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Buyer Beware: Franchise Warning Signs

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Buying into a franchise concept can be an attractive way for some people to become business owners. Ideally, a franchise company has a proven business model, saving new business owners the time, energy and money they would have to expend building concepts on their own.

Unfortunately, I've found that many franchise companies don't live up to this ideal. Think of all the hype a few years back surrounding bricks-and-mortar eBay drop-off stores. Many of those operations have now failed.

These aren't isolated stories. Research conducted for the U.S. Small Business Administration found that only 62 percent of small franchise firms started in 1986 and 1987 were still around by 1991. Nonfranchise firms or independent companies meanwhile had a 68 percent survival rate.

Franchises can still be a good opportunity, but doing more than just glancing under the hood is essential. The franchise should allow you to focus on the business and making money, rather than spend your time creating systems.

As a consultant helping people find franchise opportunities, I've spotted a number of warning signs over the years:

  • Half the franchisees aren't making the kind of money you want to make. Item 19 on a Franchise Disclosure Document explains how much money a prospective franchisee could make from the franchise opportunity. Hopefully, the franchise company breaks down the range of what franchisees are earning from their operations: top third, middle third, bottom third. If the middle-third franchisees aren't making what you would need to meet financial objectives, walk away.
  • Franchisors blaming the franchisees. Don't let a franchise company explain away the performance of the middle and bottom by saying the franchisees don't understand the system. So what if the existing franchisees are lousy? If the franchise company can't recruit correctly, what makes you think its operating system is any good?
  • The model is in a perpetual state of flux. If the franchise company is constantly tinkering with the concept, you need to be asking why. The model simply may not work.
  • Compliance is more important than results. Does the franchise company run a collaborative environment in which its employees listen to franchisee concerns, or is it a bureaucratic nightmare demonstrating low concern for franchisee results and relationships? The franchise company doesn't get to answer this question. You need to seek out a number of franchisees and hear what they have to say about the relationship.
  • Keeping it in the family. Sometimes franchise companies can be too cozy, and turn into benevolent dictatorships where there is high concern for relationships and low concern for results. Look out for franchisors laced with a lot of family. Too often, I see franchise companies where owners choose relatives for positions, ignoring the best people for the jobs. A good franchise company needs highly skilled and seasoned management.

Here is what can make a franchise company stand out from the crowd:

  • The executives have integrity. Do the franchisees say they trust the people running the company? I would look for franchise companies with a sense of purpose and inspiration. When push comes to shove, what motivates these people? Whatever company you're looking to buy into, do Web searches on the names of the owners. Do you find links to their charitable work – or rip-off reports?
  • The business model is unique and timeless. If a franchise company is making money today, pay attention but don't become enamored. Will it make money seven years from now? Unless you're open five to 10 years, you're not going to make a return on your investment. I remember a franchise company that helped design business's first web sites back when the Internet was still a new thing. The idea worked for a time but wasn't sustainable.
  • The company respects its franchisees. McDonald's is tops when it comes to collaboration with franchisees. Most multimillion-dollar McDonald's ideas, including the filet of fish sandwich, came from franchisees. Much of the company's success has come from recruiting gifted franchisees who know what they're talking about. McDonald's has a reputation for respecting and listening to them, too.

Also make sure that the franchise company is the best fit for you. Just because it's a good business doesn't mean it's a good business for you. Not everybody is wired to be a poet. Not everybody is wired to be an accountant. Not everybody's wired to run and manage every business.

Pay careful attention to what a typical franchisee does in the business every day. Make sure you have the skills it takes to win, and that you find the work to be meaningful and enjoyable.


Joe Mathews

Written By

Joe Mathews has 20 years' experience in franchising, including management roles with Subway, Blimpie, Motophoto, The Entrepreneur’s Source and other national chains. He is co-author of Street Smart Franchising with Don Debolt and Deb Percival, from Entrepreneur Press. He is based in Litchfield, Conn. Follow him on Twitter: @joematty.