How Are Franchises Financed?
Funding a Franchise Purchase
Franchises have some built-in advantages when it comes to startup funding relative to non-franchised small businesses. First, the best franchise systems have many successful franchisees whose valuable experiences and benchmarking are baked into operational practices and training for new franchisees.
Further, franchises have the backing and ongoing support of an established franchisor, which can offset lenders' concerns regarding the business plan, go-to-market strategy, unit economics and operational aptitude of the business owner. Second, many franchisors offer in-house financing programs or have preferred relationships with credible lenders that can help streamline the application process.
Of course, prospective franchise buyers (or franchisees) must clear a series of hurdles for the franchisor to grant the right to open a new franchise in addition to access to capital.
Top 5 Non-Financial Attributes of New Franchisees, from the Franchisor Perspective
- Strong business background, often with relevant industry experience
- The ability to follow a prescribed plan
- Tireless work ethic
- Excellent interpersonal skills ("a people person")
- Reflects the ethos of the brand
If a candidate meets all of the non-financial criteria, then the funding question comes into play. The financial requirements for a franchise purchase can vary greatly depending on the size and type of the investment. That being said, almost all franchises have a liquid capital requirement, which in essence in the startup equity (or cash) that a buyer will need to bring to the table. The remainder of the investment will come in the form of debt financing.
8 Best Places to Find the Financing to Start Up Your Franchise
- Your Own Assets and Resources
- The Franchisor. Many franchisors offer in-house financing of sorts or have preferential relationships with traditional lenders. Item 10 of the Franchise Disclosure Document (FDD) will provide details of the franchisor's financing arrangements. The Franchise Registry is an excellent resource for investigating franchisor financing programs.
- Small Business Administration-Backed Loan (SBA Loan). The SBA will act as the guarantor on several loan products that other lenders will in turn issue.
- Banks and Credit Unions. Traditional lending institutions remain active in the franchise lending space.
- Franchise Financing Companies. A new breed of financing companies that focus specifically on the franchising industry, these players will connect prospective franchise buyers with a group of lenders or lend directly to them.
- Friend and Family Loans. Always a viable source of financing for any small business startup, friends and family loans can help bridge a funding cap for prospective franchise buyers.
- Investing 401(k) or IRA Assets. These are known as Rollovers for Business Start-ups or ROBS. Below are some companies who assist with 401(k) or other rollovers:
- Unsecured Loans. Although they are often seen as a last resort, unsecured loans (namely credit cards and personal loans) are accepted by some franchises as viable form of financing. Be aware that these loans carry considerable risk.