Why Franchises Fail

Q: I almost bought a franchise from a company three years ago, but I decided the timing wasn't right for me. I recently tried to contact them again and found they'd gone out of business. Why do franchise companies sometimes fail, and how can I make sure I don't buy a franchise from one that might go under?

A: Just as there's no absolute guarantee you'll succeed as a franchisee, there's no guarantee someone starting a franchise company will succeed. The easiest way to answer your question is to first identify the four stages of growth that most franchise companies go through.

1. The idea. Every business starts with someone having an idea of a better or more unique way to deliver some product or service to customers.

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2. The prototype. Most franchise companies precede their franchising efforts with the establishment of one or more prototype units they set up to test, refine and prove the validity of their idea.

3. The early franchising efforts. After successfully completing the prototype stage, most franchisors face their biggest struggle of all as they establish their first 10 to 25 new franchisees as successful operators.

4. Critical mass. This stage consists of everything that comes after a franchisor has at least 25 or more successful franchise operations in place.

There's no sense beating around the bush. As a good general rule, the earlier you get involved in any business going through these four phases, the greater the risk of failure. After completing the first three phases, most franchisors have gained enough mass and experience in their operations that they are far more likely to survive and succeed. For more information on why this is true, see my article Evaluating New Franchises.

But how can you tell whether a franchise company that's graduated to phase four will be around for the long term? You can greatly increase your chances of success by taking the following steps:

• First, find out whether the existing franchisees are happy and financially successful. Check this out very carefully, since you'll probably end up much like them if you buy a franchise. Also, make sure you verify that they have actually become financially successful, not that they're expecting to be profitable soon. We're looking for proof here, not hope, and newer franchisees are notorious for having unrealistic expectations about their business.
• Next, make sure the franchisor believes its success is based on the success of the franchisees. Get plenty of examples from franchisees about how the franchisor shows this attitude through actions in addition to words.
• Finally, examine the support infrastructure of the franchise company, especially in relation to operational support. How long have the support people been around, what was their prior experience, and how confident are existing franchisees in their ability to help grow their business? You're paying a lot of money for this support--you don't want to get into a blind-leading-the-blind scenario.

Most franchise companies become much more stable by the time they get into this fourth phase of their growth, but that's no guarantee of success for you or for them. If they also have the right attitude and the right focus in their business, you'll both have a much better chance of success.

It's more work for you to go through all these steps to make sure these essential factors exist in a franchise opportunity. Your reward for doing this extra work? You'll be as protected as possible from buying a franchise that might go under.

Jeff Elgin has almost 20 years of experience in franchising, both as a franchisee and senior franchise company executive. He is currently the CEO of FranChoice Inc., a company that provides free consulting to consumers looking for a franchise that best matches their needs. He can be reached at jelgin@FranChoice.com.

The opinions expressed in this column are those of the author, not of Entrepreneur.com. All answers are intended to be general in nature, without regard to specific geographical areas or circumstances, and should only be relied upon after consulting an appropriate expert, such as an attorney or accountant.