What’s in a name?
There is nothing new about franchising. Today, seemingly every conceivable product or service is franchised.
October 14, 2014 By Lloyd Manning
There is nothing new about franchising. Today, seemingly every conceivable product or service is franchised. Although in their infancy in Canada, franchised therapeutic massage clinics are growing exponentially in the U.S.
A franchise provides an identity assumed to be readily recognized and respected. It provides the right, within a specific geographical area, to use, exclusively, the franchisor’s name, trademarks and procedures. Franchisor help is available in the areas of staff selection, operating procedures, accounting, legal matters, marketing, advertising, support, group purchasing power and continuing assistance – all of which which could be of immeasurable value.
These benefits are always given as the justification for the continuing royalty. Their marketing sales pitch is an affordable massage for everybody. They sell memberships. Members are required to commit to one massage per month minimum at $59 to $90 depending on the clinic with additional massages at a reduced price.
However, in order to produce continuity from one franchised clinic to the next, one of the basic requirements is that the franchisee follows the format as laid down by the franchisor. Deviation is a no-no. An important point is that a franchise reduces the massage clinic’s owner from doing his or her own thing to following the prescribed procedures. Success in franchising is about implementing and building on an established and proven system. It is all about giving one freedom to focus on the aspects of the business he or she enjoys without having to worry about the petty details. Many therapists do not wish to run a business; they just want to provide massages and converse with their clients. Still, being a franchisee is not for everybody.
As urban Canada is largely a conglomeration of smaller cities and country towns, a massage therapy franchise is probably not workable everywhere.
Massage Envy, the largest franchisor in the U.S., requires a minimum population in the franchisee’s territory of 30,000, or 7,500 households, with an average income of $75,000 each. Probably the smallest Canadian City where Hand and Stone is seeking franchisees would be Brandon, Manitoba, with a metro population of about 56,000.
ARE franchisees doING better?
Several empirical studies support the position that franchised businesses have higher revenues than non-franchised, which allows them to pay the franchisor’s inception fee and the royalty. One survey signified that franchise affiliation adds about nine per cent to gross revenue, but when one amortizes the inception fee and discounts the royalty paid to the franchisor, net profit is seldom greater.
There are advantages and disadvantages to being a franchisee. What appeals to one may turn off another. In the smaller market, the inception fee and the royalties would probably outweigh the benefits. The principal disadvantage is the cost. Inception fees range from $30,000 for Massage Experts to US$50,000 for Massage Envy. For most, there is an ongoing royalty of five per cent of the gross revenue plus two per cent for advertising and promotion. Total investment including set up required is $175,000 to $400,000.
A word of caution
When researching about a potential franchise, bear in mind that franchisors will wax eloquent on the virtues of their franchise. Most write-ups are promotional pieces. Sometimes, neutral critiques are not too neutral. It all depends on who is paying for them.
You must do your own investigation, weigh the pros and cons, make comparisons of the various franchises. Check them all out. How will each fit best into your practice, meet your objectives and overcome your constraints? Compare and analyze. Never assume that franchisor studies and market analysis are completely unbiased.
Before buying a franchise, it’s a good idea to ask the right questions – and insist on answers:
- How does the franchise stack up in this competitive environment? Has it demonstrated measurable growth? Are the existing franchisees doing well with it or is it a questionable starter that the franchisor guarantees to be a big winner? Ask. Phone around.
- Is the franchisor a competitive factor in the marketplace? How long has it been in business? How many franchisees are there in the system and in what geographical areas?
- Does the franchisor have a good marketing plan? Is it well recognized and accepted? Does it use modern advertising and promotional methods as well as a website.
- Are the sales and profit projections provided by the franchisor realistic or based on wishful thinking? Most forecasts are little other than best guesses, their inaccuracy often accentuated by limited research and played-down negative factors. Some rely on inflation to make everyone look good.
- What share of the market does the franchisor have?
- What is the franchisee failure rate? You probably will not get this figure from the franchisor, so phone around or do some research to see how the present franchisees are doing.
- Will the franchise add to the profit of your clinic after amortizing the inception fee and paying the royalties? As an expense item, amortize the inception fee at the current bank rate of interest over the first term of the contract (10 years is common). Do not assume that it will be renewed. Use constant dollars.
- Are the inception fee and the royalties equitable when considering the direct benefits?
- Under what conditions can either party end the agreement?
- Can your clinic be relocated within the community without incurring another inception fee?
- Are there restrictions about you setting up another clinic?
- Is there anything that would limit your right to sell the clinic? Does the franchisor have the first right of refusal?
- What is the breakdown between the franchised and company-operated clinics? If the franchisor is having difficulty in selling franchises, it may operate some clinics itself.
- Always know exactly what is and is not contained in the franchise package.
Always conduct a sensitivity analysis that compares potential income and net profit for your clinic with the franchise and, secondly, without the franchise. Compare different franchises.
Detail your estimated gross revenue by source and deduct from there all operating expenses including the royalty. Forget depreciation. It’s the same both ways. Amortize the inception fee. Include a fair wage for yourself and all staff personnel. Do this at three levels: pessimistic, which is the worst that could happen; most probable, which is what will likely happen; and optimistic, which is what the franchisor tells you. Then compare the franchised clinic with the independent. Which is the most profitable?
Always use constant dollars. Forget about inflation. Conduct a break even analysis. Estimate all of the expenses and then determine how much income you require before making a profit. Through these exercises, only take into account what will affect your business, your gross revenues, expenses and profit. Forget national averages. Look only to your community and your neighbourhood.
Consider the alternatives. How would your clinic fare without a franchise or with one other the one being considered? It all comes down to you having to spend your nickel and taking your chance.
Lloyd Manning is a semi-retired commercial real estate and business appraiser and financial analyst. He can be reached at email@example.com
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