November 29, 2005
Posted by Gordon Smith

The cover story in the December issue of Fortune ("Risk Reward") is on franchising. Here is the provocative theme: "The scant research that exists suggests that, as risky as starting an independent business is, buying a franchise is an even bigger roll of the dice." The article paints a pretty dreary picture for franchisees:

[B]uying a franchise too often ensnares would-be entrepreneurs in the worst of both worlds: You get all the financial exposure, headaches, and stress of business ownership—but someone else collects royalties on every nickel that comes through the door, not to mention fees for marketing, fees for this, fees for that, more fees for anything you can imagine (and some stuff you can't); and all the while, the franchisor dictates virtually every detail of what you can do, including what kinds of signs you can put up, how you price your wares, how much overtime you can pay your employees, and who'll be your suppliers. Violate the agreement, even in some tiny particular, and the franchisor can—and often will—snatch your franchise back.

I once taught a student who had been in franchising, at times as a franchisor and at times as a franchisee. After he graduated and formed his own law firm, I asked him, "If someone came to you with an idea for a franchise, how would you advise them to proceed?"

"Stop. Don't proceed. Find another idea."

To be fair, I have spoken with many franchisors and franchisees who love their businesses, and in certain industries (fast food being the prime example), franchising has made many people quite wealthy. Franchising may be more treacherous than starting an independent business, but I suspect that the reason failed franchisees are so outspoken is that they develop a sense of entitlement from the payment of the franchise fee.

The perception that a franchised business is a "sure thing" is enhanced by the disclosure that accompanies franchise sales. Although franchisors are every bit as vigilant at paying lip service to risks as sellers of stocks and bonds, the message does not always penetrate the eager franchisee's brain. Instead, they see projected earnings and imagine themselves as successful, independent entrepreneurs. The law reporters bear testimony of failed dreams. Franchise disputes are common, despite elaborate contracts. The bottom line is that franchising is a tough business, from both sides of the table.

Thanks to Marc Shuman for pointing me to the article.

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