In this article:
The benefits of franchising
Starting any small business can be a stressful process. And it makes sense why! According to the Chamber of Commerce, only 50% of small businesses are still successful after their fifth year of operations. Minimizing that risk of failure becomes a top priority for many business owners, which is one of the reasons many entrepreneurs decide to purchase a franchise rather than create a startup.
Franchising gives entrepreneurs an opportunity to own their own business, without having to start from scratch. But thatâs just one benefit of owning a franchise, there are many more advantages to this type of business.
Successful business model
When companies launch franchises, it is because they have developed a business model that has a proven track record for succeeding. As a franchisee, you should be buying a plug-and-play model that has almost guaranteed profits built into it.
Lower startup costs
Starting a new business requires working capital to lease or buy space, purchase equipment, launch advertising and marketing campaigns, and hire staff. While franchisees still need adequate funding upfront, the startup costs for a franchise are typically lower than launching a comparable independent business. Some brands, like UPS and Fire Master, even help franchisees get financed for their business.
Successful franchises have already created brand awareness for their company. The products or services offered by the brand have already gained the appreciation and respect of customers. Purchasing a business with an established brand name, like McDonaldâs, provides instant brand awareness for the new business.
Depending on the brand, many companies offer multiple support services for franchisees. They may host the entrepreneurs for training clinics at corporate offices or recommend classes that will help the franchisee prepare to own the business. Corporate training services may include management training, marketing tips, practical instructions, and financial advice.
How to get started with a franchise
Entrepreneurs interested in purchasing a franchise may be wondering about the steps required to start a franchise. Before beginning their journey, interested small business owners must first decide what brands they are interested in going into business with. There are franchise opportunities available in many different industries including restaurants, home health care, travel agencies, entertainment, and business services. Once an entrepreneur has narrowed down an interesting industry, they can list potential brands and begin the due diligence period. There are services available to help an entrepreneur find the right franchise like a franchise broker or the SBA franchise directory.
Research initial investment and franchise requirements
Depending on the industry and brand that an entrepreneur decides to invest in, the initial investment amount and ongoing costs are different. Common costs and requirements required to start a franchise include:
- Initial investment (required to use the brand name)
- Franchise fees (initial and ongoing)
- Estimated annual revenue of the franchise
- Ongoing commissions or royalties
- Working capital
- Approval requirements (franchiseeâs net worth, education, experience, etc.)
Review the franchise disclosure statement
A franchise disclosure document (FDD) is a statement provided by the franchisor that gives legal information about purchasing the franchise as well as information about fee requirements, litigation reports, patent details, and performance and revenue expectations. The FDD can be accessed by requesting a copy from the franchisor or on an online database. Most franchisors publish an updated FDD annually.
Create the business entity
Once an entrepreneur has a specific franchise in mind, they must decide how they are going to legally structure their new business. A sole proprietorship is an option, although it is a high-risk choice because sole proprietors are not legally separate from the business and can be held liable for any business debt or lawsuit implications. Most franchisees choose to purchase their business as a limited liability company (LLC) or a corporation. Setting up a new LLC is simple and can be done online through sites like Legal Zoom or through an attorney.
Write a business plan
A business plan is an important part of any new small business ownerâs journey. The business plan discusses information about the financial, marketing, and operational aspects of the new franchise. Entrepreneurs can follow steps to create a franchise business plan, which they can provide to lenders, investors, and other interested parties.
Before going any further in the process, prospective franchise owners should be sure they have the required cash on hand or are able to secure funding. The initial investment and startup costs of opening a new franchised business often require a franchise loan. Determine if you are going to use franchisor financing, personal investment or home equity loan, a bank loan, or one of the recommended financing options listed below.
Apply to be a franchise
Every franchise opportunity comes with its own application process. Some franchise applications can be completed through an online application and review of financial situation, while some require a personal appeal or written expression of interest. Interviews may be conducted by the franchise which will determine if the potential franchisee is an approved candidate.
Review contracts and franchise agreements
There is a significant amount of paperwork required when purchasing a franchise. A contract will need to be signed by both parties and will list the details surrounding:
- Type of franchise
- The term of the contract (5-20 years)
- Funding options
- Trademarks, patents, signs
- Support and training
- Fee schedule
- Advertising policies
- Dispute resolution
- Quality control procedures
Secure a location and staff
The franchisor provides guidance about location requirements, signs, store designs, fixtures, and even decorations, but ultimately the burden of finding the right space to lease or buy falls on the franchisee. Once the location is set, consider hiring a few key employees. Additional staff can be added at any time, but getting a jump start on training employees will save time down the road.
