Franchising World June 2012 

By: Heidi Ganahl

Due to uncertainty in the job market, many people have decided to think about starting a business of their own.  The opportunity to be your own boss and work in an industry you love is an exciting prospect, but it can also be challenging.  In light of this notion, many entrepreneurs have turned to franchising.  A franchise business model enables people to own their own business, but typically has proven systems in place to speed the learning curve into entrepreneurialism. 

With the economic downturn, the housing bust and the banking crisis, the ability to obtain financing to open a franchise business in 2009 and 2010 became extremely difficult.  The lending climate has gradually improved over the past year and half, and depending on the cost of entry for a particular franchise concept, there are several options where franchisees can turn to help fulfill their dreams.  U.S. Small Business Administration’s 7(a) loan statistics in the chart below highlight the drop-off in loan volume from 2007 and the ensuing rebound over the last two years:

Lower-cost franchise concepts have had success with using retirement funds, home equity loans, investors, equipment leasing and various types of business lines of credit.  SBA loans for a start-up franchise unit less than $100,000 have been slow to come back.  Many lenders are focusing on larger SBA loans simply because processing a smaller loan takes the same amount of time as a larger loan, and banks are trying to conduct more business with fewer people.  SBA is currently working on simplifying this process for the lenders, with a goal to increase the lender’s appetite for smaller loans. 

Strengths of the Franchisor
For higher point of entry franchise concepts, SBA loans have become increasingly popular.  The International Franchise Association has gone to great lengths to educate SBA and SBA lenders on the benefits of franchising.   The franchisor and franchisee have an ongoing relationship, and the franchisor often provides a full range of services, including site selection, training, product supply, marketing plans and ongoing operational assistance.  This support provides the lenders with comfort that the business owner is not on an island.  Given that SBA loan volume to franchises has increased, it appears IFA’s advocacy, combined with the improved economy, have positively influenced the ability to obtain loans. 
Most of the national and regional lenders are placing more of an emphasis on the strengths of the franchisor.  Some common points of evaluation are: 

• How many units does the franchisor have?
• What is the turnover rate?  What is the failure rate?
• How do the corporate financial statements look?  What is the average unit volume? 
• What type of support does the franchisor provide to franchisees? 
• Where does the product fit in the marketplace? 
• Will the franchisor help or have the ability to help in some capacity to limit lender losses? 

Most franchise systems do not meet the stringent criteria mentioned above, and are having better luck with smaller banks.  Camp Bow Wow, North America’s largest pet care franchise, is a prime example of this shift.  The company experienced significant franchise growth up until 2009 when its new unit growth came to a halt.  During this time, many of its system franchisees lost commitment letters from the larger national lenders, and local lenders were busy trying to figure out their own internal balance sheets, so they, too, were unwilling to lend.  Due to the inability to meet the new credit standards, the franchise was unable to open new “Camps” (individual franchise locations), despite hundreds of interested leads coming in each month. 

While seemingly frustrating, the slowed growth experienced in 2009 actually enabled the franchisor to slow its pace and focus on optimizing franchise unit revenue and profitability, 17 percent year-over-year growth in 2010 over 2009, and 19 percent in 2011 over 2010.  The new goal became pushing revenue and profitability numbers to attract a more sophisticated investor that didn’t have issues with financing dog lovers with fewer financial resources. The pet industry held its own during the recession with a growth of around 8 percent annually, as well.

In early 2010, with the help of Funding Solutions, a consulting company that specializes in financing for franchisees, Camp Bow Wow changed the financial qualifications for prospects in an effort to satisfy the underwriting criteria of the lenders, specifically, SBA lenders.   Since 2005, Funding Solutions has assisted with the financing of nearly 80 Camps all through SBA loans.

Most of the national and regional lenders are placing more of an emphasis on the strengths of the franchisor.

Most conventional lenders tend to look for loans that are fully secured and often have a difficult time getting comfortable with start-up businesses.  As Camp Bow Wow’s total project cost is close to $525,000, and only $100,000 in hard assets, SBA has proven to be a very effective financing tool for this company’s concept.   However, even with the assistance of the agency, 2009 and 2010 financing for company franchisees was extremely difficult.  Essentially, it was a perfect storm: home values significantly declined, greatly reducing the collateral.  The stock market dropped considerably, reducing the liquidity necessary for down payment on the loans, the economy was in a recession, and the lenders were concerned that franchise customers would not have the discretionary funds to use this type of facility.  No one knew when it would bottom out, therefore, the banks were extremely cautious.

Now the stock market has rebounded, pet industry statistics have shown positive growth over the past four years, home values have leveled off, and Camp Bow Wow has shown incredible year-over-year same store growth. SBA lenders have taken a keen interest in financing new Camps.  In 2011, Funding Solutions completed the financing for seven Camps.  Only two of these loans were done through national lenders, which is a dramatic change from pre-2009.  Local lenders are becoming more and more active in the SBA arena.

Selecting a Loan Consultant
Potential franchisees need all the support they can get when looking at SBA financing.  Finance consultants that specialize in franchise financing can help navigate the lending alternatives and the financing process.  There are several important items to consider when selecting a loan consultant to work with a brand:

• Knowledge of the franchise industry.
• Knowledge of the business  model, capital requirements and the franchise culture.
• The consultant’s ability to integrate into your sales process, and to adapt with changes in the process.
• Great communication skills with both prospective franchisees and the franchisor.
• Knowledge of the strengths of the brand and the ability to communicate them to various funding sources to successfully place financing.
• The ability to anticipate problems and avoid hiccups during the closing process.
• A firm understanding of different funding options.

There are several ways to finance a franchise project, including:  gifts or loans from family or friends, financially sound partners that can boost their financial situation, landlord contributions to tenant improvements, equipment leasing, self-directed retirement programs,  conventional loans and SBA loans.  When assessing the different ways of financing a project, it is important to determine that all costs are covered, the resulting loan payments can be comfortably repaid  and if bank financing is going to be used, ensure the lender is fully aware of all sources of money and repayment terms in the beginning stages of underwriting.

Creativity is the name of the game these days, along with having a sound business model to pitch to the banks.  Those franchise systems that have weathered the storm and managed to grow despite a rough economy and lending environment are leading the way back to franchise industry growth. 

Heidi Ganahl is the founder, president and CEO of Camp Bow Wow. Ganahl created the Bow Wow Buddies Foundation, a non-profit organization dedicated to improving the lives and health of dogs.  She can be reached at info@campbowwow.com.