The Magic Of Franchise Financing

(Guest post)

Can you become rich by opening up a franchise? Possibly! However, if you’re able to open 5 or 10 successful franchise locations, you’re more likely to get rich. The good news is that a business owner that is able to successfully operate one franchise location, is likely to be able to get financing to opening additional franchise locations at very attractive interest rates and terms. One of the major benefits of opening a franchise versus starting an independent business is the ability to access capital, which can fund rapid growth.

In General Banks Don’t Like Lending To Small Businesses

Large banks, meaning those with more than $10 billion in deposits, approve less than 1 in 5 small business loan applications. The approval rate for small banks and credit unions is better, at about 1 in 2. Small business lending (as percentage of total business lending by banks) is in a multi-decade decline. More Stats

There are many reasons why banks don’t like lending to small businesses. One of the top reasons is the perceived level of management risk. Small businesses are highly dependent on the business owner. Lenders worry about the business owner’s ability to make the right decisions and the business’s dependence on the business owner to function.

The Business Owner As Manager – Risk

There are hundreds, if not thousands of decisions that a small business owners must make, ranging from hiring to marketing promotions. Even if the business owner in general makes the right decisions over a period of time, will he or she be able to keep making the right decisions as market conditions change?
 

 
The Business Owner As A Linchpin – Risk

What would happen to a business if the business owner was to no longer be involved? If the business owner had health problems or no longer wanted to be an actively involved in business? Would the person stepping in to manage the business be able to achieve the same results as the business owner?

The Magic Of Franchise Financing

Both of the risks just mentioned are greatly reduced if the business is a franchise. While the business owner is still very important to the business’s success, many of the important decisions about the business are determined by the franchisor. Furthermore, if something were to happen to the owner, there are many managers that could be hired which have had experience successfully running franchisees.

A good franchisor will set certain standards in place (how stores should look, what product to offer, what suppliers meet quality standards), and provide guidance on a wide range of issues. In other words, the franchisor provides the plan for the business and the franchise owner works on the execution of that plan. The success of the franchise location depends on the quality of the franchisor’s plan and the efforts of the owner. For an independent business, all the responsibility rests of the business owner.

Banks and lenders have rich data on how well a franchisor’s plan has worked for other businesses. Between the FDD and SBA lending stats, a lender to can judge the past performance of those following the franchisors plan. Knowing this make lenders much more comfortable.

Financing Of A New Franchise Owner

While banks are more willing to lend money to start a franchise location than an independent business, they won’t lend to anybody. You will still need to have a good credit history, put your own money into the deal, and choose a franchisor with which the bank is comfortable. These issues are covered in detail in the following article, Franchise Financing Guide. Read it, as it talks about the magic of franchise financing.

The Financing Of A Franchising Empire

I started this article by talking about getting rich through franchising. While good estimates are hard to find, an estimate by the Franchise Business Review puts the average profitability for a franchise unit at $66,000 per year. On this much money, a business could comfortably support a family in most parts of the United States, but it’s far from being rich. Multiply this number by 10 however, and you are looking at almost $700,000 per year in profits. Yes, I would say that makes an owner rich.

Once a business owner successfully runs one or two units for a couple of years, banks get very eager and interested in providing funds for expansion. Essentially, they see lending money for more franchise locations as low risk. Its not uncommon for multi-unit franchisee owners to get 5 to 10 year loans at interest rates of 8% or lower.

(This was a guest post from Marc Prosser the publisher of Fit Small Business and the co-founder of Mar Waring Ventures, an online web publishing company.)