Q: I've been
investigating a number of franchises, and they don't seem to be
very consistent in terms of rate of return on investment. In fact,
it sometimes appears that there is very little correlation between
the total investment and the amount of money I can make in the
business. Has there been a study on which franchises offer the best
return on investment based upon a three- to five-year period after
opening? If not, where can I get this information, and how do I
know if it is accurate?
A: The short answer
to his first question is no. Many years ago, statistics were quoted
on the success rate in franchising as compared with independent
businesses. You rarely see anyone quote these old statistics any
longer, because, as it turns out, the studies were significantly
flawed and likely invalid even then. A few years ago, the
International Franchise Association sent out a recommendation that
franchisors stop using those questionable statistics. If you are
investigating a franchise opportunity, and the franchisor or broker
is still quoting those old DOC or SBA studies about franchising to
show you how safe your investment in a franchise will be, I would
be a bit concerned.
There are no studies we know of that have examined the return on
investment in franchising. Franchising is now used in more than 85
different industries, and returns vary widely between industries
and even between the companies in those industry subsections.
Indeed, given the wide variations in type of franchises being
offered within some companies (in-line, mall-based, freestanding,
express, mass gathering, kiosk, seasonal, single unit, multiunit,
dual branding), not to mention differences in the maturity of the
locations and demographic differences, such a study would be
difficult if not impossible to complete.
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To do your own examination, focus on two key disclosures items
in a franchisor's Uniform Franchise Offering Circular (UFOC).
The first is Item 7, which explains the investment in the
franchise, and the second is Item 19, which discusses the earnings
of locations within the franchise system. Unfortunately, the
majority of franchisors still do not disclose earnings in their
Item 19. Even if you have a franchisor's UFOC, you still may
not be able to do a three- to five-year return on investment
projections, because the franchisor may not include the necessary
detail in their documents. For more detailed information on
interpreting earnings claims, click here and here.
The International Franchise Association's Education
Foundation conducts the most comprehensive research on franchise
industry issues today. Some of their studies are free online; some
need to be purchased from the foundation. For more information, go
to www.franchise.org.
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.