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How Much Are You Losing by Not Franchising Your Business? 6 Factors You Must Consider

We’ve seen numerous articles through the years about what it costs to franchise your business, but I suggest you think about it another way:

What’s it cost you not to franchise your business?

Loss is greater than the cost

The cost to franchise a business varies greatly, from less than $40,000 to more than $150,000, and whether you spend a little or a lot, that amount pales in comparison to what you may lose by not franchising your business.

Before I get ahead of myself, however, and lest you believe that my only purpose in writing this article is to convince you to franchise your business, let me add these caveats:

  1. Franchising is not for every business, and that’s okay. Some businesses cannot be franchised. Other businesses should not be franchised. The business that loses is the one that should franchise and doesn’t.
  2. The initial fee to franchise a business is only the beginning of your investment. Don’t be misled. The initial fee usually covers the following: franchise documents, marketing plan, operations manual, sales materials … but it doesn’t come with a network of fee-paying franchisees! You will continue to invest in your business to cultivate a profitable network of franchisees. (By the way, I think your initial cost should be in the range of $100,000. Anything less and I’d question the quality of the product. Anything more and you’re probably paying too much).
  3. Franchising is probably not what you do now. It’s a business discipline of its own. You may be the world’s greatest manufacturer or representative of your product or service, but that’s not franchising. You’ll have to learn how to be a franchisor, and that’s not included in your initial development fee. Are you ready to quit what you’re doing (or do less of it) to learn how to be a franchiser?

The cost not to franchise

Those points out of the way, and assuming you’re still with me, here’s what it costs you not to franchise your business:

  1. Systemization. Profitable businesses revolve around systems. Marketing, sales, operations–these functions must be systematized to succeed in business. However, most businesses aren’t systematized, which is a primary reason for business failure. Michael Gerber’s best-selling book, The E-Myth, explains why. Franchising a business forces you to systematize–to create a series of systems that operate the business. A franchiser needs systems for finding, training, and supporting franchisees; for showing franchisees how to market and sell; and to teach franchisees how to operate the business in all kinds of situations. In franchising, everything revolves around systems! Along with brand identity, that’s mostly what the franchisee buys–the systems. No systems equals no franchise. No systems equals under-performing business. By systematizing you can maximize the profit-potential of your business. How much are you losing by not having systems?
  2. Market Penetration. Unless you’re in a small town, it’s difficult to penetrate a market when you own and operate the only unit of its kind. Imagine owning one of anything in Boston, Chicago, Los Angeles, Dallas. Even if you’re “the best,” you won’t penetrate the market. Your business may prosper, you may even generate plenty of money, but you’ll also create a market for competition. And what if the competition franchises? You may recall that “the best” businesses of their kind years ago were mom-and-pop operations. Pizza. Burgers. The butcher. The auto mechanic. And what happened to them when the franchises moved into town? They were replaced and the market now belongs to the franchises. Even among franchises there’s a constant battle for market penetration. If your business doesn’t grab a chunk of it, how much are you losing?
  3. Brand Awareness. Customers everywhere love familiarity. So much so, in fact, that when foreigners come to the USA to study or vacation, they sometimes take home a franchise concept! They become the master licensee for that concept in their country. Consumers move geographically, but they remain faithful to brands! If your brand is a single unit on the east side of town, how much awareness are you capturing? Low brand awareness equals lower business value. So when you eventually sell your business, what will you have lost if you haven’t scored brand awareness? Because of their advertising campaigns, franchises have a way of making consumers believe they are “everywhere.” And even if they’re not, it’s the brand awareness that counts. How much are you losing to brand awareness?
  4. Revenue Generation. Systems, market penetration and branding all result in greater revenues for a business. And while greater revenues don’t always result in greater profits, they do if the business is operated smartly. The cumulative sales of a franchise network will almost always out-perform even the best-operated solo unit. This is a case where more usually is better! Imagine how much revenue you could generate if you received a few percentage points (i.e. a 5% royalty) on every sale made by a member of your network–any where in the world! How much are you losing by limiting your revenue generation to one–or even several–units of your business?
  5. Internationalization. As a solo operator, or even the operator of a several units, your concern is what’s happening in your town or city–maybe even just your neighborhood. You don’t care about what’s happening in the next state, and certainly not another country. Your brand awareness, market penetration and revenues–all your efforts–are focused on your narrow interests. Assuming that people in Germany and Australia and China will buy your products and services, you’re obviously missing those opportunities because you’re confined to one small part of the world. How much more value would an international network add to your business?
  6. Peopleization. I know it’s not a word, but it should be! You may have thought, “I’m only one person. Even if I recruit my family and friends, I won’t have enough people to open units around the world. And besides that, I don’t have the money!” That’s why companies choose franchising as their method of distribution. If the company can’t open and operate all the units–and most can’t, or don’t want to–”peopleization” is the answer. Use other peoples’ money and talents to expand your business. That’s franchising! How much are you losing by not bringing more people into your business?

