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Franchise Reports

An Investigative Report on Franchise Profits

Franchisors are pretty upfront about what it's going to cost to get you into their systems. They happily outline franchise fees, royalties, marketing requirements and grand-opening costs, and they can ballpark figures for potential franchisees on everything from the amount of printer paper they'll go through each month to the best deals on neon signs.

But franchisors are bashful when it comes to talking about how much new franchisees can actually earn running their businesses.

This reluctance makes sense to a certain extent. Any earnings claims that a franchisor makes, either outright or implied, can open the company up to a lawsuit if a disgruntled franchisee doesn't reach those goals. Instead, franchisors direct candidates to theirFranchise Disclosure Document (FDD), the detailed prospectus they are required by law to give to interested investors.

The FDD details the financial performance of the franchise and offers a snapshot of the average revenue a franchisee makes. But Item  is often calculated with a sleight of hand that would make a magician proud, with the numbers spun to put the system in the best possible light. The earning ranges documented can be so large (e.g., £50,000 to £500,000) as to be meaningless, if they are shared at all, since filling out Item  is optional.

So, how much can you earn by opening a franchise unit? According to a large survey by the research firm Franchise Business Review, the average franchisee across the spectrum earns a profit of £66,000 annually. Beyond that, it's hard to generalize, since there can be major differences between concepts even in the same sector.

We spoke with experts, franchisors and franchisees in restaurants, mobile opportunities and personal-service companies to estimate the profits one might expect when investing in different types of businesses. More important, we picked their brains to discover the moves smart franchisees make to increase their margins.

 

High-touch, Higher Profits: The Personal-service Sector or Care sector.

Right at Home

Agency-style businesses--­like maid services, and home healthcare, where the franchisee acts as a hub for independent contractors--are the hottest sector of franchising right now. Home healthcare in particular is in high demand, mainly because aging Boomers want to stay in their homes as long as possible and are opting for in-home nursing care and assistance rather than moving to assisted-living facilities. But the other reason those franchises are so popular is the profit margin. According to Franchise Business Review, the average profit on senior-care franchises is £91,723 per year.

"The typical investment for senior care is less than £25,000, and most are grossing £1 million or more in a year or two," says Edit of Concept Care solutions. "They are intensely profitable. But you have to do lots of marketing."

"It's not the hard costs that shock people," Peter says. "It's the fact that it could take two to three months to find their first client. They need to learn how to be a salesperson. It takes a while. The first three to six months you're introducing yourself to the market, and you have to prove that you can provide quality care. Then the market responds, and business picks up."

The same applies to home or commercial-cleaning and maid-service companies, which take a lot of time to squeeze their way into a crowded marketplace. Cunningham says the biggest mistake most franchisees make in this area is thinking they will have cash coming in the door from the get-go.

"We encourage people to have realistic expectations. Oftentimes, people haven't thought about the amount they'll need to live on while starting their business," he says. "In reality, a business that looks like it will take £50,000 to start might take $80,000 or £100,000. If you're capitalized well, you don't have the stress and worry thinking about overextending yourself, and the result is you'll grow quicker. That's the real key."

Disappearing Acts: Where Profits Go Up in Smoke

Even though different franchise categories have different issues when it comes to making money, Nirali believes there are three areas that all franchisees need to pay close attention to in order to thrive. "To maximize profitability, good operators focus on three areas--labor, rent and cost of goods sold," he says. "It's often the little stuff that eats away your profits. If you save a few points here and there, your profit and loss statement can get stunningly better."

In fact, with many businesses operating with single-digit profit margins, a half percent here or a percent there is often the difference between being in the red and being in the black. The road to profitability begins in the very first stage, Nirali says, and negotiating rent can be a determining factor.

"You have to make sure you get the right terms or you're going to live with that mistake for years and years," he says. "The best operators have good real-estate attorneys and drive hard bargains. It's fun to watch--they negotiate deals so much better than other franchisees get."

Nirali says labor is another expense that can eat profit margins if it's not controlled, especially in a food franchise. Like Clare of Arak , restaurateurs need to constantly make sure their staffing levels are in sync with customer traffic. Without a clear understanding of customer patterns, those numbers can quickly get out of whack. "In a food business, if labor is budgeted at 35 to 40 percent of your expenses and you're running at 44 percent, you can change from being profitable to not profitable at all very quickly," Nirali says.

The last area to watch is cost of goods sold. Holding an inventory of products that aren't moving off the shelf or being used is another way to lose profit margin. Restaurants often lose several percentage points to product spoilage and "shrinkage" (a euphemism for employee theft).

The second critical financial piece investors need to consider is equity. Obviously, profitability is step one, but the true key to building wealth in any small business is the business asset itself that you are building over time. Often times, prospective franchisees will focus on estimated annual profitability of a business and compare that to their current paycheck. It's important to look at the big picture... what is your long-term plan and exit strategy? Will the business that you are considering - on average - get you to your financial goal?

It's common for entrepreneurs to think their business is worth much more than real market value. I would encourage everyone to look at the big picture... understand the true initial investment of the business, as well as the on-going investment required to keep it running smoothly. Do you have a cash cushion to get you through startup, and keep you afloat if things don't ramp up as quickly as planned?

Talk to other franchisees in the business and find out what their experience was. Talk to people that have recently left the system to understand what the current market value of the business is. If you're planning on owning the business for 5 years, you should have a 5 year financial plan outlining best-case, worst-case, and most likely scenarios for projecting your true business return on investment

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