there, and thanks for tuning in for another episode of ask Edmonton Accountant. I’m here with Tyson and we’re discussing buying the right franchise. So Tyson, thanks for, for volunteering in the morning meeting there. So how was your, how was your Christmas? It was great. Good time with family. Yeah, just stayed in town here a yeah, and a little bit into your brothers in Hinsdale. So. So the court that comes to mind when buying rate franchises, the Mitral Gerber, the author of the myth says if your business depends on you, you don’t own a business, you have a job as the worst job in the world because you’re working for a lunatic lunatic meeting you. Of course. So this statistic that we always go to is it 50 percent of all businesses are out of business in five years, but there’s some stats that suggest that only 14 percent of franchises go out of business in five years.
Now that that sounds pretty good, but 14 percent is still 14 percent. If someone told you, you know, there’s a 14 percent chance if you drove your car home through cabinet, catastrophic car accident, you might think twice about it in business, you know, going out of businesses is kind of catastrophic. So, Edmonton Accountant, the story that we have here, you know, three women came to us once upon a time thinking they had a cat miss pizza franchise business that they were going to buy into and we dug through the information and after digging through the information, we found that the franchise or was going to charge a royalty fee that was higher than they’ve charged any other franchisees in the past. And once we applied those numbers and we applied them to the locations that we had financial data for, we found that the franchise, there was just no, no, there was no return on investment that was worth the risk.
Effectively, you know, margins are pretty small in the restaurant business and it, and a few percentage points makes all the world of difference. Um, you know, so you have to be careful when buying to these franchises. So what do you think are the questions that these potential franchise owners should be asking Tyson first? I would say, should you ever consider one franchise without comparing other franchise options? I don’t think so. Edmonton Accountant I think it’s the number one thing that they all do. We always get these business owners or prospective business owners that come into the office and they put the franchise information on the table. They’re basically say this is the one I want and they haven’t really spent a lot of time looking into any other options. Edmonton Accountant, it’s, it’s kind of like buying a house and imagine if you bought a house and you only looked at one other house, well of course that house looks good to you because the only other option is being homeless. So it looks pretty good. But uh, you know, when you’re buying a franchise there so many franchise opportunities out there, you know, you owe it to yourself to look at multiple. I would say you should have at least three considerations in any choice. When you’re deciding to buy a franchise, you should have a shortlist of three that you’re working from really being objective in that analysis. Next, I wonder, do the people giving you the franchise information get paid to sell you a friend?
One hundred percent. That is their job. They get paid to sell more franchises and if you buy, they make money. They don’t necessarily get any more money. If you succeed, they only get. Usually the person you’re talking to, it was selling the franchise gets money if you buy the franchise, which is a little bit unfortunate, but that’s usually the way it’s, it’s Edmonton Accountant, it’s worked out so they’re not a business advisor. Their salesperson and you should proceed with the, uh, accordingly that they are someone who gets paid a commission only if you buy. So their motivation might not be the same as yours.
Okay? Edmonton Accountant, should you wait until buying the franchise to do a business plan with the franchise or?
No, it’d be like starting a business without a plan. So now, and this is what they tell you, you know, you plunk down your money, plugged out your deposit, and we’ll work through a business plan with you, but by that time the decision’s already made. So what if you don’t like the business plan? What are the numbers? Don’t come out the way you want it to come out. Now, you spent your money, you signed off on the document, do you probably signed off on a lease. You’re past the point of no return here. Edmonton Accountant, so we’re not waiting. You need to do a business plan before you make any commitment to the Franchisor to see if this is, if this is right for you, okay? Edmonton Accountant, do franchise or franchise or is often create a false sense of urgency when selling the franchise?
Almost every time, almost every time I get a, a potential franchisee looking for advice, it’s, it’s this frantic call saying, if they don’t buy this franchise this week or next week, the opportunity has been to mysteriously evaporated. This franchise has been trying to sell the franchise location for a couple of years now and they want to sell as many franchise locations as possible, but if you don’t buy next week, someone else is going to buy it and they’re always working off unless, yeah, they have other prospects, but I’ll go back to a real estate offer. I mean, you know, how long does a house normally sit on the market? Right? And there’s a huge supply of potential franchises, the purchase. So it’s a very common sales tactic that these franchisors will deploy is, you know, we have very serious other purchasers who want this location, you know, if you don’t move this week, we’re potentially not going to sell even though they’d been trying to sell that franchise location for a couple of years. So sure they do have other prospects, but are they serious? Are they going to put their money or they’re going to take some time to make a good decision as well. So, uh, I would not use that as Edmonton Accountant, as a mechanism to not make, you know, good, prudent decisions and do some analysis.
Okay. Next, I wonder what size of loans would have been issued based on notice to read your statements.
I, I mean, you can get loans as it applies to franchises, you know, Canada’s small business financing is usually pretty attractive. I’m so we’re looking at usually $350,000 for the leasehold improvements and the equipment and at that point, you know, we can get those on noticed through your financials, you know, a pretty good. So Edmonton Accountant, you know, usually we’re looking at that at that limit for a new franchise, unless you have some collateral that you can put up yourself or if you have a history of success in it, you know, usually that’s the cap that you’re working with is that $350,000 for the hard assets, Edmonton Accountant, that you know, the bank’s going to help you out with if we get a favorable banker. So that’s, that should be the limit that we’re looking at here.
