Franchises are a great option for entrepreneurs because they have a proven business model and typically offer resources like training and advertising, rather than starting a business from scratch. On the other hand, that comes with high fees and initial startup costs – which can include real estate and equipment, depending on your choice of franchise. But the good news is that if you go with a proven model, you stand a better chance of getting financing for a large initial layout of capital than if you were starting something completely unproven. Let’s examine some of the key information you need to know to be prepared for what can sometimes be a long and frustrating process.
GET A FULL ACCOUNTING OF YOUR PERSONAL FINANCES
To buy a new franchise, you will need to develop a full accounting and understanding of your current financial situation. This will help you determine your chances of getting financing at reasonable terms, and what percentage of your own “in hand” wealth you may have to put at risk for your new venture as an investment or collateral.
Many franchises also have a minimum total net worth and a minimum liquid net worth to even buy into their program, regardless of how much financing you can ultimately access, so with a detailed personal accounting in hand, you can potentially exclude many franchises simply based on their own requirements.
DEVELOP A DETAILED BUSINESS PLAN
Once you have an idea about which franchises might be financially feasible for you to buy into, put some real effort into developing detailed business plans for one or more of those ideas. For most reputable lenders – those that can provide lower interest rates and longer loan periods – you will need to demonstrate that you have a clear understanding of the inputs and steps required to become and remain profitable with the franchise model you’ve chosen. Among other things, they will want to see realistic cash flow projections – because cash flow makes loan payments – for up to twelve months, and you’ll need a deep understanding of your business plan to create those.
The best starting place is the franchisor’s reports (FDDs) that are required by the FTC. Here you will find what you can expect from the franchise, how previous startups by franchisee’s have fared, and potential details about the business models they used. You will also find contact information for current and past franchisees, who you can reach out to for feedback about your own expectations.
CONSIDERING YOUR FINANCING OPTIONS
With this information in hand, you can realistically investigate what loans could be available for your investment. There are many ways to finance the purchase of a franchise, some of which may or may not be available to you or suitable for you. Also, keep in mind that you may need to put together a combination of these loans to reach your goals.
- Financing Provided by the Franchisor. Some franchisor’s offer internal financing to new buyers or offer direct links to third-party financing. which can be a great resource. Keep in mind, however, that the whole purpose of a franchisor’s business model is to make money off YOU, and for some franchisors that may extend to making money off you via hefty loans terms and fees, so don’t assume that the franchisor’s financing will automatically be the best choice. It may be, but apply to other sources to ensure you get the loan(s) best suited to you.
Different franchisors may offer varying levels of assistance as well, from helping you navigate each step of the loan search process to waiving fees for a certain period to help you get established.
- SBA loans. As a first-time franchise buyer, you will almost certainly be a small business and therefore eligible for government-backed small business administration loans. This often has advantages, such as lower down payments and good interest rates, but the application process is strict and can take time to play out – sometimes months. Choosing a franchise that is already registered and approved by the SBA can speed up the process to some degree.
- Commercial Bank and Credit-Union Loans. Loans for franchise buyers are available from these sources, but they may not be easy to come by. The amount of collateral they require from your personal wealth can be significant, and they tend to prefer proven businesspeople – and in the franchise’s specific business – over those with less relevant experience. Choosing a franchise with a strong history of success can also help move loan providers toward a positive outcome.
- Alternative Lenders. There are many alternative lenders for franchise buyers available, and you can easily find them on the internet. Where more traditional banks may focus on the risk you present as a loanee, these lenders focus on the reward of loaning to franchisees, who historically have a higher rate of success than other startups. The process can be quicker, and the likelihood of a loan offer is greater, but expect shorter loan terms and higher interest rates.
CONCLUSION
Buying into a franchise program can be a great way for an entrepreneur like you to start your business with a leg up, but it is rarely cheap (and if it is cheap, you should be very wary). For most first-time franchise buyers, some amount of financing will almost certainly be required, so use the tips listed above to get a head start on your franchise and loan search. You will have a much greater chance of success if you are well-prepared at the outset.