the franchise game, there’s not a good reason for a franchisor to earn most of their revenue from fees. And although franchise performance representation is optional, if the franchisor isn’t showing you the numbers before buying into the model, there’s probably a reason for that – and not a good one.

Mind Negative Franchisee Feedback

This red flag might be the most important of all. Part of the due diligence process is franchisee validation. The FDD includes the contact information of past and present franchisees, so you can directly reach out to them. It’s your opportunity to get a real feel for what happens after you sign the paperwork. Ask tough questions like why a past franchisee exited the system or what a present franchisee dislikes about the franchisor.

Buying a franchise is a major decision. Your business and money are on the line. You need to ensure a franchisor will deliver as promised so you can do the same for them; it’s a mutually financially beneficial agreement.

Either way, identifying these warning signs will help you decipher if a franchise is the right fit for you. If you want to learn more about franchising, there’s no better place to start than America’s Best Franchises’ Learning Center.

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