The best franchise financing options
Purchasing a franchise can be an exciting time, but deciding how to finance the new venture takes careful consideration. Franchisees have many options for financing their franchise including in-house financing from the franchise brand, using personal funds, crowdfunding, taking out a loan with a traditional bank, or working with an alternative lender on any of the following financing options.
SBA loans are a funding option for small businesses where a portion of the loan is guaranteed by the U.S. Small Business Administration. Since most of the funds are backed by the SBA, these loans are lower risk for financial institutions that issue them making them more accessible than a line of credit or other financing options. Lower interest rates and smaller down payments also make SBA loans a preferred method of financing a franchise for those that can get approved.
There are several SBA loan programs including the SBA 7(a), 504 loans, and Microloans.
SBA 7(a) loans
The most common of the SBA loan products, the SBA 7(a) loan can provide up to $5 million in funds. Approval is based on the location of the business, amount of equity invested, and the credit history of the borrower. The funds can be used for:
- Working capital, cash flow needs
- Large purchases including equipment, fixtures, supplies, land, and buildings
- Renovations in a new or existing franchise
- Business startups costs
- Refinancing existing business debts, like business credit cards
SBA 504 loans
The SBA 504 loan program partners with certified development companies (CDC) to provide funds up to $5 million. These loans have repayment terms with fixed interest rates and can be used for major fixed assets or most purposes that promote business growth and creates jobs.
The SBA Microloan program gives borrowers access to funds up to $50,000 that can be used to rebuild or re-open existing small businesses. Microloans cannot be used for refinancing business debts or to buy commercial real estate.
A term loan is a traditional type of small business financing where the borrower receives a lump sum of money upfront. The long-term or short-term loan is repaid according to a predetermined repayment schedule and each monthly payment is made up of principal and interest. The interest rates with term loans can be a fixed rate where they remain the same over the life of the loan or a variable interest rate that fluctuates with the market rate. Most term loans do not have any restrictions on what the funds are used for, but repayment terms vary depending on the lender that issues the funds.
Some small business owners purchasing a franchise may be looking for small business loans that will allow them to purchase a building or buy machinery. For those needs, there are specific loans like real estate or equipment financing.
Commercial Real Estate Loan
A commercial real estate (CRE) loan provides the necessary capital for a borrower to purchase land or buildings. The repayment terms of a CRE loan offer fixed or variable interest rates depending on the borrowerâs eligibility and may require collateral and a down payment or personal guarantee.
Equipment financing allows a borrower to make payments on equipment like vehicles, machinery, kitchen appliances, computers, and software. Since the asset acts as collateral for the loan, equipment financing may offer lower interest rates and smaller down payments than other financing options.
Choosing a loan provider for a franchise loan
Searching for the perfect franchise financing scenario begins with comparing small business loan providers. Before deciding which lender to trust with your business, consider the following factors about your franchising goals.
To determine the total amount of loan youâll want to get approved for, tally up the following costs:
- Franchise fees
- Buildout costs or other real estate expenses
- Training costs
- Licenses and legal fees
Once you have a total loan amount in mind, look for a lender that offers franchise financing for those business needs. Many franchisees choose to work with online lenders, like Biz2Credit, because they work with a variety of loan programs and approval requirements.
A lender will evaluate the creditworthiness based on several factors including:
- Personal credit score
- Business credit history
- Business plan
- Net worth
Sharing the details about your good credit with an online lender prior to completing an online application may save time finding loan options and throughout the application process. Have a copy of bank statements, tax returns, and financial statements handy to further expedite the process.
Loan application preferences
The loan application process for small business loans varies depending on the lender you work with. Traditional banks and credit unions generally have a longer process that may involve in-person appointments. Alternative lenders, like Biz2Credit, on the other hand, offer an easy online application and access to fast funding.
Considering purchasing a franchise is a big step. Finding the right lender is an important part of ensuring a smooth process. It is crucial to choose a lender that has positive reviews for customer service and offers the type of loan youâre interested in. If youâre unsure about where to find a great lender, check out the story of Bilal Bhatti, a franchisee that found the funding he needed at Biz2Credit.