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How to Fund Your Franchise Acquisition

You've just decided to explore investment opportunities in franchising, but before you can even begin to think about all the exciting times (and hard work) that await you, you encounter the giant barrier that even the most highly qualified would-be franchisees (and small business owners everywhere) have run into countless times before: financing the purchase of your new business.

Financing the Purchase of a Franchise

Even if you have all of the required start-up capital sitting in your bank account, and even if you have mentally prepared to invest a considerable sum into a franchise, you may be wary of risking your very bottom dollar for the new venture. There are alternatives, including raising debt or equity funding, but both of these options come with a set of benefits and drawbacks that you'll need to weigh carefully before committing to any particular path.

Expect to get an earful from everyone as you ponder your financing choices: the franchisor will have guidelines and suggestions; friends and family will offer opinions; and, of course, nearly every small business owner you meet will have a war story or tip to share. While it can be helpful to consider the wisdom and experience of others, it's crucial that you remember you've chosen to put yourself in the driver's seat of your own business, and few decisions will be more important to the long-term success of your venture than getting it right when it comes to financing the initial investment. 

Read on to better understand your universe of financing options as a new franchisee and how you should think about making this critical decision.

Identify the Best Source for Financing Your Business

“It is better to lose the friend than the house” – Anonymous

This old saying speaks to the risks associated with starting your own business. The chances of success and failure are equal and relying on certain types of financing may lead to problems should the venture not offer fruitful returns. Often times, rather than relying on a single means of financing, it is recommended to have a financial package which is made of different pieces of financing options. The primary options for financing is usually evaluating how much the owner themselves are willing to contribute to the venture while leaving a certain percentage for themselves as a safety net.

Following personal financing, the owner may choose from obtaining capital from a variety of sources such as turning to friends or family, approaching other investors, using franchise system financing, taking out loans from banks, government programs, seller financing from the previous owner in the case of a resale of a franchise, lines of credit, home equity loans and approaching venture capitalists are just some of the means of financing available. These financing options are discussed in detail in other articles which can be accessed from the website.

Rather than simply start trying to raise the necessary capital, it is advised to take a realistic look at the financial burdens associated with running the franchise. You have to realize that no matter how much business acumen you possess, it would still be very difficult to raise $750,000 investment for a large franchise, if you have hardly any capital of your own to invest or previous exposure to the industry.

Recognizing the Franchisor's Financial Requirements

Franchise systems have their own financial requirements which prospective franchisees must meet to join their franchise family. 

You'll want to be sure that the franchise you have your eyes on sits within the realm of your financial capabilities. No matter how passionate you may be, the franchisor receives numerous applications from similar minded individuals with high dreams and must have some criteria to recognize qualified candidates. 

Examples of franchisor requirements for franchisees

You can see how the financial requirements can encompass total net worth, liquid assets, and other components.

Del Taco, a fast-food restaurant system, requires franchisees to have a minimum net worth of $2,000,000 and minimum liquid assets of at least $250,000. A prospective franchisee must also develop a minimum of five locations to be granted a franchise. Franchisees are also required to have substantial quick-service restaurant operations experience.

Valvoline Instant Oil Change, an auto aftermarket service, generally requires that individual licensees show a net worth of $200,000, exclusive of equity in her or his primary residence, with $100,000 of that $200,000 in cash, marketable securities or other liquid assets. Corporate and partnership licensees are expected to show the capacity and liquidity necessary to make the investment required, using the net worth and cash equivalent figures noted above.

Checkers Drive-In Restaurants require that prospective franchisees have a minimum net worth of $500,000 and minimum liquid assets of $200,000, excluding personal residence.

Before Buying a Franchise Identify Your TRUE Investment

Your approach as a potential franchise buyer is to identify the real investment dollars you’ll need to get the franchise to profitability. The initial source of this information is Item 7 in the FDD. Item 7 is a schedule that details the estimated investment in the franchise. This schedule includes the cost of various items, including: the initial franchise fee, training related expenses, rent, insurance, professional fees for legal and accounting services, supplies, equipment, licenses and permits and additional working capital. Depending upon the specific franchise, there may be added categories. When reviewing the Item 7 schedule it’s important to know that franchisors are not required to list every type of fee or expense that might be part of the investment in the franchise but rather the likely investment needed to start the franchise. As you work to establish your investment number keep in mind the words “estimated” and “typical.” Item 7 is a guide, and as such, you should use this information accordingly.

Getting Out: Important Points for Selling a Franchise

In either case, the franchisee’s right to sell the franchise will be governed by the transfer provisions in their franchise agreement.

Running a Franchise from Home - Is it Right for You?

The U.S. Labor Department's Bureau of Labor Statistics recently con­ducted a survey of home-based businesses and estimated that there are just over four million self-employed, home-based workers. (The number of franchised businesses in this total was not calculated.) However, the National Association of Home-Based Businesses, in Owings Mills, MD, puts the number at closer to 50 million people. Whatever the accurate number is, it is a number that everyone agrees will only continue to rise.