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Franchise Prospector » Money & Financing
Making Sense of the Franchisor's Financial Statements
Money & Financing
When purchasing a franchise today, it is crucial that the investor be able to determine whether or not the company is financially stable, growing and able to be relied upon for quite some time in the future. Before diving into a business endeavor, the savvy entrepreneur should be very careful about choosing a company that will deliver a substantial return on his or her initial and ongoing investment. While there are basic, common sense financial signs to look out for - rate of growth for the company, net earnings for individual existing franchisees, quality of ongoing service, etc. - one of the most important aspects of the investigative process should include a careful reading of the government-required data.
Presented to the potential franchisee, the Uniform Franchise Offering Circular (UFOC) is a form that includes various items pertaining to the franchisor's financial status and the history of its earnings over the past few years. By knowing how to read the particular items listed here, an investor can make a much more informed decision when he or she finally takes the plunge. It is important, however, to know the benefits as well as the disadvantages of the UFOC before using any of its listed information.
First of all, one of the most popular places to look on the UFOC is item 19. This is essentially the place where everyone's eyes immediately scan to in hopes that information about a franchise's potential earnings is included. Unfortunately for many, nearly three fourths of all franchisors do not take the time to fill this section out. This is due to certain historical factors which make it more difficult - and less desirable - for the company to disclose such figures. Regardless of whether or not item 19 is filled out, however, there should be plenty more information for the investor to go on.
By taking a look at item 21, for example, the entrepreneur can view the balance sheets going back two years into the franchisor's history. In addition, the past three years of cash flow and earnings statements should be included here. Even the equity of stockholders can be found in item 21. But don't only look at the numbers. Indeed, since this is a government-mandated document, there are various letters from the qualified auditors which go along with the figures given.
While the numbers may elucidate certain features of the company's accounting, the letters written by the CPA's in conjunction with them can paint a much more revealing picture. Therefore it is important to read the opinion letter and the extensive comments made by the CPA's. Essentially, this will tell the potential investor if there are any areas of long term trouble that could bode poorly further on down the road. Also, look over the balance sheet a few times to get an idea of how much net worth the organization currently has. By determining the amount that the company needs to pay out to all of its vendors, markets, and other franchisee, try to determine whether or not the franchisor has what it takes to keep everyone in business.
Even if the numbers look fine, try to find out where they're coming from. For example, do franchisees do well everywhere, or only in specific locations? Are they all abroad or here in the United States? Check out how the franchisor makes its money. If it's from royalties, make sure that the figure is increasing every year. Upon a request from the individual investor, the blanket term "franchise fees" can be further explained so that all earnings that the company takes in can be clearly spelled out. Requesting this information helps investors develop one of the clearest pictures possible about how well the company is really doing. If the curve is not bending upwards, then the investment is probably not a good one.
Now, it should be mentioned that there is good reason for such close scrutiny from the individual investors. While the UFOC is a useful government requirement enacted in response to franchisors' false claims about possible earnings, it is not the perfect solution. That's because, in many cases, the form is not even checked up on by the government. Essentially, it is an informative tool from which the entrepreneur can gather certain pieces of crucial data.
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