Exploring franchising as a way to scale SMMEs

Bendeta Gordon
There are many ways to skin a cat, they say. For SMMEs this definitely does not hold true when they need capital to grow. Though many SMME owners are willing to grow and create jobs, they aren’t spoilt for choice where the financing of growth is concerned.

But all is not lost according to Bendeta Gordon, chartered accountant [CA(SA)] and founder of Franchize Directions. “There is a way to finance growth which SMMEs have under-utilised but which is proving to be a viable way for them to increase market share at low risk levels. We have been researching and tracking franchising for more than 20 years and, over the period, franchising has consistently proven itself to be a great business expansion mechanism that reduces the business risks associated with growth and which also stimulates the economy and creates jobs”.

Franchisee, franchisor…what is the difference?
Franchising is a way in which a company wishing to expand its reach, issues a licence to another party and then allows the other party to operate independently – but under strict business rules – using its products, brand name and business system for a fee. The franchiser is the original business owner and originator and the franchisee essentially replicates the original business model.
While franchising as a model has many advantages for the franchisee, there are plenty of advantages for the franchisor, such as:

1. Access to capital
Franchising allows a business to grow faster than they might conventionally, as the franchisee provides both the fixed and the working capital required for this expansion. Franchisors provide business rules, training, monitoring and assume the role of innovator and marketer for the total franchise group – for which franchisees reward them.

2. Franchisees are motivated managers
Franchises are only awarded to people who have the required capital and who will make good managers. Because they have a financial interest in the business they are more likely to act in the best interest of the business. The better they manage, the more successful they are in their own right and for the franchisee – who is rewarded with a share of turnover in the form of a franchise fee.

3. Speed of Growth 
With competition rife in many markets, franchising is a great way to make sure that a differentiated SMME grows at a pace and risk it can afford while at the same time blocking potential copycat competitors. For a franchisor the faster they can establish a network of quality franchisees – the faster their growth becomes, and the better their chances are of competing at scale with much bigger brands.

4. Supervision bliss
The franchisor is not involved in the day to day running of each franchisee and they need not worry about supervision of staff or what the franchisee – who normally might be an employee – does on a day-to-day basis. This frees the franchisor to concentrate on the franchise brand and improving and growing the total operations.

5. Easier penetration into smaller hard to reach markets
Owning a franchise also means that the business can easily be expanded into markets and areas that are sometimes overlooked due to their location. In this case the franchisor finds a local business person to be the franchisee and this personal touch or network often makes the difference.

8. Reduced Risk 
Being a franchisor is less risky, as much of the capital employed to fuel growth has been invested by willing franchisees. The risks associated with hiring staff, leasing buildings, and the establishment of the business all lies with the franchisee. The main risk the franchisor has is the brand being tarnished by poorly performing franchisees – which is why franchisee management and monitoring is so crucial.

What is required for a business to use franchising as a growth tool?
For a company to become a franchisor, it should have the capacity and the willingness to take on the responsibility: of creating and monitoring business rules; of innovation and marketing; and of creating a competitive supply chain. They also have to understand that the business requires the skill and willingness to mentor and support third party franchisees as the business grows.

The following are some of the criteria which should be in place for a business to be franchiseable:
  • The market for the business’s products and/or services must be substantial and be sustainable over the long term
  • The product or service must be differentiated meaningfully to its customer base
  • The business model for the marketing and sale of products or services should:
    • have operated for at least one full year
    • demonstrate profitability
    • operate with efficient and effective systems of operation
  • The brand should be distinguishable and be registered as a trade name together with the trademarks
  • The franchise unit should still be profitable after factoring in franchise fees.
Though eight out of 10 franchisees succeed, there are some who do not make it. Reasons for individual franchises failing are usually associated with poor management, poor location, or poor levels of working capital. These shortcomings can be prevented or managed by the franchisor in most cases.

The scaling of SMME businesses by the use of franchising is a real possibility for ambitious SMME owners who either can’t accumulate the required capital at the scale or speed that the opportunity requires, or by those who simply want to grow at lower risk levels. Either way the concept provides the SMME marketplace with a way to overcome one of their biggest obstacles to growth. The consequent and knock on benefits to GDP growth and job creation and poverty reduction are obvious.