How Much Can I Make in Franchising?

By Michael H. Seid, Joyce Mazero

Prospective franchisees want to know how much money they will make if they invest in a franchise, and who better to tell them than the franchisor? Although prior to the recession that began in 2007 only 25–30 percent of franchisors provided a financial performance representation (FPR or earnings claim as it used to be called), in the past few years, the number of franchisors providing an FPR has grown substantially and approximately half of all franchisors do so today.

Providing a financial performance representation is the only voluntary disclosure, and there are a number of very good reasons why some franchisors don’t include an FPR in their disclosures. What should a franchisee do if the franchisor doesn’t provide one?

  • Speak to the franchisees that are in the system and those that recently left. After all, current franchisees have the most accurate information on how well their locations are performing and how well the franchisor is meeting its obligations. Former franchisees can explain to you why they left the system and how well the franchisor treated them as they left — an important indication of how the franchisor manages the franchise relationship.
  • If the franchisor is a public company, review the reports it makes to shareholders as required by the SEC. These reports contain information that is not required by the FTC but that is required by the SEC.
  • Search for information on the Internet. Even though a franchisor may not be providing a financial performance representation to you, information about the company may be in articles you find on the web. You will also be able to gather information about the competitors of the franchisor and about the franchisor’s industry.
  • The FDD contains a fountain of information that, when used in conjunction with the information you develop from other sources, can be useful in developing your financial projections.
  • Examine the franchisor’s financial statements contained in the FDD for information on company-owned unit performance.
  • Look at the information in Items 5 and 6, the initial and continuing fees, to see whether the franchisor has included any formulas that may be useful to you.
  • Examine Item 7, the initial investment, and the notes that follow the investment chart. Besides telling you the approximate size and type of location of the franchise (from which you can determine what your local rent will be), it often gives you information on the amount and type of staff you will need, the frequency with which the inventory of locations is sold and replaced (inventory turns), and how the franchisor calculated the disclosed estimate of working capital.
  • Item 8 has information regarding the required purchases and the percentage of a franchisee’s initial and continuing operating expenses they represent.
  • The franchisor can provide you with unit cost information so long as it doesn’t link that information to unit sales. Cost information alone is not considered a financial performance representation, and franchisors don’t need to include an FPR in order to provide this information to you.
  • If the franchisor has locations it is offering for sale to franchisees, and those locations are in markets you may be interested in, it can share with you information on the historic performance of those locations. Although you may have your eye on starting a new location, you may find a great opportunity to buy an existing one. But a franchisor won’t show you information on locations you are not actually interested in purchasing.

If the franchise seller or broker provides you with information on unit sales even when the franchisor does not include that information in their FDD, you should be wary. Don’t rely on that type of information in making your investment decision and consider notifying the federal or state regulators.