Many entrepreneurs new to franchising look to buy a new outlet; however, what they do not realize is there is another way to become a franchise owner.
Purchasing an existing franchised business can be a great way to buy an existing income stream without having the initial headache and costs of build-out and training staff. When buying an existing franchised business, you should consider several factors. Below are just a few to consider:
1 Read the Franchise Agreement/ Franchise Disclosure Document
You will be as obligated to your franchise agreement as the previous owner was to theirs. Whether you are buying a new franchise or an existing franchise, you will be required to sign a franchise agreement. You should take the time to read and understand your rights, duties, and obligations as a franchise owner because your life as a franchise owner will be controlled by these terms for the next 10 or more years.
2 Make sure the franchisor approves of the transfer
Every franchise agreement states that the franchisor has the sole authority to approve of the transfer and of you as the buyer. If the franchisor does not approve of the transfer or you as the new owner then the entire transaction could be cancelled. If the sale is cancelled by the franchisor, you could be left in a much worse position than when you started.
3 Have a valuation of the business performed
You wouldn’t purchase a house without knowing its value, so why would you purchase a business without knowing its value? When you purchase any business, you should make sure to know and understand the actual value of the business. This many times is different than the asking price and can give you some room for negotiations. Value can include a variety of things such as the business goodwill, the current inventory, equipment, etc. The best way to determine the value of a business is for either you or the seller to hire a company that focuses on business valuation services. Alternatively, the seller may utilize their accountant to help determine the value. It is up to you whether you trust the value enough to move forward.
4 Determine why the existing owner is selling
You do not want to buy a business on its way down the drain or one where its location is about to be terrible due to changes in traffic patterns. Additionally, you need to know the status of the industry to make sure that it is a sustainable industry. You should always ask why the franchisee is selling. Many times the owner wants out of the business due to retirement or personal reasons, but find out why.
5 Obtain and review financial statements
Purchasing a business that is not profitable is not a smart move. Request at least the last 3 years financial statements from the seller and review them with your accountant to determine profitability and to look for trends. You should also ask the franchisor to provide you with financial information about the seller’s business to make sure both sides’ information matches up.
6 Talk to other franchisees and the franchisor about the seller
Learn about the seller and the reputation he/she has and the reputation that the actual business has in the system. If you are buying into a business with a bad reputation then you could have an uphill battle fixing it with your fellow franchisees and the franchisor.
7 Pay the transfer fee
Most franchisors require that a transfer fee be paid to them to cover their costs in evaluating the transfer and you, as the buyer. Either you or the seller must make sure this fee is paid. This transfer fee can be a flat rate or a percentage of the franchise fee. Before you finalize your purchase agreement, make sure this transfer fee is accounted for.
8 Analyze the franchisor
Once you purchase the franchise, you will become a franchisee and subject to the rules and responsibilities imposed by the franchisor. Just like you would do if you were buying a new franchise, you should conduct your own investigation of the franchisor to determine whether they have the systems and procedures in place to support the system as a whole. There are franchisors that do not have the infrastructure, systems, procedures or vendors in place to support the system which hurts the franchisees.
9 Will the staff stay
A business without staff is useless. If the business you are purchasing has staff or a management team, determine early on if they will stay with the business or if they plan to leave with the seller. Also, if the franchise was run by the seller with little or no staff, such as a small home based business, you should request that the seller agree to be a consultant with you for a set period of time to introduce you to customers, referral sources, vendors, etc.
10 Have a franchise attorney review the agreements
Purchasing a franchise, even an existing one, involves various areas of law that many attorneys not familiar with franchise law may miss or may deem absurd. Have a franchise attorney review all the franchise agreements and purchase agreements before you sign. These are just a few of the tips that go along with buying an existing franchise. Purchasing an existing franchise has many different aspects that need to be addressed. Before you sign the new franchise agreement and the purchase agreement, you should talk with an advisor, like a franchise attorney, to determine if there are any other aspects of the sale that need to be addressed.
Jason Power has been helping entrepreneurs review and negotiate franchise purchases since 2009. Jason is a regular speaker at the International Franchise Expo, West Coast Franchise Expo, Franchise Expo South and various other franchise expos where he gives tips on how to analyze and negotiate a franchise purchase. Jason is a senior attorney with Shelton & Power franchise law firm.
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