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5 Early Warning Signs of a Troubled Franchise System

For many people, the prospect of being an entrepreneur and owning their own business is an exciting one. Investing in a franchise provides a sense of security, knowing there’s a business model in place and other franchises have been successful with it.

Franchise businesses employ 21 million people and generate $2.3 trillion of economic activity. A new franchise business opens every 8 minutes of every business day. While these numbers are compelling, potential franchisees need to do their research on the brand they plan on investing in and highlight any warning signs. The problem with most franchisee failures is that both franchisors and franchisees overlook the early warning signs. Five warning signs of a troubled franchise system include:

1) Cultural Issues Within the Franchise Business

Do franchisees feel the value of the tools and support they receive outweigh the dollars they invested?

In the franchise community, a clear culture is essential to a franchise brand’s long-term success. When franchisors don’t have franchise experience and don’t understand what a franchise model looks like, something is wrong and cultural issues can occur.  

A franchise brand relies heavily upon a positive culture as the key to long term survival and success. Because an organization is made up of many very different individuals in different locations, all running their own business as independent owners, a strong, clear, and positive culture will be the backbone to the team’s success and, therefore, the brand.

Many franchisors assume that their franchisees and business owners will automatically support the franchise like they support their customers (i.e., they think they will be able to deal with a franchise the same way they deal with a customer). However, franchisors with a strong, inclusive, collaborative, franchisee-friendly corporate culture will attract more sophisticated and talented franchise candidates with more likelihood for success.

2) The Franchise System Isn’t Scalable

The beauty of franchising is that it enables businesses that are typically not scalable to scale. In fact, franchising a business is the ultimate form of scaling a company. Of course, developing a successful franchise system isn’t as simple as training salespeople or employees to succeed within a single organization.

Often, business owners get so caught up in mastering their daily operations that they are unable to dedicate adequate time to grow their business to its true potential.

Many franchisors think they can build a scalable franchise system with their existing systems and processes. However, those systems and processes are designed for a single operation vs. multiple operations. When they try to track additional operations and franchisee performance vs. corporate store performance, they don’t have the integration. They can’t get the metrics and insights they need and haven’t built their internal capabilities to scale. It starts to stress the internal operation and causes moral issues with the team.

3) Lack of Company Leadership

The skill and mindset required to train a franchisee to operate an entire company on their own requires skill and patience. The franchisor often doesn’t have the leadership capabilities to build the franchise system. The leadership has been focused primarily on building the internal business; it takes a different set of leadership skills to build a franchise business. 

Franchisors have a responsibility to support their franchisees, providing them training, advice, and other types of assistance. If the franchisee/franchisor relationship is bad or the franchisor isn’t providing needed support, the franchise is much more likely to struggle.

A franchisee is a business owner and a partner (i.e., an internal client). The founder likely hasn’t experienced having internal clients don’t see their business as having internal clients, only external clients and employees. They treat their employees one way and their external clients another way. Now, there’s a third scenario with a whole different mindset. 

In many ways, franchisees are like children who need to be managed and led in ways that take a lot of emotional energy, time, and experience to build. The founder gets frustrated, angry, overworked, and overwhelmed, causing stress and tension rather than how they initially thought of franchising: “I can make a lot of money and have other people do what I’m doing in other markets.”

4) Insufficient Capital and Cash Flow

Cash flow is the lifeblood of every business, and franchises are no exception. Struggling with a day-to-day cash flow deficit puts a strain on any business and limits growth. 

If a franchisor is undercapitalized and doesn’t understand what it takes to invest appropriately in the franchise system, there is a risk of running low on cash. It takes a great deal of money to invest in a franchise system, and some franchisors underestimate how the business model will actually look.

It takes money to onboard franchisees and provide marketing support, and franchisors think the initial franchise will cover the expenses, but it doesn’t always. Excessive expenditure, especially on business development, can have a negative impact. This can happen when you purchase expensive assets, hire the best talent, or move into a larger office space. 

5) No Franchise Validation

Franchisees are initially excited about the brand, product, leader, etc., but if they don’t deliver the required economic performance, they become angry, frustrated, and discouraged. The franchisor doesn’t get initial traction or validation from their first few franchisees.

When a franchisor is working to recruit new franchisees, franchise prospects talk to the existing franchisees. This process is known as “franchise validation.” The #1 reason that prevents franchisors from selling more franchises is when existing franchisees don’t validate well — they don’t speak highly of the franchise in what they say and how they say it (e.g., nonverbal cues). It is a major red flag.

If a franchise system does not provide the required level of support and gets the needed results, it won’t be successful. In a successful franchise system, there is open communication between franchisees and the franchisor.

Buying a franchise is a major life decision. Due diligence is incumbent upon every prospective franchisee to thoroughly explore a franchise opportunity before signing the agreement. Unfortunately, if franchisors don’t have the support systems in place to intervene when these early warning signs emerge, franchisees will fail.

About EmmerScale

At EmmerScale, we help emerging franchise brands scale effectively. Our experienced consultants have the leadership horsepower and proven systems and processes you need to successfully scale your franchise.  Schedule a free consultation call to learn how we can provide clear direction and set you on the right path forward.

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