Depending on the industry, a franchise can move your business into profitability more quickly than starting a venture from scratch. Nonetheless, you should exercise due diligence before signing a franchise agreement.
Here are four considerations before buying a franchise.
1. Study the industry
Before signing the agreement, conduct in-depth research to establish whether the franchise is right for you. This guide by the Federal Trade Commission has essential tips to help you make an informed decision.
It’s also essential to appreciate the implications of owning a franchise business. Running a franchise requires you to build on an established brand, which means you have to stick to a particular way of doing things. In other words, you will be implementing prescribed tactics and strategies.
This may be challenging for those who have a knack for inventing and creating things. But if you are ready to flow with an established system, consider equipping yourself with the basics of buying a franchise, particularly your chosen business line. This will help you to assess your technical and financial capacity to run the business.
2. Review the Franchisor Disclosure Document (FDD)
Federal law mandates franchisors to provide a potential franchisee with a Franchisor Disclosure Document (FDD) 14 days before signing the franchise agreement. FDD is a contractual document that contains legal disclosures outlining the scope of the franchise.
It’s essential to review every section of the contract to ensure that your rights are protected. Some franchisors will allow you to negotiate some parts of the FDD, so you may want to hire a franchise attorney to interpret and negotiate the agreement.
Note that franchisors may sometimes include false information in the FDD to defraud the public or conceal facts that may paint the franchise in a bad light and discourage new buyers. If you fail to identify fraudulent information, the law provides ways to claim damages. For instance, the Oregon Franchise Act protects franchisees, allowing them to recover all the costs they may have incurred in the process of buying the franchise.
3. Talk to existing franchisees
The FDD contains contact information for all existing franchisees. They can speak to the chain’s performance and future potential. They also possess crucial information that may be beneficial to you. By talking to franchisees, you can find more about the franchisor, the costs involved and other details that would help you.
4. Perform a cost analysis
Do a thorough cost analysis before committing to a franchise agreement. Compute the costs involved (rent, inventory acquisition, operating licenses, marketing costs, royalties, etc.), to have a clear picture of the obligations. You might find you will need financing before the business becomes profitable.
Finally, understand that once you sign the franchise agreement, you will be required to pay royalties regardless of whether the business makes profits or not. You may also need to continue paying royalties after you close the business. For this reason, consider negotiating the contract to receive as favorable terms as possible, both regarding the liquidation and other clauses that may be negotiable.
Conclusion
Investing in a franchise is a capital-intensive engagement that can affect your financial status for many years, whether the investment succeeds or not. Exercising due diligence is crucial.
