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Can Rapid and Area Development Growth Be a Red Flag?

Well‚ I can’t overgeneralize here but I do want to discuss an important point related to some high profile start-up franchises that are aggressively pursuing growth. Seems to me that certain start-up franchises that are run by some extremely experienced and competent franchise professionals have adopted high volume growth strategies. That is‚ they set up a few locations and then they sell significant area development rights to multiple area developers and then the area developers go out in force and pursue volume franchise sales in their territories.

For some of these “high flyers” what I have seen in their income statements and balance sheets are assets and revenue that‚ in large measure‚ is derived from the sale of area development rights and not royalties generated from unit sales. Now there is nothing wrong or improper about this except as a prospective franchisee – someone considering the purchase of one of these franchises – that you do need to proceed with caution and view this rapid expansion strategy as a “potential red flag” that requires scruting.

So your task – if you are interested in one of these high flyers – is to scrutinize this growth issue and evaluate:

  • Whether or not the franchisor is too focused on selling development rights. That is‚ does the franchisor view its “real business” as selling development rights as opposed to establishing‚ sustaining and supporting a franchise system that will support your individual franchise.
  • Are the “area developers” qualified to support the franchisees in their territory. Sure the area developer will be responsive during the “franchise sales process”‚ but what happens after that? Are other franchisees satisfied with the support they have been receiving?
  • Is the Franchisor “over-expanding”? Sure selling franchises is fun but will they have the capacity to support you and the many other franchisees that will be coming on-line in the next few years.

Look‚ growth and expansion is not a bad thing but if you are evaluating one of these “high flyers” you need do your homework‚ contact existing franchisees and ensure that your lawyer negotiates a franchise agreement that protects you from encroachment.

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By Charles Internicola February 4, 2014

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