Securing funding for a franchise
Looking at the franchise industry’s funding process, Richard Mukheibir, Managing Director of Cash Converters, explains that generally a franchisee will contribute a percentage of the total set-up costs of a franchise in un-encumbered cash. “It is highly unlikely that funding institutions will provide funding if the owner has not contributed as well. The general rule of thumb would be an owner’s contribution of 50%, with borrowings to make up the balance. Once the prospective franchisee has accumulated the cash lump sum, the franchise he/she buys into would generally be of assistance to raise the balance from financial bodies.”
In terms of types of funding options available he says that a franchisee can raise cash traditionally through the major banks which all have franchise desks that manage the process. Alternatively, he suggests using government small business funding such as Small Enterprise Finance Agency (SEFA) or private funders like Real People, for example.
Bonga Mchunu, SEFA’s Head of Regions: North, explains that in order for the funding application process to kick-off, discussions between the franchisee and franchisor need to have taken place. “Generally the franchisor will do preliminary screening to determine the potential franchisee’s interests and qualifications. Some franchises require a deposit payable upfront by the franchisee and this would have to be arranged before SEFA is approached. After that, the application process starts with SEFA checking whether the applicant meets a host of criteria, some of which include: the business must be owner managed; the owner must be involved in the day-to-day running of the business on a full time basis; and the business must be conducted with a profit motive and be economically viable.”
Kenneth Fisher, CEO: Business Finance SME South Africa for Real People, says most financial institutions have a Business Assessment Scorecard which scores the clients, divides them into client risk categories and then accordingly recommends an interest rate to the Credit Committee. He points out that some of the most important aspects generally considered by these Scorecards include: credit score rating through the Credit Bureau; adequate own contribution; adequate collateral; client personality profile assessment; jobs created; and BEE score, among others.
“Most financial institutions can generally give the client an answer within approximately two to four weeks, if all the required information is provided,” he says. “Depending on the complexity and type of collateral provided, pay-out can generally take approximately two to four weeks depending on the financial institution in question.” Mchunu confirms that the turnaround time for a decision to be made after SEFA has received all the documents from the franchisor and franchisee is between 22 and 30 working days.
He believes, however, that before a potential franchisee even starts the application process for funding, there are some fundamental questions that need to be answered. “It is really important that a potential franchise owner understands the implications of owning a franchise. So questions such as ‘Is franchising right for me? Am I cut out for this type of business? How much money am I really likely to make?’ and ‘Why do some franchisees fail -- and how can I avoid the downsides?’ need to be answered. It is important to remember that buying a franchise doesn’t guarantee success.”
Fisher agrees and adds that it’s essential that potential franchisees do their own financial projections and market research if possible and do not just blindly accept what franchisors tell them. “Research projections and take a conservative stance. Speak to as many people in the business as possible and get advice if required.”
He offers these additional pieces of advice for new franchisees:
- Ensure that you familiarise yourself with the Franchise Agreement, Franchisor Disclosure Document, and Landlord’s Rental / Lease Agreement before you start. You will have to sign them and abide by all the stipulations contained therein thereafter. So do not make a mistake. You cannot easily get out of these agreements, as many of them have penalty clauses with serious repercussions if not complied with.
- Ensure that you have enough back-up working capital for at least six months, if possible, as it takes time to build-up market share and breakeven.
- Ensure that you go on some type of short, practical small business course before you start, so that you can eliminate most of the mistakes that novices tend to make.
- Ensure that you arrange a bank overdraft facility before you start the business in case you need it during slow or difficult times.
Mukheibir advises franchises to avoid too much gearing so that the business can afford to service the debt bill monthly. “Starting a franchise is really a thrilling experience but it needs to be done responsibly and sensibly. As with any new business, debt is incurred to get a franchise started but, if managed well, repayments can be met monthly and the business can be thriving, making a profit in minimal time. A good franchisor will also provide sound financial advice and contacts for its franchisees as well as training on good financial management. It’s therefore imperative to find the right franchisor and well as the right funder for you,” he concludes.