Add up your losses

So while most people are concerned about the cost of franchising a business, so what if it costs you $150,000–even $250,000–to franchise your business? What’s it worth to you to multiply one unit into 20, 200, 2,000, maybe 20,000 or more units? And sell your products and services to the world’s marketplace, while using other peoples money and talents?

Add it up, and that’s what you’re losing by not franchising your business.

Small Business Sales – Legal Factors to Consider in Selling Or Buying a Small Business

Introduction

Buying or selling a small business can seem bewildering but the process has a logic to it that sharp entrepreneurs can understand and use to help manage the time, direction, and strategy of their business lawyers and other professionals who help them in the process. This article gives you an overview of what you need to work with your professionals intelligently and effectively in buying or selling a small business.

Three Types of Small Business Sale

A small business can be sold by asset sale, stock sale, or merger, with asset sale being the normal vehicle of choice for many small businesses.

Business Sale — Canned versus Customized

Sometimes the sale of a small business is done via a basically canned process through a broker. In that case, a buyer and seller get a homogenized process that may or may not suit their legal needs. The documentation will be “standard” but contract terms will not be customized for the parties. Such documentation will cover minimum terms but little else.

Better by far in all but very small sales is to use customized deal documents prepared and reviewed by qualified business lawyers. Typically, a seller will get legal and accounting advice on how to structure the sale and will then work with a prospective buyer to get the basics of the deal documented in a term sheet or letter of intent. A term sheet, though not legally binding, provides a useful framework for moving forward. The parties may of course skip right to a formal contract instead.

Business Sale — The Purchase Agreement

The formal contract is a purchase agreement. It normally contains covenants or promises (“I will sell to you and you will buy from me x assets or x stock shares,” etc.), warranties and representations (“as seller, I warrant and represent that I have good title to what I am selling you and that there are no liens on it and no lawsuits against it,” etc.), and conditions to closing (“our deal with close only at such time as x, y, and z conditions are met,” as for example getting a landlord’s consent to a lease assignment).

The Escrow Process, Due Diligence, and Confidentiality Agreements

The contract is signed and an escrow normally established as a mechanism by which to get to a closing where the sale will consummate. Procedurally, such an escrow works much like that set up when a home is sold, except that (for example) instead of waiting for the results for a title search the parties may be waiting for a liquor license approval or some other condition pertaining to a business sale.

Due diligence is a critical part of this process, mostly on the part of the buyer. This is the process by which a buyer inspects the books and records of the business being sold and takes other steps to ensure that what is being sold is authentic and worth the value being paid. Lawyers and accountants typically assist with this process.

Detailed due diligence can be done before or after a formal contract signing or it can be done in stages — limited due diligence prior to signing a term sheet with detailed due diligence during the escrow period. Buyer satisfaction with due diligence is often a condition to closing.

Due diligence is not normally allowed until a buyer has signed a confidentiality agreement.