Okay. Why is it generally a good idea to get financial data for more than one level
occasion? So usually the franchisor is going to supply you the locations that they want you to see. Um, and you know, it’s, Edmonton Accountant, I always find it pretty curious about the ones that they don’t want you to see because you want an average, right. You don’t necessarily going to expect the worst, but you also shouldn’t expect to be the top performer as well. And it’s nice if you are, but you should be able to succeed, you know, Edmonton Accountant on an average franchise. So you know, what I like to do is to see the locations that they provide and then you’re just going to do a google search and see what other locations are kind of calming and asked for some of the locations that they haven’t provided. Let’s see the data on these. How are these locations doing? And then we can start to get a good average of how your location is likely to do and what the progression of that location is too. Because it’s not just the location, it’s how many years has been around, you know, location. Normally for one year it’s going gonna look a lot different than a location was five years in, right? So we want locations with number of years. Okay.
So do you contact franchise owners? Are existing franchise owners, uh, on your own? One hundred percent.
Don’t just look at the ones in the franchise documents. Sometimes they’ll supply you with contact information for existing franchisees. Go right to google places, call them up, do the loop. Hello. I’m looking to speak with the franchise owner. I’m looking at buying a franchise. Talk to the ones that they haven’t supplied you the information, you know, those are going to be the least prompted responses. They’re going. Generally, you’re going to give you honest responses because you know, people are, Edmonton Accountant, are normally, uh, you know, they’re good like that. Other business owners, other franchise is there. They have no motivation. If anything, they probably want to keep you out. So they’re going to be pessimistic if they’re, if they’re, if they’re, if it’s really working out well for them because maybe they want another location, uh, but they’re, you know, they don’t have a lot of motivation to hide the bad stuff that’s going, especially in a phone call or an in person meeting even better. So, Edmonton Accountant, don’t just rely on the information they give you. Call up, talk to the other franchisees.
What’s the difference between the paper and accountant prepared financials.
So generally in these a franchise disclosure documents, you’re going to get plain paper documents, so they’re not, there’s no involvement from an external accountant. These are really just the internally prepared financials and a lot of times if they’re incomplete information and then they subject to a year and just like, there’s always adjustments at the year end so they’re not quite as reliable. Um, you know, it’s a good idea if you can try to request an external accountant prepared financials for the various locations and you can start to get a little more completeness. And often we have, you know, entire categories of expenses that are excluded in these plain paper documents. Edmonton Accountant, you know, I want to say plain paper, I mean they’re just internally prepared. There’s no external accountant who’s, you know, signing their name to this document that a notice to reader or viewer engagement report.
Um, so it’s a good idea to, to ask for the external accountant prepared financials because they’re generally more comprehensive and more complete to the internally prepared ones. How can I CPA help you test the reasonability of the numbers? So we’re going to go through, we’re going to start to calculate it, you know, just like the exercise we did with those three women, you know, we didn’t just take the numbers that we gave, we read the franchise agreement and applied the royalty against the revenue. And of course we came up with a completely different number because it was a completely different royalty expense. Edmonton Accountant, but often there’s, you know, other categories that they’re going to, you know, forget about, do you know what the utilities are going to be in this place? You know, we’re going to read the lease agreement that was proposed there. Do the common area charges make sense?
Because not every, every lease agreement’s going to be the same even though it’s the same franchise that’s a different. Different landlord is a different. A property owner is going to charge you a different rate of rent. So, Edmonton Accountant, you know, we’re going to go through those numbers. The ones that you might have forgotten about, we’re comparing it to other files that we have. Is this reasonable based on other files were most franchisees are looking at it from the experience of one or two businesses. We’re looking at it from the experience of hundreds or thousands of different businesses. And do these numbers actually make sense or are they overly optimistic? Okay. Is the owner’s time accounted for fairly in the payroll numbers from the Franchisor? Generally it’s not. So generally you’re not gonna get a great indication of what the payroll number is because there’s going to be the owners or their family members who are not paid.
Fair market rates are skewing the data. An owner who is there at the store every day, we, we’re working seven days a week. It was only drawing a salary of $20,000 a year. You’re not going to be able to replace that person. So it’s really important to know, you know, how much the owner is working in the business and how much of that salary number that we’re seeing there is actually a on the, on the owner itself. And you can kind of work backwards how many staff you need on, what’s the hours that you’re open and, and figuring out, you know, what’s a fair rate for an actual manager to hire and what the real payroll numbers going to be. That’s usually one of the exercises that we go through it. It’s one of the common accounts that’s, Edmonton Accountant that’s not right. If you take the information at face value and it’s usually it’s highly material.
Edmonton Accountant, you know, they could have the, the owner of their wife and their two kids all working in the business and none of them are showing up in the payroll numbers and it looks like a great investment. But unless you have a team of four slave laborers, it’s not going to be a good investment for you. So that’s one of the things you look out for. If you want to customize too many franchise processes is a franchise right for you? Probably not. That’s the whole value of the franchise is they figured out the system is for you. So rather than you trying to reinvent the wheel, you can just hit the ground running and hit the ground executing. Now some people like that and some people think they’re going to like that, but in reality they want to start from scratch and now you’re starting from scratch.
So yeah, it gives you more flexibility, but that’s going to take more time. So if it’s gonna, take more time. Why burden yourself with the franchise cost and the royalty fee if you’re not going to use it. Edmonton Accountant, and it’s the same thing if you don’t want to use it as sometimes it’s just incomplete. So sometimes their training documents in their processes aren’t, you know, they’re not good enough for you to completely execute and you’re going to have to make stuff up as you go along because they don’t have processes for all the situations or run into like hiring or restocking the shelves. So, you know, if you, if you’re going to deviate from the franchise processes where they don’t have processes to address the situations, I’d probably want to move on from there and consider starting a business from scratch or another franchise that has processes that are more in line with the way you’d like to do business. So I think that’s all the time we have here today on this episode. So, uh, you know, as always, feel free to leave any comments in the comment section below and we’ll address anything you haven’t in any future videos. Thanks very much.