PowerPoint Presentation by Charlie Cook The University of West Alabama Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. Part 2 Starting From Scratch or Joining an Existing Business Franchises and Buyouts

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–24–2 Looking Ahead After studying this chapter, you should be able to: 1. Identify the major pros and cons of franchising. 2. Explain franchising options and the structure of the industry. 3. Describe the process for evaluating a franchise opportunity. 4. List four reasons for buying an existing business and describe the process of evaluating a business.

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–34–3 FranchisingFranchising Franchising –A marketing system revolving around a two-party agreement, whereby the franchisee conducts business according to the terms specified by the franchisor Franchisee –An entrepreneur whose power is limited by a contractual agreement with a franchisor Franchisor –The party in the franchise contract that specifies the methods to be followed and the terms to be met by the other party

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–44–4 The Pros and Cons of Franchising Advantages –Probability of success Proven line of business Pre-qualification of franchisee –Training Franchisor-provided –Financial assistance Franchisor assistance –Operating benefits Franchisor-aided Limitations –Franchise costs Initial franchise fee Investment costs Royalty payments Advertising costs –Restrictions on business operations –Loss of independence –Lack of franchisor support

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–54–5 Exhibit 4.1 Major Pluses and Minuses in the Franchising Calculation

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–64–6 Franchisor Controls on Franchisees Restricting of sales territory Requiring site approval and imposing requirement on the outlet’s appearance Restricting the goods/ services that can be sold Requiring specific operating hours Controlling advertising

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–74–7 Estimate of Investment Costs by Great Clips Exhibit 4.2 Note: This is an estimate only of the capital needed to open and operate your salon during the initial 12 months after you open for business. Great Clips cannot guarantee that you will not have additional expenses starting the business. Source: April 27, 2004.

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–84–8 Franchising Agreements Franchise contract –The legal agreement between franchisor and franchisee Franchise –The privileges conveyed in the franchise contract

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–94–9 Franchising Arrangements Product and Trade Name Franchise –Grants the right to use a widely recognized product or name Business Format Franchise –Provides an entire marketing system and ongoing guidance from the franchisor Master Licensee –An independent firm or individual acting as a sales agent with the responsibility for finding new franchises within a specified territory

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–10 Franchising Arrangements (cont’d.) Multiple-Unit Ownership –The holding by a single franchisee of more than one franchise from the same company Area Developers –Individuals or firms that obtain the legal right to open several franchised outlets in a given area Piggyback Franchising –The operation of a retail franchise within the physical facilities of a host store

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–11 Exhibit 4.3 The Structure of Franchising

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–12 Evaluating Franchise Opportunities Selecting a Franchise Opportunity –Personal observation –Advertisements Investigating the Potential Franchise –Information sources Independent, third-party sources –Federal Trade Commission –Internet –Franchise consultants Franchisors themselves –Disclosure documents Existing and previous franchisees

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–13 The 20 Fastest-Growing Franchises in Subway 2.Curves 3.7-Eleven Inc. 4.Kumon Math & Reading Centers 5.Jan Pro Franchising Int’l., Inc. 6.The Quizno’s Franchise Co. 7.Jani-King 8.Coverall Cleaning Concepts 9.Liberty Tax Service 10.Jazzercise Inc. 11.RE/MAX Int’l., Inc. 12.Jackson Hewitt Tax Service 13.Choice Hotels Int’l. 14.WSI Internet 15.Dunkin’ Donuts 16.Action Int’l. 17.Baskin-Robbins USA Co. 18.Great Clips, Inc. 19.Rezcity.com 20.The UPS Store Source: “The Race Goes to the Swift,” Entrepreneur, February 2004, p. 80. Reprinted by permission of Entrepreneur Magazine. © 2004 all rights reserved. For Subscription Information Call Exhibit 4.5

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–14 Franchising from the Franchisor’s Perspective Benefits –Reduction of capital requirements –Increase in management motivation –Speed of expansion Drawbacks –Reduction in control –Sharing of profits –Increase in operational support costs

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–15 Legal Considerations in Franchising The Franchising Contract –Signed with legal counsel present –Contains a termination and transfer provision –Contains a statement of rights to renew contract

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–16 Franchise Disclosure Requirements Rule 436 of the Federal Trade Commission –Uniform Franchise Offering Circular (UFOC) A document accepted by the Federal Trade Commission as satisfying its franchise disclosure requirements –Litigation and bankruptcy history –Investment requirements –Conditions that would affect renewal, termination, or sale of the franchise

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–17 Buying an Existing Business? Reduction of Uncertainties Acquisition of Ongoing Operations and Relationships A Quick Start A Bargain Price

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–18 Buying an Existing Business Reasons for Buying an Existing Business –To reduce some of the uncertainties and unknowns that must be faced in starting a business from the ground up –To acquire a business with ongoing operations and established relationships with customers and suppliers –To obtain an established business at a price below what a new business or franchise would cost –To begin a business more quickly than starting from scratch

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–19 Pros and Cons of Buying an Existing Business Pros –High chance of success –Less planning –Existing customers/ suppliers –Necessary equipment –Bargain price –Experienced employees –Existing business records Cons –Existing problems –Poor quality of current employees –Poor business image –Modernization required –Purchase price based on inaccurate data –Poor business location

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–20 Investigating and Evaluating Available Businesses Due Diligence –The exercise of prudence, such as would be expected of a reasonable person, in the careful evaluation of a business opportunity Relying on Professionals –Accountants –Attorneys –Other experienced business owners

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–21 Finding Out Why the Business Is For Sale Owner’s reasons for selling the business –Old age or illness –Desire to relocate to a different section of the country –Decision to accept a position with another company –Unprofitability of the business –Loss of an exclusive sales franchise –Maturing of the industry and lack of growth potential Beware of sellers who may have “cooked the books” to make the business more attractive.

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–22 Examining the Financial Data Review financial statements and tax returns for the past five years. Recognize that financial data can be misleading. –Assets overvalued –Expenses overstated/understated –Income underreported –Unrecorded debts Adjust asset valuations to reflect the true state of the business.

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–23 Valuing the Business Asset-Based Valuation –Estimates the value of the firm’s assets; does not reflect the value of the firm as a going concern. Market-Comparable Valuation –Considers the sale prices of comparable firms; difficulty is in finding comparable firms. Cash-Flow-based Valuation –Compares the expected and required rates of return on the amount of capital to be invested in the business.

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–24 Nonquantitative Factors in Valuing a Business Competition Market Future Community Development Legal Commitments Union Contracts Buildings Product Prices

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–25 Negotiating and Closing the Deal Terms of Purchase –Assets purchase or total entity –Indemnification clause –Payment in full or partial payments over time Closing the sale –Best handled by a third party Bill of sale Tax certifications Payment-to-seller agreements and guarantees

Copyright © 2006 Thomson Business & Professional Publishing. All rights reserved. 4–26 Key Terms franchising franchisee franchisor franchise contract franchise product and trade name franchising business format franchising master licensee multiple-unit ownership area developers piggyback franchising disclosure document Uniform Franchise Offering Circular (UFOC) matchmakers due diligence