Something old, someone new

A whole number of reasons are readily available for the increase in franchise resales. Situations that may be outside franchisees' control can lead to this: Death, divorce, financial ruin, lack of success... And then there are the deliberate reasons. The franchisee may be entering the retirement period and will want to take it easy - alternatively, the franchisee may have done all that they can with the business and may want new blood to come in and give that business a new lease of life.

It's generally a win-win situation all round. The current franchisee can sell his or her business and make a good profit to the new franchisee who can then do what they wish with their new business and potentially make something of their investment.

Don't take my word for it though. Here are three industry experts who all have their own views on the burgeoning world of franchise resales...

John Pratt is the founding partener of Hamilton Pratt, the largest specialist franchise law firm in Europe. He is legal advisor to the bfa.

Are resales gaining in popularity? If so, what are the reasons for this?

Undoubtedly, there has been and continues to be an increase in resales of franchisees' businesses in the United Kingdom. There are a number of reasons for this. The first is that franchise systems are becoming more mature, so there is an increasing number of franchisees who have operated their business for some considerable period of time and either want to retire or do something different or to cash in on the value of what they have built up.

In addition, franchisors now understand the value of resales in refreshing their network. They sometimes find that the franchisees they recruited to take up a 'greenfield' franchise had certain qualities that may not be the qualities the franchisor is looking for in terms of growing a franchisee's business.

The type of franchisee who can take a business from £0 to £150,000 turnover has certain attributes, but they may be different to the attributes needed to take a business from £150,000 to £500,000.

Franchisors therefore see the opportunity of attracting franchisees with different skills on a resale. Added to which any network is improved by a certain amount of change and bringing in new blood. Lastly, of course, it is good for the network for franchisees to see that it is possible to sell their franchise business at a substantial capital gain.

Is the resale of a franchise really a sign of failure?

Absolutely not. In the majority of resale cases, franchisees are selling simply to cash in on the value of the business that they have built up and developed. There is nothing wrong with this and there is nothing wrong with any franchise system that encourages resales.

That having been said there will, inevitably, be situations in which a franchisee has simply failed to make a success of the franchise and, therefore, has to sell. In terms of percentages these 'forced sales' form a relatively low percentage of total resales. Furthermore, if a franchisee's business really is failing so that it is not operating at a profit, then the value of the franchise business will be very low and indeed could be lower than simply taking a new franchise.

What are the reasons for the resale of a franchise?

(a) The franchisee having built up his business, wants to obtain the value - franchise businesses are no different to any other business in this regard.
(b) A franchisee is not fully developing his franchise business and with 'encouragement' from the franchisor, he/she sells.
(c) The franchisee has had enough and wants to take it easier, either on health grounds or because the franchisee has reached retirement age.
(d) The franchise has not proved as successful as the franchisee had hoped and, therefore, he or she does not wish to continue with the franchise.

What are the current statistics for resales?

As with much in franchising, the only authoritative source of information is the NatWest/bfa survey. The survey sets out the following:
'As the number of units grows so too has the level of unit churn. This study shows that the proportion experiencing change has risen again, after the dip down in 2004. It has now reached the more typical level of nine per cent, the norm for recent years. This equates to an estimated 2839 units changing hands over the last 12 months up to January 2007.

The number of voluntary changes is increasing; however this could be the sign of a successful market. Potential franchisees create a demand for profitable units and existing franchisees begin to realise their investments.

Since 2000 there had been a steady declining trend in the number of forced changes. Having reached what is perhaps its natural low point, this year it has taken a slight upward turn, with an increase to 1.8 per cent of franchised units, albeit still well below the far higher figures recorded during the 90s. Some 562 units are estimated as having had forced change imposed, with the increase driven by slightly higher levels of commercial failure this year - up from their record low last year of 0.9 per cent to 1.3 per cent in 2006.'

In 2006 there were, according to the survey, just under 2000 franchisee business changes, of which only 117 were commercial failures and 70 were disputes which, presumably, means that the remaining 1740 were voluntary decisions of franchisees.

Do resales have more advantages for a newcomer rather than a new franchise?

Resales have both advantages and disadvantages. When a franchisee takes a new franchise he will have to build up the franchise business himself because there will be no existing client base or goodwill. This does mean that in the early days, cashflow and profitability may be difficult but it also means that the franchisee will not be 'burdened' by any negative aspects of an existing franchisee's business operations.

The great majority of franchise businesses that are sold are sold for considerably more than the initial franchise fee that would be paid if a new franchise was taken. This is because the franchisee is selling not only the right to operate the franchise, but is also passing on existing clients and turnover. For those franchisees wishing to take on an existing franchise business, they must satisfy themselves that their skills base would enable them to further grow that business.

What is the future for resales?

It is likely that franchise resales will continue to grow, simply because of the increasing maturity of franchise systems. Sophisticated franchisors manage that process and, indeed, many do so with the assistance of outside professionals who have expertise in franchise resales. The reason that franchisors participate in the sale process is to ensure that it operates smoothly, that the resale actually takes place and the costs involved in implementing a resale are, relatively speaking, reasonable.

