Opening a New Franchise Location--Part 1, Financing

You’ve made the decision to take the next step in your career and open a franchise. No matter which of the more than 230 industries represented by a franchise, the process for opening can be fairly similar. From getting funding to finding the right site to training your crew, there are common steps that most new franchisees must go through to get their business up, running, and successful.

The economy is still a very mixed bag in the eyes of many, and many aspects of opening a franchise have changed in recent years, probably for the long run. Whether you are a seasoned franchisee or new to the world, this 6-part series will help you navigate the process. We begin with financing. Future articles will dig into real estate and site selection, construction, permitting, training, and marketing.

Part 1: Financing

Franchise options exist for just about every budget, from super low-cost vending machine options to name brands known throughout the world. No matter what route you can afford, once they’ve signed a franchise agreement, most people will need to begin their journey by finding financing. The top four sources of funding a franchise are:

•  Small Business Administration (SBA) loans
•  Financial investors or partners
•  401(k) rollovers or home equity (HELOC) loans
•  Franchisor financing

The SBA’s role is to support startup businesses, including franchises. For many entrepreneurs, this is most likely place to find financing. While you can try to get a business loan through a conventional non-SBA lender, it has always been much more difficult, and it is even more so now with interest rates up and lenders tightening their loan requirements.

The second option—money from an investor—is a route that some take. These financial partners may be family members who choose to invest in your business. No matter who your investor is, sharing the burden of financing can be helpful for a franchisee starting out. The downside of this, however, is that you will have to share your profits, and possibly some level of control.

A third way is through more nonconventional means, such as a home equity loan or a loan against retirement savings. For many, this may feel like the easiest way to access money, since it doesn’t require a lender’s approval or sharing profits down the road. The drawback is that you are risking your home or your future retirement if your franchise doesn’t do as well as you’d hoped.

Finally, some franchisors will provide funding options for potential franchisees. The franchisor may have a relationship with a financial institution that allows them to offer good rates and a better chance of approval.

Times have changed

Financing a franchise has changed in recent years, something both new and existing franchisees must be aware of before setting out to open a new location. Carty Davis, a partner with C Squared Advisors, a boutique investment bank, says that the last couple of years have been as difficult as any he’s seen in 30 years of financing and franchising.

“The run-up of interest rates has been dramatic and hard to handle,” he says. Also, he finds that more banks today are saying no to loan requests. “People are paying more for capital and finding it harder to get.”

Davis advises franchisees to understand that everything takes longer these days. “It’s just a function of more scrutiny in underwriting, so borrowers need to go into the process with their eyes wide open and understand that lenders will have more questions. It’s incumbent on the borrower to have their ducks in a row. Preparation is paramount.”

Finally, Davis strongly encourages anyone applying for a bank loan to be completely up front about any issues. “Disclose anything that could be construed as negative,” he says. “If you disclose it and deal with it up front, you have a better chance of getting your loan approved than if you don’t disclose it and the bank finds it out.”