Franchising Agreement

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					                    Franchising
• Franchising
   – A marketing system revolving around a two-party
     agreement, whereby the franchisee conducts business
     according to the terms specified by the franchisor
• Franchisee
   – An entrepreneur whose power is limited by a
     contractual agreement with a franchisor
• Franchisor
   – The party in the franchise contract that specifies the
     methods to be followed and the terms to be met by
     the other party
                    What is a FRANCHISE?
A form of business where the franchisor sells or provides to a franchisee:

•   the right to do business under a particular trade name or brand

•   the right to use/sell a proprietary product, process, or service

•   training and assistance in setting up the business

•   a business and marketing plan

•   economies of scale for purchasing and marketing

•   a financial (accounting) system

•   regular inspection and quality checks once the business is established
           The 20 Fastest-Growing Franchises - 2009


1. Subway          Submarine sandwiches & salads    $84,300 - $258,300                 11. Jiffy Lube Intl          Fast oil change $229,000 - $323,000


2. McDonalds                Hamburgers, chicken, salads   $995,900 - $1,842,700        12. Instant Tax Service                 $39,000 - $89,000


3. Liberty Tax Service                    Income-tax preparation $56,800 - $69,900     13. Baskin-Robbins USA Ice cream $41,450 - $373,595
4. Sonic Drive-In Restaurants                                $1,209,300 - $3,413,800   14. KFC Corp         Chicken $1,379,900 - $2,422,500



5. InterContinental Hotels                          $5,136,370 - $93,855,035
                                                                                       15. Jani-King       Commercial cleaning $11,400 - $35,050



6. Ace Hardware                 Home improvement store $238,500 - $1,566,250
                                                                                       16. Dairy Queen             $372,802 - $1,771,860


                                                                                       17. Super 8       Hotels $285,445 - $5,396,983
7. Pizza Hut          Pizza, pasta, wings $316,500 - $2,974,000

                                                                                       18. Arby’s      Sandwiches $336,500 - $2,400,000
8. UPS Store/Mail Boxes Etc                               $154,947 - $293,473

                                                                                       19. Jan-Pro      Commercial cleaning $3,145 - $50,405
9. Circle K        Convenience store $161,000 - $1,353,000

                                                                                       20. Taco Bell        Quick-service Mexican $1,324,300 - $2,465,500
10. Papa John’s Intl               Pizza $113,823 - $528,123




 Source: Entrepreneur, 2009 Franchise 500 Rankings
      Top 12 Low-Cost Franchises - 2010

• H & R Block                             Tax preparation and electronic filing
       $26,427 - $84,094


• Jani-King                      Commercial cleaning
       $11,400 - $35,050


• Jan-Pro Intl                           Commercial cleaning
       $3,145 - $50,405


• Kumon Math Centers                                                                    • Vanguard Cleaning                                       Commercial cleaning
                                                                                          $8,125 - $38,100
•      Supplemental education $32,958 - $131,070


• Stratus Building Solutions                                                            • ServiceMaster Clean                                         Disaster cleaning
                                                                                          $20,926 - $132,623
       Commercial cleaning $3,450 - $57,750


• Jazzercise Inc                              Dance fitness classes
                                                                                        • Bonus Building Care                                          Commercial cleaning
                                                                                          $9,000 - $15,000
       $2,980 - $75,500


• Instant Tax Service                                          Retail tax preparation
                                                                                        • Merry Maids                          Residential cleaning
                                                                                          $24,750 - $59,450
       $39,000 - $89,000

                                                                                        • Anago Cleaning Systems
                                                                                          Commercial cleaning   $8,543 - $55,306
Source: Entrepreneur.com “Top Low-Cost Franchises in 2010”
         The Pros and Cons of Franchising
• Advantages                               • Limitations
   – Probability of success                  – Franchise costs
       • Proven line of business                •   Initial franchise fee
                                                •   Investment costs
       • Pre-qualification of franchisee
                                                •   Royalty payments
       • Overall lower failure rates            •   Advertising costs
   – Training
       • Franchisor-provided                 – Restrictions on business
                                               operations
   – Financial assistance                       •   Products sold
                                                •   Hours of operation
       • Loans & loan guarantees
                                                •   Restrictions on expansion/growth
                                                •   Franchisor only source of supplies
   – Operating benefits
       • Location feasibility study
                                             – Loss of independence
       • Marketing assistance
       • Quick start-up time
                                             – Lack of franchisor support
                                                •   Termination/renewal clauses
Franchisor Controls on Franchisees

• Restricting of sales territory
• Requiring site approval and imposing requirement on
  the outlet’s appearance
• Restricting the goods/
  services that can be sold
• Requiring specific
  operating hours
• Controlling advertising
An Attractive Franchise Opportunity Includes: - 1


 • Registered trademarks

 • Successful prototype stores with a track record of
   profitability and a positive reputation

 • A business that can be systematized so that it can be easily
   replicated.

