Where the money is - buying franchises

Nation's Business, Oct, 1988 by Jack Wynn

Where The Money Is

Once you've decided that franchising is for you--and what kind of franchise you want to buy--your biggest concern is likely to be finding suitable financing.

This is the step that prospective franchisees usually dread most. But proper planning and research into all your financing options can help make your search less intimidating.

Information on financial planning is available from publications of the Washington-based International Franchise Association, the world's largest association representing franchises. You can contact the IFA at 1350 New York Avenue, N.W., Suite 900, Washington, D.C. 20005; (202) 628-8000.

To help you start your financial planning, Hans Sohlen, assistant vice president of Minneapolis-based First Banks (which expects to do some $50 million in franchise financing this year), suggests you take the steps listed below.

. Know your net worth. Most banks and lending institutions have a printed form to assist those who want to calculate this figure.

. Determine your credit potential. Lenders look for the four C's--collateral, capital, capacity and character. Poor credit history is the primary reason for loan rejection. Be prepared to prove that you are capable of managing the business you are undertaking, that your business has the earning capacity to pay back the loan and that you have demonstrated integrity in previous business dealings.

. Develop a business plan. Include in it a resume of your business experience, a projection of your first-year income and expenditures and a marketing plan. Some franchise chains will help you prepare a business plan.

. Determine not only what it will cost to buy the franchise but also what it will cost to survive until the business reaches a break-even point. "Be conservative in your estimate," cautions E. Jan Hartmann, CEO of the International Franchise Association. He says most new franchise stores don't begin turning a profit for 6 months to 18 months.

Joel and Anita Schlater, for instance, pledged as collateral their future business and their New Jersey home when they sought financing for a Maaco Auto Painting & Bodyworks franchise in the New York City area. They had little cushion to tide them over until the business could provide for them.

Had it not been for an inheritance, the Schlaters could have faced bleak times financially. "It took about a year to get the business under way," says Anita Schlater, "and that came not with luck but with a lot of hard work." Fortunately, the Schlaters have succeeded in building a profitable business. Their franchise ranks 11th among Maaco's 450 franchises.

Many new franchisees aren't fortunate enough to get by with such a small reserve. Franchising experts generally recommend that you plan on a cushion equivalent to at least six months' worth of total overhead expenses.

Once you have determined how much money you will need, you'll probably have to decide how much to borrow. Then the next step will be shopping for the right lender. Although finding financing is generally left up to franchisees, many franchisors are starting to offer assistance. It's one way for franchisors to build greater loyalty into the system. For example, Wicks `N' Sticks, a Houston-based candle-making franchise, often finances the balance if prospective franchisees can come up with 25 to 30 percent of the initial $150,000 to $200,000 investment.

Check carefully all terms and conditions of franchisor-financing agreements, however. You may find better terms and fewer restrictions from a commercial lender. Some specialize in new projects under $1 million. Such lenders, like the Money Store Investment Corporation and ITT Small Business Finance Corporation, consider new franchisees preferred borrowers. "Because they're taught how to operate the business profitably and are given proven systems to stay on top of costs and quality, there is far less risk to lenders," says Rosemary Dente, a business-development officer in the Money Store's Union, N.J., office.

Of the $106 million in business loans that the Money Store Investment Corporation made in 1987, nearly half went to new franchisees. It will lend up to 80 percent--long-term--to cover the cost of a new franchise. In August its interest rate was 2 3/4 percentage points over prime. The Money Store does not charge an application fee, and it builds the loan amount around the borrower's actual cost to open for business. To qualify, new franchisees are expected to put down at least 20 percent toward the total cost of the franchise and to provide collateral close to the amount they want to borrow.

But before becoming involved with any private finance company, you should check its credentials with the Better Business Bureau. An experienced franchise attorney will also act as a safeguard against loan sharks, who typically reveal their true colors by demanding an unreasonable amount of collateral--or an exorbitant interest rate--in exchange for a loan. "Let common sense be your guide, and don't be shy about asking the lender for references," suggests First Banks' Assistant Vice President Sohlen.