Common Traps and Pitfalls in the Sale of a Small Business

Many traps and pitfalls can arise during a sale. Sometimes a buyer will claim to want to buy a business while in fact scheming to gain access to key information that will be used competitively against the seller. A confidentiality agreement helps here but this may prove cold comfort to a seller stuck with a lawsuit. Be discerning in this area.

A serious seller risk is to take a carry-back loan with inadequate protections. Proper collateral (UCC and otherwise) is usually key to dealing with this in case of default.

Buyers normally face the greater risks. Unscrupulous sellers can play all sorts of tricks to make a deceptive sale. The nature and range of tricks used, or even mistakes inadvertently made, is vast and varied. This is often the major area of focus by attorneys and CPAs in shaping a seller’s representations and warranties and in handling due diligence.

From a buyer standpoint, the structure of the deal can affect liability risks: in a stock sale, a buyer will inherit the entire corporate history, good and bad, along with the purchase; in an asset sale, a buyer can normally limit the inherited liability risk considerably if not altogether.

Most businesses are sold with a premium placed on good will, consisting generally of the going concern value of having a particular customer base, a recognizable name, and so on. Most buyers then will want a non-compete agreement from the seller or, if the seller won’t give it, at least a non-solicitation agreement relating to existing customers.

Watch out especially for distress sales. Unless a distress sale proceeds by UCC foreclosure, or out of bankruptcy, any buyer of a business overwhelmed with debt can potentially inherit all or part of that debt even if the contract specifies that the buyer is not assuming any liabilities. Given the risks, distress sales are typically radioactive for a buyer.

Common Business Tax Issues

Another major issue is tax. A stock sale will have very different tax consequences from an asset sale, some favoring the seller and others the buyer.

For example, if a seller is a C-corp with low basis assets, any sale of its assets for a substantial sum would likely lead to a serious risk of a double-tax. Let us say corporate seller ABC Corp. sells its business for $10 million via asset sale and has a near-zero basis in its assets. This can happen, for example, where a manufacturing business with fully-depreciated assets is sold. Normally, that sale would constitute a taxable capital gain to the corporation. Given that this is a C-corp, however, the cash in the company would normally be taxed again as a dividend when distributed to shareholders.

In the same scenario, if the ABC Corp. shareholders sold 100% of the stock of the corporation to a buyer, then those shareholders would pay tax on a one-time capital gain and nothing more.

Such tax issues can get complex and should be handled with skilled professional help. A good business lawyer can suggest approaches that can mitigate double-tax problems. The point here is not to attempt to address any given situation but rather to illustrate how tax can seriously affect the outcome depending on how a sale is structured.

By the same token, in an asset sale, the purchase price should be allocated among the assets being sold, and this will result in differing income and sales tax treatment, depending on the nature of the assets being sold and on the nature of the allocation. Such allocations should be done with the help of a qualified lawyer or CPA.

Don’t ignore these tax aspects of a business sale — they can sometimes be the most important part of a deal, and they are almost always important to some significant degree. In more sophisticated deals, tax-free deals are also done via reorganizations.

Estimated Transaction Costs

How about transactional costs? These can literally go all over the board. In a typical small business sale, a buyer should use as a rough estimate of total transaction costs a rule of 2% to 5% of the purchase price. This would be money spent on attorneys, accountants, and other professionals, as well as for escrow fees. Seller costs normally are lower, though they can be significant if broker fees are involved or if the deal is complex. In any case, don’t rely solely on any rule-of-thumb approach — use that for initial planning and then consult with your professionals to refine the estimates.

Work with a Qualified Business Attorney

This highlights some key issues connected with a small business sale but does not address their legal implications or strategies for implementing them (see your lawyer for this). It also does not touch upon important issues such as the need to get consents and approvals (landlord, agency, vendor, and spousal, among others), the use of fairness opinions, opinions of counsel, no-shop agreements, hold-back provisions, earn-out provisions, or issues such as UCC bulk sales compliance, indemnification, joint and several liability, and the like. These deals can have many nuances that only a knowledgeable lawyer will pick up.