 • A product or service that can be successful in many
   different geographic regions.
An Attractive Franchise Opportunity Includes: - 2


 • An operations manual that specifies all the functions of
   the business and their associated policies

 • A training and support system

 • Site selection criteria and architectural standards

 • A detailed prospectus that spells out the franchisee’s
   rights, responsibilities, and risks.
       The Federal Trade Commission requires disclosure...Uniform Franchise Offering
       Circular [UFOC]
Franchise Disclosure Requirements

• Rule 436 of the Federal Trade Commission
    – Uniform Franchise Offering Circular (UFOC)
        • A document accepted by the Federal Trade Commission as
          satisfying its franchise disclosure requirements
            – Litigation and bankruptcy history
            – Investment requirements
            – Conditions that would affect renewal, termination, or sale
              of the franchise
        • http://www.ftc.gov/bcp
    Three Types of Franchise
Opportunities and their Associated
       Risks and Benefits
                 Franchising Arrangements
•   Product and Trade Name Franchise
     – Grants the right to use a widely recognized product or name
•   Business Format Franchise
     – Provides an entire marketing system and ongoing guidance from the franchisor
•   Master Licensee
     – An independent firm or individual acting as a sales agent with the responsibility for
        finding new franchises within a specified territory
•   Multiple-Unit Ownership
     – The holding by a single franchisee of more than one franchise from the same
        company
•   Area Developer
     – Individuals or firms that obtain the legal right to open several franchised outlets in
        a given area
•   Piggyback Franchising
     – A retail franchise operation within the physical facilities of a host store
Before Buying a Franchise




 ASK QUESTIONS
Questions to Ask Before Buying a Franchise

• Does the franchisor have an excellent reputation in the
  industry?
• Is the franchisor in partnership or any other legal relationship
  with another franchisor? If so, how will the franchisee be
  protected should that relationship fail?
• Is the franchisee required to do anything that appears
  questionable from a legal or ethical perspective?
• Under what circumstances can the franchisee or franchisor
  terminate the franchise agreement and what are the
  consequences to either party?
• Will the franchisor grant an exclusive territory? Is that area
  subject to reduction or modification? If so, under what
  conditions?
Questions to Ask Before Buying a Franchise - 2

  • Will the franchisor reveal the certified financial figures for
    one of its franchises and can those figures be verified with
    the franchisee?

  • Will the franchisor provide a management training
    program, an employee training program, public relations
    and advertising support, or credit?

  • Does the franchisor assist in finding a suitable location?

  • What is the financial health of the franchisor? Can
    financial statements be verified?
Questions to Ask Before Buying a Franchise - 3

  • What is the track record of the franchise?

  • Has the franchisor conducted an in-depth investigation of
    the franchisee to assure that he or she has the necessary
    skills and financial requirements to operate the business
    successfully?

  • How much capital will be required to start and operate the
    business to a positive cash flow? Does the initial fee
    include an opening inventory of products and supplies?
    What do royalties pay for and how are they calculated?
    Where to Find out about Franchises

• www.franchise1.com
• www.franchising.com
• www.en.wikipedia.org/wiki/franchising
• www.entrepreneur.com/franchiseopportunitie
  s/index.html
• www.franchiseinfosite.com


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   Buying an Existing Business?
                     Acquisition of
Reduction of           Ongoing
Uncertainties       Operations and
                     Relationships


 A Bargain                   A Quick Start
   Price
        Good Reasons to Purchase an Existing Business


•   It is less risky than starting from scratch, because facilities, employees, and
    customers are likely to be in place.

•   To acquire a business with ongoing operations and established relationships with
    loyal customers and reliable suppliers

•   The business has established trade credit, which is crucial because relationships
    with suppliers and others take a long time to develop.

•   It is an easier route to owning a business if the entrepreneur has limited business
    experience, especially if the owner stays on for a time to help with the transition.

