Dollars and Sense: Advice on Investing in International Expansion

The one truism of international expansion is that despite your best planning, you can count on it taking longer and being more expensive than you had planned for.

Sound business planning is critical to determining what you will need to invest in your international franchising program to reap the revenues your financial projections may show are possible. Your financial projections must reflect an accurate picture of your current and likely future revenue and expenses, incorporating a variety of different scenarios and assumptions, because the market can move fast and you will need to react quickly to its demands.

A few factors that could greatly influence your costs to operate in international markets include mandatory higher wages and employee benefits; lack of real estate or sites that can accommodate your business; cost of space, including up-front key money (paid in advance to landlords to obtain a lease) in many countries; the lack of reliable suppliers and available ingredients or raw materials; and even the cost of money – including the exchange rate and tax consequences of franchisees paying fees to you in the U.S.

And although jetting to Venice may sound glamorous – and a romantic ride on a gondola is very appealing – be prepared to invest lots of money to kick off and sustain a well-run international franchising program. Don’t plan on receiving high international franchise or territorial development fees from your international franchisee to be available to use as capital. International franchisees have many more choices among brands than they used to, and the days of paying premium franchise or territorial development fees are gone. You should expect international franchisees to aggressively negotiate initial fees and other elements of your term sheet. Compared with domestic franchise expansion in the U.S., international franchise deals are highly negotiated. In the end, the amount of the fees you will be receiving will likely closely resemble your U.S. fees.

Given the distance and time required in securing an international deal, you will also need to factor into the negotiations of your initial fees (or an initial franchise application fee) the costs for finding, vetting, and conducting other investigations on prospective international franchisees. The reality is that making money on your international operations, even if you do it right, will usually take several years. Being patient is always a good idea in selecting franchisees, and given the scope of what you are trying to accomplish internationally, it’s even more so in vetting your international franchisees.

Franchisors can expect to visit potential foreign markets many times. You will need to conduct demographic studies on population size, education, per capita income, standard of living, and religious and cultural issues. You will have to determine whether the local population will buy your products or services based on demographics in the U.S. or if those demographics are different in the local market. You must eyeball the local and foreign competitors who are in the market. Each of them and those to come will affect your potential market share, site selection, marketing, and labor and supply issues.

In selecting your international markets for expansion, the same rules of the road that you use for domestic franchising will apply. Targeted growth is far better, more profitable, and easier to manage and support than a scattered strategy. Therefore, looking at your growth opportunities regionally makes sense, because it lets you also determine what other countries in the area should be targeted for growth and in what country you should establish your support operations, if any.

Expect to meet with potential international franchisee candidates on their turf. Having the prospects come to your headquarters or for a store tour of your chain in the U.S. is also advisable. Deals usually happen after a relationship based on trust and common goals has been built. Educate yourself to be culturally sensitive – even well-meaning franchisors have lost deals after failing to truly get to know the prospect and the market.

For example, Japan’s business culture has a conservative dress code, commanding business suits and minimum jewelry. Politeness is also paramount in Japanese business meetings. Many a relationship has started off on the wrong foot simply by not understanding how business cards should be exchanged. In Japan, you should graciously accept business cards with both hands and attentively read them.

You will be selecting your international franchisee based on any number of factors, and you will want to be certain that they meet your requirements. We recommend that during the courtship process you have the international franchisee prepare a business case on themselves, their company, their market, and the economics of the business they expect to operate. Having them make a presentation to you will give you a good understanding of whether their approach to protecting and enhancing your brand fits with your needs and expectations.

 Joyce Mazero, a shareholder with Polsinelli PC, a law firm with more than 825 attorneys in 21 offices, is co-chair of its Global Franchise and Supply Network practice. Contact her at 214-661-5521 or jmazero@polsinelli.com. Michael Seid is managing director at MSA Worldwide. Contact him at 860-523-4257 or mseid@msaworldwide.com.