For your particular deal, get a good business lawyer. It is not wise to scrimp on expense in complex areas where stakes can be high. Whatever is saved today will be spent many times over trying to dig out of a mess if problems occur. Therefore, budget what is needed and do it right.

Seven Ways to Evaluate the Reality of Opening a New Business

Entrepreneurship is timeless, even in an era of economic change, and many of today’s new business start-ups could become as successful as many others in the era of the old economy.

Today’s entrepreneurs face different challenges to yesterday’s old ones, but they need to seriously evaluate the reality of opening a new business.  

1. Evaluating Time

 In a job, we usually earn a fixed hourly salary based on how many hours we work, but this is not a luxury for business owners. Business Owners do not earn an hourly rate, and often put in more hours per month, than many Corporate Executives.   Time takes over business owners, your business may become more than a full-time job with lots of overtime, and the rewards may not be financial. Being able to accept this may determine if the business you plan to run, is successful or not.  

2. “Informal” Stakeholders

Contrary to common beliefs, Entrepreneurs are not totally free or even as independent as an employee in many cases. There are still many “informal” stakeholders who have a vested interest in your business, even if you own the business 100%.Informal Stakeholders could be anyone from an Office who issues permits, to the local electricity company, to even your accountant. Without these people you can not open the business, and you pay these stakeholders for the right to run your business.   In Germany, over 25 different “informal” stakeholders become involved with you as soon as you open a business. These are compulsory “stakeholders” who you need to pay for one service or another to simply open a business.

This does not include a Bank or Credit Union, if you borrow any money for the business. The actual minimal cost of these 25 “compulsory” stakeholders could run as much as 1200 – 1500 Dollars a month, without even opening your doors for business.   Be aware of any compulsory “stakeholders” before you open your business, evaluate their involvement, and your legal rights with each stakeholder. Before the recession 95% of new businesses failed in Germany because of the high cost of dealing with these stakeholders.

3. Existing Customers

Taking over a business does not mean you inherit the existing customers, often many choose not to deal with you, because they had a relationship with the previous business owners. Look towards building up a new customer base, instead of depending on the loyalty of existing clients.  

4. The Business Name

Starting a new business from scratch is often preferable to taking over an existing business, because you may inherit the reputation and name of the existing business. A failed business, often carries a tainted name, so it is often better to change the name and if it is located in a building, the appearance of the previous business.  

5. Over-Confidence 

Being a success before you open your new business, does not guarantee your new business venture could be a success. Often over-confidence clouds the realism behind your new venture, and often it is better to be quietly confident, and aware that any business is a learning process  

6. Legal Issues

A large business is often a separate legal entity, but one mistake business owners make is become legally responsible for business debts. The current economic recession has taught us that Corporations may have toxic debts, but for the stakeholders private assets are not legal liabilities on the business name.The recession has hurt more smaller business owners because they were personally liable for the business debts, so ensure your company is  separated from your own legal debt responsibility.  

7. Evaluating Advice  

Real estate Agents, Lawyers, Bankers, Accountants and Business advisors all can give you sound advice about your business, but are not responsible if that advice does not work, neither are they legally responsible if their advice is wrong. Being aware of this fact, could help you cut away the hype over the need of these parties to earn money from you, because they need you to set up a venture to earn fees from you.  

Be particularly aware of Real estate Agents and Lawyers, both can give advice but often the advice may hinge on how much commission they earn from you. Ensure you choose your own lawyer, and treat the Agent as partly trustworthy rather than completely believe them. Millions of people lost their life savings in the crash of 2008, but none of their stockbrokers were responsible for that loss……

A recent survey has shown that the majority of self-made millionaires failed in their first business ventures. In fact many continued to fail, but with persistence learnt from the lessons of failure to become a success. Your new business could fail, but it also has a good chance to succeed, one reason entrepreneurship eventually awards success.