•   To begin a business more quickly than starting from scratch

•   To obtain an established business at a price below what a new business or franchise
    would cost
    Pros and Cons of Buying an Existing Business


• Pros                           • Cons
   – Higher chance of success       – Existing problems
   – Less planning                  – Poor quality of current
   – Existing customers/              employees
     suppliers                      – Poor business image
   – Necessary equipment            – Modernization required
   – Bargain price                  – Purchase price based on
   – Experienced employees            inaccurate data

   – Existing business records      – Poor business location
Where to Find Business Opportunities

•   Attorneys
•   Accountants
•   Bankers
•   The Wall Street Journal
•   Liquidation auctions
•   Business brokers
•   The internet
      What is a Business Broker?
• When a business owner is looking to sell her
  business, she may turn to a business broker,
  who will look for a buyer for the business.
  Brokers typically charge one to 10 percent of
  the transaction price for their services.
            Looking to Buy a Business?
     How to Attract the Attention of a Business Broker
• Demonstrate your strong interest in acquiring a business by providing
  information to the broker about your knowledge and interest in running your
  own business.

• Demonstrate strong financial qualifications

• Be willing to move to a new location to take advantage of a business
  opportunity

• Keep an open mind about the type of business; consider a wide range of
  opportunities.

• Be persistent and follow up with the broker

• Be ready to respond quickly when an opportunity emerges. This means
  having financial records in order and money available.
              What to Look For in a Business
• A business that had a broad scope that would insulate it from market
  downturns.

• A business with existing customers and vendors

• A low-tech business but with high growth

• A market that was not so large so as to encourage major players but not so
  small that the company couldn’t grow.

• Available float from suppliers; in other words, leeway in having to pay
  vendors.

• Manageable seasonality

• Cost cutting potential
            Investigating and Evaluating
                Available Businesses

• Due Diligence
   – The exercise of prudence, such as would be expected
     of a reasonable person, in the careful evaluation of a
     business opportunity

• Relying on Professionals
   – Accountants
   – Attorneys
   – Other experienced business owners
          Find Out Why the Business Is For Sale

• Owner’s stated reasons for selling the business

    – Poor health or illness in the family

    – Wants to retire while he can still enjoy life

    – Desires to relocate to a different section of the country

    – Has accepted a position working for another company

    – Wants to start a new business in a different industry

    – Has to sell the business to generate funds to settle a divorce, lawsuit, etc.

   Beware of sellers who may have priced the business at more than its worth, or who have
   “cooked the books” to make the business appear to be more attractive than it really is.
     The REAL reason the Business Is For Sale

•   Larger companies are squeezing the firm out of the market

•   Key employees have been leaving

•   The industry is very mature and there aren’t any new ways or places to grow

•   Competitors’ products (or services) are superior

•   The business has developed a negative reputation in the community

•   The firm is facing a pending lawsuit

•   The business is just not profitable

•   The physical facilities are old or obsolete and in need of major renovation/repairs
       Examining the Financial Data

• Review financial statements and tax returns for the past
  five years.

• Recognize that financial data can be misleading.
   – Assets overvalued
   – Expenses under-stated
   – Income over-stated
   – Unrecorded debts

• Adjust asset valuations to reflect the true state of the
  business.
             Valuing the Business
• Asset-Based Valuation
   – Estimates the value of the firm’s assets; does not
     reflect the value of the firm as a going concern.
• Market-Comparable Valuation
   – Considers the sale prices of comparable firms; difficulty
     is in finding comparable firms.
• Cash-Flow-based Valuation
   – Compares the expected and required rates of return on
     the amount of capital to be invested in the business.
              Non-quantitative Factors in
                 Valuing a Business
• Competition
• Market
• Future Community
  Development
• Legal Commitments
• Union Contracts
• Buildings
• Product Prices
Placing a Value on a Service Business
• The biggest asset of a service
  company is its employees, including
  senior management, followed by
  customers and the business system.

• The value of a service company is
  found in the quality of the
  relationship between its
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  management (staff) and customers.
  Without those relationships, there is
  no business.
Possible Conditions on the Purchase of a
            Service Business
• The owner must stay on as an employee for two
  years or perhaps as an employee for one year and
  as a consultant for two more.

• Any loss of an account or a large customer that
  was in place at the closing of the sale will reduce
  the payout by some defined amount.

