Business Franchise

I’m opening a new category in my blog speaking about the franchise and small business law. During all that time I was writing my articles I was choosing between a wide topic of small business and narrow topic about franchise. If you read my blog you can easily see that many times if was very difficult for me to make this choice.
  Looking back I realize that very often I start my article about franchise but can’t stay focused on it. I really hope that nobody will find a big problem in it. I like both topics and both concepts because both of them play a tremendous role in the world economy and both of that spheres involve ordinary people who managed to achieve something in their lives and every day impact the development of our society. I want my site to help these people to operate better. And I want newcomers to make it easier, faster and more successful.
 The proverb says that it’s much wise to learn by somebody’s mistakes but not by your own. And I believe that my new category will be helpful.

When I started my blog more than two months ago I wanted to discuss a franchise as one of the most developed form of business in the United States. But I never knew that it is SO DEVELOPED!
I found an interesting statistics that proves this.

• A new Franchised Business opens somewhere in the United States every 8 minutes.
  
• 75 industries use franchising to distribute goods and services to consumers.
  
• Franchised Businesses provide goods and services worth $624.6 billion per year in the United States (2001)
  
• There are 767,483 franchised business establishments in the United States (2001).
  
• Franchised Businesses provide over 18,000,000 jobs in the United States (2004 estimate)
  
• In the United States more than 40% of all retail sales come through franchising.
  

After realizing that facts I’m even more surprised thinking about countries (many of less developed countries and former Soviet Union republics) that even have no franchise legislation and that don’t develop that business… I have no idea why this can happen…

Usually people finance their franchise business from different sources. Applying to the SBA (Small Business Administration – one of the main government agencies supporting small business) you can avoid that rule. They finance or guaranty only if the prospective owner also invests his personal money.
 So this rule limits the opportunity to get a credit financing on the one hand. But on the other hand it helps the prospective franchisee to choose what expenses to cover himself and what to finance on a credit basis. Let’s distinguish the eligible and non-eligible purposes according to the SBA.
 

“Good” purposes
1. Capital investment
Capital investment is rather broad concept and can include (but not only) the following:
-to purchase land or buildings,
-to cover new construction as well as expansion or conversion of existing facilities;
-to acquire equipment, machinery, furniture, fixtures, supplies, or materials for construction;
2. Operational financing
Operational financing is used for current business purposes like buying raw materials and inventory, paying of accounts payable, seasonal financing, contract performance, construction financing, export production, and for financing against existing inventory and receivable under special conditions and so on.
3. Buying somebody’s business (no comments)
  “Bad” purposes
1. Financial transactions
Like in the situation with capital investment this purpose is very broad one and may include:
- refinancing existing debt (especially in the situation when company had no sources to pay it back and these sources don’t appear after refinancing);
- financing change in ownership or part of the ownership;
- repaying delinquent state or federal withholding taxes or other funds that should be held in trust or escrow.
2. Non sound business purpose (for the SBA)
 The last thing to say: even if your business meets all of these criteria it doesn’t guaranty that you will get the money. Unfortunately…

The first thing to think about is type of business. When they say “TYPE of BUSINESS” they mean a lot of different factors.
On the one hand they say that almost every small business company can apply for the SBA loan. On the other they carefully evaluate the company’s current and prospective activity. The general evaluation criteria include:
-to be the US resident;
-to get financial resources from other sources too, including personal savings;
-to operate for profit (the SBA does not work with charitable, religious, or other non-profit or eleemosynary institutions, government-owned corporations, consumer and marketing cooperatives, and churches and organizations promoting religious objectives)
 
What about franchises? They are eligible but only if franchisee makes financial decisions independently (the situation when franchisor deals with accounting and financial management is the first sign that franchisee will not get financing or guaranty from the SBA).
 
Speaking about business sphere I need to say that they can be divided into 3 groups:
I. Completely eligible (those not included into groups II and III)
 
II. Eligible with some limitations or restrictions
1. Businesses in agricultural sphere and farms. They can get financing and guaranty from the SBA but government wants them to turn to the Farm Service Agency (FSA) and check their financing and supporting programs first. It’s rather logical, I think…
2. Business in fishing sphere. It’s the same situation as in agricultural sphere. Government wants them to contact their specialized organization first - the National Marine Fisheries Service (NMFS), a part of the Department of Commerce.
3. Businesses in medical sphere (hospitals, clinics, emergency outpatient facilities, and medical and dental laboratories, convalescent and nursing homes). They are eligible if they have a proper medical license from the appropriate government agency.
 
