6 Red flags to watch out for when buying a franchise
Franchising is a growing sector in the UK, and is a great way for first-time business owners to step into the world of business.
While franchising opens up a world of opportunities for budding business owners, there are a number of potential risks associated with buying a franchise. Unlike in some countries, the franchising sector is unregulated in the UK and therefore it is important to determine which opportunities are likely to be genuine successes and those which may raise some red flags, for example:
Short trading history. Before franchising its business model, the franchisor should have tested it thoroughly to ensure that it is viable and works in practice. Ideally, the franchisor should also have run a “pilot franchise” for at least 6-12 months. If the franchise has only been running for a year or two, you should really consider whether it has been properly tested. The newer the franchise the more risk that you are taking on by buying into it.
If you are dealing with a new franchisor, make sure you ask them about what work they have done to test their business model.
Being vague and evasive – especially on the numbers. Franchisors should be reasonably open and transparent with you on the financial side of the business. Of course, no franchisor can guarantee success or a minimum level of earnings. However, they should have forecasts available based on the average turnover you can expect as well as a breakdown of the costs and expenses the business is likely to incur.
Ultimately the success of the business will be down to you as the business owner, but the franchisor should be able to give you a steer based on their own trading experience, and also the data they have from their established franchise network. If the numbers in the forecasts look too good to be true, ask follow-up questions and scrutinise them yourself.
Restricting which existing franchisees you can speak to. If your franchisor has a network of 20 franchisees but only allows you to speak with 3 of them, this is a clear warning sign that they are cherry-picking the happy franchisees. A reputable franchisor should be prepared to let you speak with all of their franchisees.
For most franchises you should be able to find most franchisees online, wherever they are advertising their business. Do your homework, and chat with as many franchisees as possible to get a true representation of how good the franchise actually is in practice.
Requiring you to pay the full franchise fee before you’ve signed up. It is common to be asked to pay a deposit to reserve a territory. This is usually refundable in part (usually less expenses) if you choose not to proceed with the purchase. However, beware if you are being asked to pay substantial sums up-front, before you have signed the franchise agreement. This is a sign that the franchisor needs your money for cashflow, which should sound alarm bells as to how financially stable the franchisor is. At worst, you’ve parted with significant cash and will have to fight to get it back if you choose not to proceed. Typically, franchisors ask for a deposit of around 10% to reserve a territory.
Unprofessional attitude. Whilst franchising in the UK is unregulated, it is a niche area of business which has, over time, built up a number of quirks and conventions. If your franchisor sends you a franchise agreement and it looks like they wrote it themselves, this should give you alarm bells as to how stable and secure they are financially.
Also, just because an agreement is drafted by the franchisor themselves, doesn’t mean that it won’t be legally binding if you sign it. You’re investing a lot of your hard-earned cash, so you should be satisfied that you are protected in a professional agreement.
An aggressive approach from the outset. It is a common characteristic of a franchise agreement to be heavily weighted in the franchisor’s favour, and to be non-negotiable. However, you should still be concerned if the franchisor is aggressive, overbearing and putting you under pressure at the outset. If the franchisor is exerting lots of pressure on you to sign up to the agreement, rather than allowing you time and space to consider the opportunity properly, this should be a clear red flag.
Once you’ve signed the franchise agreement, you will usually be committed to dealing with the franchisor for 5 years or more. During that time, as with any business, you are likely to have good and bad times in business. If the franchisor has an aggressive approach to their franchisees, you can usually expect them to enforce the terms of the franchise agreement against you in an unforgiving manner.
There are thousands of franchises to choose from, and you should carefully consider your options before committing yourself to a particular one. If your prospective franchisor is giving you some cause for concern, you should step back and evaluate the business offer on the table. You may be better off in the long run by looking elsewhere.