Why Franchisors Have to Care about their Franchisee's Due Diligence

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At least weekly we hear from a franchisee, after buying a franchise, that "I should never have bought it." That realization stings. It signals that the honeymoon has ended and the spell cast by the sales consultant has worn off.

Frequently, it signals the impending economic death of the franchisee-and the ultimate "death by a thousand cuts" of the franchisor.

Why should franchisees care?

This means that the franchisee did not do their due diligence until after they signed the franchise agreement and paid the fees. That is precisely what the sales "consultant" wanted them to do. If they buy the sizzle without examining whether it is really steak or just cheap hamburger, the "consultant" gets paid, the franchisor gets another franchisee, and everyone is happy-until the smoke clears for the franchisee.

The solution for franchisees is simple. Do your due diligence before you sign anything or pay any money to anyone.

Due diligence means reading and understanding the Franchise Disclosure Document and every document you will be required to sign. It means understanding the franchise relationship.

Most importantly, it means obtaining answers to tough questions-questions the franchisor and the sales consultant don't want to answer. If they won't answer or if they try to switch you back to the razzle-dazzle, it probably means a major red flag. If you spot even one red flag, you should not proceed until you have answers.

Signing without having answers to every question-especially the red flag questions-is a business plan that can end in bankruptcy. Most franchisees fail and a significant number of those failures result in personal bankruptcy.

Consult with an experienced franchisee attorney before you sign any contracts or pay any money or buying a franchise. Insist that every question be answered unambiguously to your satisfaction before you proceed. That is your right.

Why should franchisors care?

Every franchisee that fails (or does not succeed as they expected) is a huge billboard telling other prospective franchisees the truth-that the system did not work for them; that they are losing money. In a world where information travels at the speed of light and negative information even faster, no franchisor needs that information in the marketplace.

The solution for franchisors is simple. Be honest and complete and make sure the franchisee has all the information they need-not just the minimum required by law.

Most importantly, train and supervise every sales "consultant" that is representing your brand. Make sure they encourage prospective franchisees to consult with independent experienced franchisee lawyers.

Don't try to sell the franchise as a solution that it is not. If the franchise is worthwhile and adds true value to the franchisees, you will have a successful system-because that word will also spread. You may not get rich overnight-but you may stay rich longer-by doing it right.

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Hi Howard,
Great point. Do you think if there was an automated solution/software that would compare a potential site (by franchisor defined site criteria) to all of the existing franchise sites and for instance say that the potential site very closely matches a site that is one of the top performing - do you think that would be valuable to franchisees during the due diligence process?

Kateryna, prospective franchisees are unlikely to use the software you describe.

However, such a tool could be very useful to existing franchisees and franchisors. It could be used to predict where expansion should happen, and give everyone a heads up about where the system should go next.

This could be very helpful for resolving tough issues about encroachment.

Good luck with your project at merxz.com

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About this Entry

This page contains a single entry by Howard Bundy published on November 5, 2012 8:20 PM.

Are You Compromising Your Integrity? was the previous entry in this blog.

How Dunkin Donuts Collaborated on Site Selection with Locals is the next entry in this blog.

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