You’ve done your research, you’ve weighed up the pros and cons, and you’ve decided that running a franchise is for you. But how will you fund your new venture? Before you even approach any lenders, there are some steps you should take to give you the best chance to secure the capital you need to be your own boss. Once you’ve chosen a lender and understand how to finance a franchise, you’ll be well on your way to living your dream.
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Step 1 - Self-assessment
The self-assessment comes in two parts: a personality test and a financial review.
Part 1 – Personality test
You need to be really honest with yourself. Running a franchise takes as much hard work as owning an independent business, so if you’re in it for an easy ride, then franchising is not the best option for you. You must possess the right skills and characteristics to be a success which include self-motivation, determination, focus and hard work. Simply because you have the backing of a proven business model and a recognisable brand, it doesn’t take away any of the time, effort and dedication that’s required to run a profitable business.
Part 2 – Financial review
You need to understand how much you can afford to contribute to the franchise cost, to work out how much you need to borrow. The best way to do this is to write a full list of your personal expenditure. Again, be honest. The purpose of this list is to identify how much money you will need to take out of the business to live comfortably. Not including all your outgoings on the list will just leave you short when it comes to starting your franchise. It’s important to realise that you’ll always be required to contribute to the franchise start-up costs. This can range between 30% for established franchises, but is more likely to be closer to 50% for newer franchises.
Step 2 – Business Plan
Even if you don’t need to borrow money from the bank, they’ll still want to see your business plan. Your plan is necessary to help ascertain where you are, where you are going and how you’re going to get there. For this reason, a business plan should consist of information about both you, and the business. It should include profit and loss projections and cash flow forecasts. One of the benefits of franchising is that your franchisor will be able to help you with these figures, which will be more accurate than if you were having to estimate about a business you were starting from scratch.
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Step 3 – Understand the costs of financing a franchise
There are an array of fees and costs involved in franchising which will differ depending on the type and size of the franchise you’re investing in. As a guide, here is a list of some of the main fees and costs that you may be expected to fund:
- Initial franchise fee – This is a one-off lump sum, paid to the franchisor once the franchise agreement has been signed. This fee represents reimbursement for costs associated with recruitment and training, as well as the right to use the brand name of the franchise. The fee can vary, but is generally between 5% and 10% of the total investment cost.
- Training fees – This cost is usually added as part of the franchise fee, but can be charged separately in some cases.
- Fitting of premises – If premises are needed to run the franchise, very often the franchisor will have a specified layout that needs to be adhered to.
- Stock – To get your business up and running initial stock will have to be purchased. This will either be bought directly from the franchisor or from an approved supplier.
- Working capital – Until a profit is generated, you will still need capital to pay for expenses such as salaries and other business costs.
- Marketing costs – Many franchisors run national advertising campaigns at a brand level which franchisees contribute to through marketing costs.
Step 4 – Choose a bank
OK, so now you’re ready to approach a bank, but which one do you choose? Many of the main high street banks now have specialised franchise departments, and are accredited by the British Franchise Association. These include:
- Lloyds Bank
- Metro Bank
These banks will know everything there is about how to finance a franchise.
Step 5 – Know how to finance a franchise in the best way
There are a number of finance choices available to fund your franchise. It’s important that you discuss the advantages and disadvantages of each option with the bank to make sure that it gives you what you need. Options include:
Loans are the most popular way to fund a franchise. You can choose a fixed or variable rate loan which is paid off during a set period of time, usually anywhere from 12 months, up to 25 years in some cases. A fixed rate loan can help with cash flow as the same amount is paid to the bank every month. With a variable rate loan the repayment amount will fluctuate in line with interest rate changes.
Overdrafts are easy to arrange and are a great source of flexible borrowing to help manage variations in cash flow. However, overdrafts should only be used for short-term borrowing, as it can be a costly option in the long-term.
A less popular type of finance, this type of funding involves borrowing based on the invoiced payments owed to you. It can be complex and means that the loan will alter in size subject to how much business you’re doing and how much is being repaid.
The type of finance chosen will vary from franchisee to franchisee, depending on individual needs.
In most cases, choosing to buy a franchise is a safer option than starting a business from scratch. As a franchisee, you’ll benefit from a tried and tested business model to follow, receive training and guidance from your franchisor, and have the support of other franchisees when times get tough. So, even though you’re the boss, you’re not in business alone. It is for these reasons that banks view franchises as a more secure investment and are more likely to lend the necessary funds as a result.
The Editorial Team, Point Franchise ©