• One-third of the total purchase price will be paid
  at closing. The remainder will be paid in equal
  payments over three years.
Negotiating and Closing the Deal
• Negotiating the Terms of the Agreement
   – Continuation agreement
   – Non-competition clause
   – Seller financing
   – Earnouts and Indemnification agreements
   – The final price
   – Full payment vs installments

• Closing the sale
   – Best handled by a third party
       • Bill of sale
       • Tax certifications
       • Payment agreements
         and guarantees
           Do Your RESEARCH!
•   Develop a set of criteria for
    judging the business based on
    the entrepreneur’s needs and
    goals.

•   Understand the industry and the   Getty Images

    market niche in which the
    business will operate

•   Examine the records of the
    business
         More Ways to RESEARCH!
• Talk to employees, suppliers, and
  customers

• Examine equipment and facilities to
  make certain they are current and in
  good working order
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• Examine all contracts

• Verify the value of the business based
  on industry statistics and perhaps the
  advice of a professional business
  appraiser.
                 Valuation
• There are a number of tools available to
  predict value including complex software tools
  that promise to reduce valuation to a simple
  formula.
• However, all of valuation comes down to this
  simple truth:
• A business is worth what a buyer is willing to
  pay.
                What can the
             term “value” mean?
• Fair market value.

  This is the price at which a willing seller would sell
  and a willing buyer would buy in an arm’s-length
  transaction. By this definition, every sale would
  ultimately constitute a fair market value sale.
                 What can the
              term “value” mean?
• Intrinsic value. This is perceived value arrived at by
  interpreting balance sheet and income statements
  through the use of ratios, discounting cash flow
  projections, and calculating liquidated asset value.

• Investment value. This is the worth of the business
  to an investor and is based on the individual
  requirements of the investor as to risk, return, tax
  benefits, and so forth.
               What can the
            term “value” mean?
• Going-concern value.

 This is the current status of the business as measured
 by financial statements, debt load, and economic
 environmental factors, such as government
 regulation, that may affect the long-term
 continuation of the business.
                What can the
             term “value” mean?
• Liquidation value. This value assumes the selling off
  of all assets and calculating the amount that could be
  recovered from doing so.
• Book value. This is an accounting measure of value
  and refers to the difference between total assets and
  total liability. It is essentially equivalent to
  shareholders’ or owners’ equity.
                  Methods for
               Valuing a Business
• Adjusted Book Value

• Multiple of Earnings

• Discounting Cash Flows

• Capitalization of Earnings
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            Adjusted Book Value
• The book value of a going concern is simply the
  owner’s equity, that is, the value of the assets less
  the outstanding debts.




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              Multiple of Earnings
• Using a price/earnings (P/E) ratio to value a business is a
  common method among publicly owned companies because
  it’s simple and direct.

• This ratio is determined by dividing the market price of the
  common stock by the earnings per share.

   P/E RATIO = STOCK PRICE / EARNINGS PER SHARE
         Discounting Cash Flows
• Calculating how much an investor would pay today to
  have a cash flow stream of X dollars for X number of
  years into the future.




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             Three Factors Determine
                the Discount Rate
1.   The rate achievable in a risk-free investment such as U.S. Treasury notes
     over a comparable time period. For example, for a five-year forecast,
     the current rate on a five-year note is appropriate.

2.   A risk factor based on the type of business and the industry should be
     added to the interest rate in item 1.

3.   The life expectancy of the business, because typically discounting is
     based on this factor.
           Excess Earnings Method
1.   Compute the adjusted tangible net worth of the business. Tangible
     assets are adjusted up or down for market value; then liabilities are
     subtracted.

2.   Compute the opportunity cost of this investment. How much would the
     investor/buyer earn by investing the same amount in another,
     comparable investment?

3.   Forecast net earnings. Earnings from previous income statements can
     provide a basis for the forecast, which is made before subtracting the
     owner’s salary.
            Excess Earnings Method
• Calculate the extra earning power, which is the difference between
  forecasted earnings and opportunity costs.

• Estimate the value of intangible assets or goodwill. If the business has
  extra earning power, that figure can be multiplied by what is known as a
  years-of-profit (YOP) figure.

• Calculate the value of the business by adding the figures.
         Capitalization of Earnings
• Either EBIT or EBITDA is divided by a capitalization rate, which
  is the return the buyer requires on the investment

• For example, if the company’s EBITDA was $500,000 and the
  buyer needed a 20 percent return on investment, the price
  the buyer would be willing to pay would be $2,500,000.

  EBITDA / REQUIRED ROI = MAXIMUM PURCHASE PRICE

				
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