“Preventing a Meltdown - What Can a Franchisor Do?”		«BACK
	by Dennis L. Monroe
	from Franchise Times Articles, March 2002 issue

I would like to suggest ten ways to prevent a melt down:

1. Focus on Sales. A franchisor's key responsibility is to protect its trade name and use that trade name to drive sales for the franchisee. It does not mean that sales come at the expense of profits. It does mean the franchise industry is basically a sales driven industry, and franchisors must focus on sales. The capital investment required keeps going up and therefore, sales must also increase. Declining sales for over-leveraged franchisees is a prescription for disaster. Many times franchisors have a successful marketing program, which drives sales, and for some reason, they then ride on their laurels and forget that comparative sales are determined each month, or they retrench and fail to invest in product development. New programs and new sales incentives are key. Sales cannot be driven simply by discounting and couponing but also must be driven by new, innovative and consumer demanded products.

2. Remember Who Is The Customer. The franchisors must always remember the key customer is the franchisee, not the general public. Therefore franchisee input, criticisms, and concerns must be taken into account. The franchise system is neither a democracy nor a dictatorship but should be looked at in terms of a free market process with the franchisee being the customer.

3. Do Not Focus On One Type Of Franchisee. In recent years I have seen franchisors focus on large multi-unit franchisee operators. While large franchisees may be appealing and demanding of attention by the franchisor, a large franchisee is only a compilation of individual stores. Each store has significance to the franchisor. It may be helpful for the franchise system to have a franchise business representative focus on large franchisees and the general staff of the franchise organization focus on the smaller, more traditional franchisees.

4. Recognize Regionality. National franchise systems need to recognize that their product and services have regional characteristics. Systems should allow for flexibility between regions, identify the economic and market conditions in each region, and try to address these unique qualities. Too many franchisors believe a national program fits the entire system. This approach is analogous to saying that winter clothing worn in Minnesota is the same winter clothing worn in Florida. Franchisors need to keep regionality in mind even though the differences may only be subtle.

5. Establish Reasonable Capital Expenditure Requirements. The franchisor must recognize the constraints a franchisee feels in terms of capital expenditures. Many franchisors believe the cure to system problems is a massive capital expenditure program where stores are remodeled, new equipment is put in place, new images or new product lines are created that are expensive and offer little return. This may be an effective way to turn a system around, but any benefit must be balanced against the capital expenditure and labor costs plus the loan amount. The franchisees may also not have the ability or the desire to make such capital expenditures. The analogy can be made that a franchise system is like a fleet of small boats. To get the boats turning in a certain direction is not an easy process. Franchisors sometimes think the franchise system is like a large cruise ship. While it takes time to turn, it can be turned in a uniform manner. This is not the case. Franchisors need to phase in capital expenditures and capital improvements in a reasonable manner always considering two aspects (1) return on the capital expenditures for the franchisee, and (2) ability to finance, either through current cash flow or outside sources. We have recently seen franchisors demand that franchisees "honor" requirements for significant capital expenditures that cannot and should not be made. When these expenditures cannot be made, the franchisors are faced with either defaulting the franchisees or retreating on the original proposed plan. In either case, both approaches are detrimental to the overall health of the franchise system.

6. Assure That The Franchisees Have Adequate Capital. The franchisor is the guardian of the financial health of its system. The days of highly leveraged situations are over. It is imperative the franchisor requires reasonable and adequate equity and liquidity for each new franchisee and for existing franchisees looking to grow or expand. Adequate capitalization is not just a formula but also an overall plan to provide for flexibility and ability to react to downturns or opportunities.

7. Provide Lender Opportunities. As stated above, franchisors need to make sure franchisees are not over leveraged. This does not mean franchisors should be hesitant to allow their franchise community to borrow money. The key for the franchisor is to be involved with the lender community to make sure the type of products provided to their franchisees fit the business which the franchisee is operating. For example, if the franchise system requires a heavy investment for equipment and equipment changes frequently, the franchisor should not allow lenders to make seven or ten year loans on equipment. The loan periods should be shortened to three to five years. If a store needs to be remodeled every seven to ten years, the franchisor should encourage franchisees and lenders to enter into loans that allow for early prepayment or the ability to place secondary financing to provide for these improvements.

8. Provide For A Margin. Make sure the franchisees' financial plans allow a margin. A margin is the ability of the franchisee to survive if there are downturns, unexpected market changes, catastrophic events such as September 11th or an ecoli out break. Most franchise agreements last between 15 and 20 years. Franchisors should create a system that has margin planning for change in anticipation that there will be problems.

9. Provide Exit Strategies. While franchisees do not necessarily go into business with the idea of getting out, franchisors must make sure there are reasonable exit strategies for their franchisees. It is important there be a vital marketplace for (1) the sale of franchise units (2) the ability to enter into management buyouts and, in general, (3) a robust market for franchisee-to-franchisee sales. It may be also possible that franchisors are interim holders of franchisee units under a refranchising program.

10. Provide More Than Operational Training. Franchisors are usually very adamant about the operations of the franchisee units. They provide wonderful operational and marketing support. This is only part of the business aspect of a franchise operation. The franchisor should actively provide resources and training in financial, human resources, and IT areas as well as other programs to help create successful franchisees.

The days of the hands off franchisor are gone. To protect the health of their systems and help prevent a melt down, franchisors must stay actively involved with their franchisees.