Thinking About Franchising

Posted on June 06, 2008 by Ginger Watford

So you think you want to franchise your pizza concept. You think that if you started to franchise you’d become rich. You think that because you don’t have to actually run all the new stores that your people problems are over because you don’t have all those employee problems. Maybe, maybe not. Want to know why?

What I want to do is share with you my experiences and expert insights about franchising directly from the trenches. Who am I? What makes me qualified to even talk about this topic? My name is David Scott Peters. You may know me as the SMART Systems guy who can walk into any restaurant in the US and find you $10,000 in undiscovered cash before he hits the back door... Guaranteed. But did you know that I have more than a decade of experience on the franchisor side of the business? My experience ranges from legal and compliance, sales, operations to my last position as the COO of a 30 unit restaurant sports bar franchise concept in Arizona where I and the team I assembled were able to turn this failing concept around to its ultimate sale less than a year ago.

Franchising Has Great Benefits

First and foremost, you have the ability to grow your concept on other people’s money. This can be a tremendous benefit. If your concept takes an average of $1 million to build and open, and your bank requires a 20 percent cash injection, for every unit you build that’s $200,000 in cash you didn’t have to come up with and $800,000 of debt you don’t owe.

On top of that, each store, in theory, should run well because you have a franchisee/owner running the store, someone who has a stake in the business, not a general manager you employ.

What Does it Take to Start a Franchise?

To get your new franchise concept off the ground you need to budget at least $100,000 to start. Here’s a short list (and not inclusive by any means) of things you’ll spend that money on:

1. An Attorney: Hire a franchise attorney to write your Uniform Franchise Offering Circular (UFOC) and Franchise Agreement (FA). The UFOC is a required disclosure document by all registration states and is accepted by all non-registration states. The FA is the actual contract itself.
   Please make note that you must use an attorney who specializes in franchising. There are many complicated legal issues and requirements in franchising. Having the best attorney possible on your team is imperative. There are really only a small handful of attorneys across the country that I would consider calling. If I were you, my first call would be directly to Christina Noyes, partner with Gust Rosenfeld P.L.C. at (602) 257-7488 or contact her by e-mail at cmnoyes@gustlaw.com.
2. A CPA: Federal regulations require that your books are audited and included in your UFOC every year. In fact, every year you update your UFOC it requires that the last three years of audited financial statements are included … that’s right, the last three years! A certified public accountant (CPA) who understands franchising is a plus. Let me short cut your search. Call Rick J. Kratz, CPA and partner at Pittman and Murdough, PLLC at (602) 265-6590.
3. The Trademark: You must have a federally registered trademark, or at least one going through the application process. Your franchise attorney should be able to handle this for you.
4. Development of Materials: Remember, you’re selling a name, trademark and a system when you sell a franchise. The system part is extremely important not only to the success of your concept but federal regulations require that your UFOC list the table of contents of your development manual, operations manual, hours of training a new franchisee will go through by topic and who exactly will be doing the training.
5. Sales Materials: You have to be able to sell the franchise and for that you’ll need franchise sales materials. These sales tools not only have to look good and assist you in the sales process, but have to meet strict federal advertising requirements set by the Federal Trade Commission. Keep in mind that some states require you any advertising materials you’re going to use be submitted for approval to that state in advance of being used.

Again, this is only a short list and while there are many other expenses that will follow, these are at the top and often the most expensive.

What About Getting Rich?

It looks good on paper. For every franchise license you sell you bring in a franchise fee. The franchise fee usually ranges from $15,000 to $50,000. Heck, at $50,000 all you have to do is sell 10 units to bring in $500,000. Sounds pretty good, right? Think again.

When I hear a new franchisor talk about how they are going to get rich by expanding their concept via selling franchises, I say “think again.” While wealth can follow in any business, there are many hidden costs in franchising.

For instance, it’s not a matter of if you get sued, but rather when. When I was asked to come back and turn around the concept I was telling you about, I walked into a nightmare. For the first three years of the five-year turnaround, we spent an average of $14,000 a month in legal fees. That’s over a half a million dollars in just three years time, fixing the problems created by the past ownership.

You will need a corporate staff you never needed before. At a bare minimum you have to have a director of operations, a sales person (who makes a large salary and sometimes a large commission on each sale), and an office manager. And don’t forget yourself – you have to get paid. And depending on the size of your concept, you may need a director of development and an opening team. That can easily eat up your $500,000 in franchise fees – if you even made that much.

You need a corporate office, telephones, an 800 number, office equipment — the list goes on. You can see very quickly how the franchise fees can quickly be gobbled up. I know what you’re thinking, “But David, what about the six to eight percent of gross sales each franchise location pays each and every month in royalties?” In today’s market place it’s taking longer and longer to open a new restaurant. A free-standing franchise location my take up to 14 months to find a location, get financing, build the building and open. And that doesn’t include the time it takes to find a prospect and sell a franchise.

And did I mention the thousands of dollars per month you may spend in advertising just finding prospects. The same prospect is looking at what seems like an unlimited number of franchise opportunities on the market today and that list is growing daily. You’re competing with a lot of other appealing concepts for the same buyers. Can you see that you may lose money for the first few years building your system and before you really start to see the real benefits of franchising?

Unknown Things You Need to Think About

If you still want to move forward and franchise your pizza concept after reading this far, you are a grade-A, 100 percent bona fide entrepreneur. Nothing is going to stand in your way of building your dream. OK, Dream Builder, let’s attack this challenge and build a concept we can be proud of.

Here are some things you need to think about to keep your concept strong and your franchisees happy and profitable:

1. You need to hire a food distribution consultant. No matter how many years you’ve been buying food, you can’t do it as well as they can. It’s worth every penny!
   A good consultant will negotiate the best possible distribution agreement for you and your concept. He or she will negotiate directly with your manufacturers to get you the best prices possible based on your purchasing power (number of units and product projected to be purchased). He will monitor that the price you were quoted is the price that was delivered to each franchisee on every delivery.
   
   Let me put this in perspective. We thought we were doing a good job of this on our own. I had a more-than-qualified director of operations doing this for us. But after bringing on a consultant, our system saved an additional seven percent on food purchases! Call, Rick Salisbury, owner of Salz-Wood Associates at (801) 541-9484.
2. You need to join the International Franchise Association (IFA). Besides being a great lobbying organization keeping the franchise communities best interest moving forward, they have great franchise organization training programs to help you run smoothly and stay out of hot water. They have conventions that are simply a must to attend if you’re going to be in the franchising business. To learn more go to www.franchise.org.
3. If you serve beer, learn who your chain account representative is for the major breweries and/or local distributors to partner with them on promotions exclusive to your concept. Relationships like these are often worth tens of thousands of dollars per year in advertising and marking support to your concept.
4. Do your research and make sure that the point of sales (POS) system you require your franchisees to use does everything you and they need it to do. While you probably are already familiar with the importance of a good POS system in your restaurant operation, it’s even more important to your franchise corporate operation.

A POS system needs to have the ability to be polled by your corporate offices. This will allow you to grab all of the pertinent sales data from each store on a daily basis. This data will be used to monitor sales promotions, menu evaluation, profitability evaluations and royalties dues at the unit and system-wide levels. Some POS systems give you real-time information.

So you want to franchise your pizza concept. With your eyes wide open, understanding the cost, risks and benefits, you are on your way to building a successful system you and your franchisees can be proud of.

This article was written by David Scott Peters, please visit www.pmq.com for more Pizza Industry News.

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