CAN YOU AFFORD IT?

When looking into buying a franchise, you need to consider not only the set-up costs but also whether you have enough resources to move ahead.

The costs you need to consider when you decide to buy a franchise.

It is surprisingly common for people to set their heart on buying a franchise then discover they cannot afford it – often after investing a lot of time in their franchise research. To avoid disappointment and wasting your time, first think through whether you can afford to buy the franchise that has caught your attention. When it comes to buying a franchise, three things determine whether you can afford it:

• The cost to set up the business

• Your ability to finance the business through a combination of your own money and borrowings

• Whether you can live on the income from the business

Set-up costs include all the expenditures needed to get your franchise business open. There are two broad categories: tangible costs, which are things you can see and touch, and intangible costs, which are associated with intellectual property and know-how. Early in your franchise investigations it is a good idea to find out how much these add up to so you can then consider whether the set-up costs are within financial reach for you.

The tangible set-up costs include fitout of your premises and the equipment you will use. For a mobile franchise they include your vehicle. You may also need to cover the cost of stock for sale. If you buy a home-based franchise, tangible costs include the cost of office equipment, computers, phone and any specialised equipment.

Intangible costs include the initial franchise and training fees. Depending on your franchise, there might also be an initial marketing contribution, project management and design fees.

These two groups account for the bulk of set-up costs for most franchises. However, you are also likely to encounter several other costs as you prepare to open for business. These include rental bonds

by Kate Groom, SmartFranchise

for retail locations and contributions to legal costs of the franchisor. You are also likely to need some working capital for the business, for instance to buy stock or to finance customer credit.

DISCLOSURE DOCUMENT

So how do you find out what these costs add up to? Franchises must detail these in the disclosure document. Ideally you will obtain this document early in your investigations, but even before receiving it you can ask for information from the franchisor or new franchisees.

New franchisees often incur extra costs while setting up. These might be for sundry items or equipment replacement if someone is buying an existing business. So it is a good idea to ask recent franchisees if this happened to them, and make allowance in your calculations.

You might find it helpful to compile

your own summary of the main costs and any relevant notes. Compiling a table will help you gain a realistic picture.

The set-up costs are not the only factor that will determine whether you can afford a franchise. There is also the question of what you will live on while the business gets up and running.

To help you with this assessment, there are two important questions: 1. What are your monthly living costs? These include rent or mortgage payments, food and living expenses, school fees, travel, insurance and so on. As part of going into business, you may have to live on less than before, particularly if you previously had a well-paid job.

2. How long will it take for the business to generate enough monthly revenue to pay you? Remember, the business can pay you only once the income exceeds the business expenses, including loan repayments. In most cases, it takes time to build up the sales to this point.

Once you know how much money you will need to put aside to cover your living costs during the start-up phase, you will need to determine where that money will come from.

Knowing what the franchise will cost is just the first step. The next is to work out how you will pay for it. In other words, can you afford to buy the franchise. In any franchise you should expect to invest some of your own money. It is unlikely you will be able to start a business unless you have a combination of savings or home equity to contribute toward the cost of set-up. So, now is the time to work out how much of your own money you have available.

Of course, the first and most obvious source is money you have saved, as in a bank account or a windfall such as a redundancy payout or inheritance. It might also include savings you have put aside as extra mortgage payments. Occasionally, people take on a business partner to help with finance. You might find it helpful to note down how much of your own money you have available.

BORROWING MONEY

Borrowed money can also help fund your franchise. This might be in the form of a bank loan or leases for equipment.

It can be tricky to gain a sense of how much you can borrow to finance your business, but ask the franchisor what financing options are commonly used and whether they have arrangements with equipment finance and leasing companies. When people approach us at SmartFranchise for advice, we direct them to finance experts who can give them pointers on possible sources of finance suitable for a franchise.

When you seek to borrow money from a bank, it will usually want some form of security. Sometimes a bank may be prepared to lend against a business, but more often they want bricks-andmortar security. They also need to satisfy themselves you will be able to repay the loan from your income.

ALTERNATIVES

Even if you can afford to finance the franchise set-up and your living costs while the business starts up, you need to ask yourself if you can afford to live on the income from the business for the life of the franchise. This means you will need to compare your living costs and financial aspirations with a realistic assessment of what you can make from the business. For instance, if you really want a private education for your children, can you see the business being able to provide you with enough income for this? Owning a business is more important for overall family priorities.

It might be that for a couple, one partner runs the franchise while the other is employed elsewhere. This might allow you to enjoy the benefits of owning a business while having the security of paid employment to cover some of your household costs.

What if you find the franchise is out of reach? There are always alternatives, so do not despair. Perhaps you can spend a couple of years saving more money or look for a different business. You might consider going into business with a partner.

By taking a methodical approach to assessing whether you can afford a franchise, you will improve the quality of your due diligence and lessen the chance of falling at the final money hurdle. It also reduces the risk you will find yourself committed to the franchise and overstretched financially.

The set-up costs are not the only factor that will determine whether you can afford a franchise. There is also the question of what you

will live on while the business gets up

and running.