Welcome to 2018. The future of franchising is upon us. What does the landscape look like? We don’t have a crystal ball, but we can make some educated guesses based on what is happening around us today, and what is likely to transpire over the coming years.
President Obama has recently finished his second term in office. The Affordable Care Act has been absorbed by the many businesses it affects, and these businesses have learned to deal with the incremental costs through managing hours and taking price increases as the market allowed. Business owners have also adjusted to increased income and capital gains taxes, and have devised strategies to minimize the bite. After a few years of historically low interest rates and central banks pumping liquidity into the economy, inflation has begun to kick in, and this is now putting a lot of upward pressure on commodities. Operators who took advantage of the low rate environment to recapitalize their business are very happy that they did.
Franchising in 2018
Based on our observations and projections, here’s what we think franchising will look like in 2018:
How does this impact me?
- The refranchising effort underway by many mature franchise concepts will continue to the point that all units of these systems are owned and operated by franchises. Also, all new store development is done by franchisees. This makes sense because franchisees are notoriously more efficient operators than are franchisors. It also allows franchisors to more effectively manage their balance sheets.
- Franchise ownership may gradually become increasingly concentrated in the hands of a few mega-operators, but this process will take many years. The consolidation will allow these operators to realize increasing economies of scale in terms of operations and infrastructure. Mega-operators will be backed by mega-capital to provide the resources needed to obtain mega-scale.
- Franchisees will also take on image Capex obligations, especially if they are acquiring company stores. Mature franchisors have been keenly focused on upgrading the image of their units, and have required franchisees to bear the cost of image upgrades. It will be important for operators and investors to monitor ROI on these expenditures.
- Eventually, some of the mega-operators may team up and buy the brand from the franchisor in an effort to better control their own destiny.
- On the other side of the coin, many concepts, typically newer or less-mature brands, will likely favor a more even balance between company units and franchised units. Explosive growth potential for these concepts will be attractive to franchisees and investors.
- Ample capital will continue to be available to fund franchisee growth. The debt spigot is flowing fairly freely, and there is a lot of interest from equity players, especially for sizable and scalable operations.
“So,” you ask, “what does this mean for me?” In a word: opportunity. No matter the path followed by the franchisor of your system, it is advisable to prepare yourself to take advantage of what the future holds.
What kind of actions should you take? First, take stock of your operations capabilities, financial resources, motivations and desires, and where you are in your own life cycle. Determine if you have what it takes to become 25% larger, 50% larger, 100% larger, or maybe even to aspire to be one of the mega-operators eventually. Remember, you’ll only be able to take advantage of opportunities if you are properly prepared to do so. To achieve this kind of growth, you’ll need to get your resources lined up:
- What kind of bench strength do I have?
- How will I add the people resources I need?
- Should I outsource some administrative functions?
- How can I bolt on to my existing infrastructure and systems seamlessly?
- Who are / will be my financial backers? How deep is the well?
- Will I have access to both acquisition and remodel capital?
- How do I manage cost increases due to employee health care and commodities?
On the other hand, you may be at a point in your own life cycle at which you are ready to move on to something else or even retire. Given the demand for franchised operations, there will be great opportunities for you to transfer your units into the hands of one of the growth-hungry operators. But first, you must be prepared:
- What is my franchise company worth?
- How can I maximize that value?
- What is the best timing for an exit?
- What kind of team of professionals do I need to start assembling in order to accomplish my goals?
- What does my life look like after my exit?
- Is there a different franchise system that I’m attracted to?
Meantime, while you are thinking through your plans, put yourself in a position to recapitalize NOW. Irrespective of how you plan to take advantage of the franchise opportunities in front of you, operators should take advantage of the current rate and capital environment to lock up financing at historical low rates. As more lenders seek franchise loans, underwriting criteria is slightly more flexible, and interest rate hedges and swap position which have prevented some borrowers from refinancing the past several years will become assets in the future as rates rise. Don't let short term closing and documentation expenses defer a recapitalization strategy. Use a professional advisor, contact multiple lenders, get the best deal, and cut your borrowing costs while you plan for your future.
OK, so it’s not yet 2018. But you know how fast time goes by, and 5 years will be upon us in no time. The groundwork for the future of franchising is being laid before us today, and it’s up to us to figure out how to secure the maximum benefit from the eventual outcome. Take some time to ponder your situation and what you think the future of your franchise system is. Decide how this might impact you, and how you can position yourself to take advantage of the opportunities being created.