Derrick Simpson is the managing partner of Franchise Resales Ltd and has played an active role in UK franchising since 1988. He is a regular speaker at bfa events on matters around franchise resales.

Are resales gaining in popularity? If so, what are the reasons for this?

Resales are a logical way to enter the marketplace. Buying one means you get: cashflow from day one; a brand presence so don't have to start from scratch, staff in place (if appropriate); and of course customers. As there is cashflow from the start there is a much less risk of not being able to repay any borrowing so banks are more generous with funding ratios for established franchisors. It may cost more than a start-up but then again there isn't usually the initial franchise fee to pay, so the total sum payable may not be that much higher than a new one with all the added benefits applicable.

Is the resale of a franchise really a sign of failure?

Businesses are sold every day of the year and a franchise resale is no different. Some will be sold because of failure, in which case they will be very cheap, but most are simply because of the franchisee lifecycle and natural turnover. There are always going to be situations taking into account 'personal circumstances' but for the most part franchisees are ready to move on. A good franchisor's system will encourage a franchisee to make consistent profits during their lifetime and not rely on a balloon payment at the point of resale. It's all about the totality of income generated over the life of the franchise agreement including ongoing drawings and dividends as well as the final selling price.

What are the reasons for the resale of a franchise?

The reasons are numerous. Some examples are: death; divorce; illness; age; boredom; a partner moving work to another part of the country; the business not being able to keep up with technology changes (printing, signs and photographic for example); a desire to capitalise on investment whist the going is good; and many, many more.

What are the current statistics for resales?

Last stats indicated a one in three ration for resales but I would estimate that now it is closer to 50:50 with even the newer franchisors having resales occur.

What is the future for resales?

As the UK has generally followed the US in terms of franchising trends, I would suggest that there will be a far greater number of resales over the coming years. It is logical that as franchisor systems mature they will get the franchisee 'churn' due to longevity and again the lifecycle of franchisees in a system. Certainly since the establishment of Franchise Resales Ltd in April 2007 we have seen a far greater enquiry rate from franchisors using our structured system.

The future is bright, the future is Resales!

Nigel Toplis, managing director of Recognition Express, author of a number of books on franchising and chairman of the British Franchise Assocation for two years.

Whenever I interview a prospective franchisee one of the questions I always ask is: 'When do you want to get out?'

This is because at the end of the day everybody (unless they pass to family) needs to sell their business, and it pays to have this as an objective from day one.

So resales are an integral part of franchising and can be of tremendous benefit to all three parties - existing franchisee, new franchisee and the franchisor.

By accepting the fact that one day the business will be sold, the franchisee should not look simply to take cash out of the business, but rather continue to invest in it - so as to build a capital asset.

The buying franchisee of course gets a 'ready made' business with staff, customers and income from day one.

The franchisor will hopefully bring in a younger, fresher franchisee with all the drive, enthusiasm and ambition of the original franchisee when they started.

So the benefits of resales are the existing franchisee is able to get a lump sum payment for his business; the new franchisee buys a 'ready made' business that will produce income from the day he/she starts; the franchisor will receive an injection of energy from a new franchisee - as well as taking maybe a percentage of the sale price as a fee.

Of course there are always downsides to any resale.

I have been involved in more than 100 re-sales over the years and in virtually every case the selling franchisee over values his/her business.

Rarely, in my experience, has the offer - or final selling price - ever matched the original valuation of the seller.

Your business is very personal - you've put your heart and soul into it, you've put your own stamp on it, plus more importantly you know the potential of the business, even if you haven't exploited it.

To the buyer it's not yet that personal - they will buy through analysis, logic and objectivity and usually as a multiple of profits.

For the buyer there can also be issues, for while they will certainly get a 'running' business, no amount of due diligence can reveal possible trapdoors.

Having staff from day one may seem like a 'godsend' but you may pick up personnel issues - prevalence of sick days, issues of childcare, animosity between members of staff and so on.

All these things could be handled by the existing franchisee because one becomes 'accustomed' to things. Over the years one may build a method or process for dealing with certain people, but when you take on a business you don't need it.

Similarly, having a bank of existing customers is great but if the franchisee has built up very close relationships with some customers they may simply choose to go elsewhere when their friend retires.

However, when you buy a business you get all the advantages of a business in operation - working staff, a working system and database of active customers.

Additionally there may be some downsides: not quite the staff you want; processes that have 'developed' over time but have gone away from the franchise specification; customers leaving simply because someone else is more convenient and they don't have the incentive of friendship to remain; plus you may have to let some customers go as you can't afford to retain their special pricing arrangements.

From a franchisor's point of view new blood should always be good news - new drive, new energy, and new ambition. But of course a resale can produce issues of its own as those described above - but also of a financial nature - the borrowing will generally be higher and the personal investment more, so in many cases the 'hand-holding' needs to be tighter and for longer.

My final view on re-sales is that they are a necessary and vital part of an energetic, progressive and dynamic franchise system.

The benefit of building capital assets, training staff, creating client relationships, developing on-going business opportunities and of re-energising the franchise far outweigh any negatives.

Like most things though, each party - existing franchisee, new franchisee and franchise - has responsibilities and needs to fulfil those seriously, with transparency and with honesty.