6 signs it's a franchise flop

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So you’re in the market for a franchise, and you’ve got your eye on a few systems you might consider. Maybe there are a few franchisors vying for you to sign the dotted line. Inside Franchise Business: 6 signs it's a franchise flop.

Here are 6 tell-tale signs that the model could be questionable.

1. No track record

Kate Groom, co-founder of SmartFranchise says if there is no trade record of the franchise in Australia, the business model could be fundamentally flawed. A trade record refers to a company-run location which has had more than 12 months trading successfully (running a profit), proving it can work.

“In our view, this information should be made available,” she says,

“Not to ask about it is negligent.”

If franchisees cannot see the cost (initial investment) being repaid in three years, then maybe it’s not worth the money.

2. It’s a hands-off business

A franchise is generally not considered a passive income source. Groom says that if a franchise system advertises an investor-type model where franchisees put in minimal effort to achieve a solid passive income, it could be a red flag.

“Certainly in the beginning you would need to be involved in the business,” she adds.

“If you want a hands-off investment, put your money in a bank.”

3. Inadequate territory size

Bill Morgan, consultant at Morgan Mac Lawyers says an inadequate territory size (if the franchise is territory-based) could be a cause for concern.

“If the size is not big enough, it could be a recipe for failure because you may not have a sustainable market,” he says.

A poorly researched, inadequate territory can also mean insignificant foot traffic. Morgan says franchisees can and should ask the franchisor for demographic analysis results as part of their due diligence.

4. Unreasonably high rents

Specifically in relation to retail franchise models, Morgan says unreasonably high rents could be a sign the franchise is going to struggle . Together with a site that has not been properly researched it could be risky if there is an insufficient volume of customers.

5. Raw deal with suppliers

Many franchise systems ask franchisees to work with preferred suppliers. The franchisor’s expertise and connections are one of the many benefits of buying into a system.

However, Morgan advises potential franchisees to read the franchise agreement carefully. On top of paying royalties and rent, being locked into using suppliers without having access to bulk buying power could be a red flag. A preferred suppliers policy keeps the network uniform, but it should also benefit the entire network.

6. Lack of training and support

Morgan says this is a common reason for dispute between franchisees and franchisors. While franchisees expect ongoing support, franchise agreements may use general discretionary language to specify the kind of support “it considers necessary”, which means franchisors are not obliged to provide ongoing support.

He also says most franchisees struggle with local area marketing (LAM) and how to implement it effectively. Potential franchisees should ask the franchisor what they propose for LAM best practice.

Questions to ask

  • What is the financial performance of the franchise system/concept?

  • Are there preferred suppliers and what is the franchisor doing to obtain the best terms for franchisees?

  • What is the potential of the proposed territory? What kind of demographic research and advice goes into selecting a site?

  • Please give examples of  support the franchisor provides, especially if a franchisee runs into difficulty?

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