III. Not eligible business.
There are some business spheres that are not supported by government programs in general and by the SBA program in particular. But I need to say that in my mind they are not associated with franchise business (maybe except some spheres in gambling…). They are:
1. Any form of illegal business (no comments)
2. Real estate investment. As I understand it doesn’t mean that government dislike that form of business or consider it something worthless. It’s rather reasonable as investment business consider real estate as a something short-term, as the object of business, but not capital or factor of production. And it conflicts with the main idea of small-business loan programs of the SBA – to help buying long-term assets to be used in production of goods or providing services.
3. The same relations exist toward other speculating activities (firms getting profits from fluctuations in price rather than through the normal course of trade). Also I can state that such types of business is too risky for the government as I think…
4. The companies that do not produce goods or provide services (companies dealing with money – financial institutions, banks, insurance companies on the one hand and gambling companies like casinos on the other). I think that they can easily survive without government support …
 
What else do you need to consider in order to become eligible for the SBA programs except types of business? You need to present for what purposes you are going to use that money. Read my next article to learn what purposes are OK and what are not…

When a person starts his own business trying to realize the dream of the whole life usually it has little in common with a franchise business. I mean that in most cases people don’t dream about buying somebody’s idea but want to do something invented personally. So in this situation the prospective businessman usually follows these steps (generalized plan):
1. Create a business plan (including all necessary pre-researches)
2. Calculate the necessary investment
3. Evaluate personal savings
4. Turn for a credit
5. Start a company
 
But when you are buying a franchise you may have two variants of behavior to choose from. Just think this over! If you don’t have a special franchise preference (maybe your friend’s or your relative’s one) you can choose an idea that has the best opportunities to get external financing. In this case your strategy can be something like this:
1. Compare different credit programs (provided by banks, business associations, other financial institutions) and write the list of eligibility criteria.
2. Choose the franchise idea according to those eligibility criteria.
3. Create a business plan (including all necessary pre-researches)
4. Turn for a credit
5. Start a company
 
As I understand in the second variant you have much better opportunities to be financed externally, to start your business faster and to take a loan with lower interest rate and better other conditions. It seems for me that it’s worth of it.

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Writing about the SBA loans for new and expanding small franchises I met the list of public goals. It was said that in order to get a bigger credit your company needed to meet some of these goals. Some of them are easy to meet; the others are difficult not only to meet but also to prove that you can do it. But one of them has attracted my attention – when small franchise business is trying not only to earn money or to help in achievement of personal goals of its owner but helps those who can take care of themselves. I’m speaking about those whom we usually call “disadvantaged individuals”. This article is devoted to them and their ability to participate in business and in life in general by entering franchise system.
 
In general there are two different points of view regarding disadvantaged individuals. The first group of people thinks that it’s better not to attract attention to them at all. They say that this will disgrace them and hurt their pride. The people with the opposite opinion believe that we need to do as much as possible to help them; we need to create the special conditions in every sphere of life and business is not exclusion. As for me I’m somewhere in between these two extremes. And speaking about franchise business I think that there must be created some preferences for such group of people. And these preferences have to be results from the obstacles that disadvantaged individuals face.
 
Below I write about that obstacles and the way to decrease the influence of them on the disadvantaged individuals while starting their franchise business.
 
1. Obstacle: Little knowledge in franchise sphere. This problem is divided into the several sub-problems.
1.1. Availability of information about franchise concept in general. Many of that people have very little or even no business knowledge. As most of them have at least one problem concerning communication (reading, watching, hearing and so on) they get the information from doubtful sources – their friends who are not in business, relatives or neighbors. As I think the society has to create some means of information to provide reliable, trustworthy facts about advantages and disadvantages of franchise business, opportunities and special programs for the disadvantaged individuals. These means of information has to be technologically different to cover as many of such people as possible.
1.2. Sufficient background necessary to understand, to manage and to operate a small business franchise company. This obstacle includes not only general information but also real business skills. I want to mention that disadvantaged people are very vulnerable and they may consider ordinary business problems as their personal failure. I think that the role of the society in this case is to help them to avoid those problems. Maybe we can think about some business incubators or services of special consultants for franchises managed by disadvantaged individuals (financed by the money of franchise associations and small business organizations).
 
2. Obstacle: Ability to compete with non-disadvantaged franchisees. This problem can be characterized as psychological even more that economic or medical. Some of such people consider themselves incapable to start something themselves. But if they see the results shown by those who are in worse conditions they can cheer up. I suppose this to be the main role of the society – to show disadvantaged individuals that from business point of view they are absolutely equal to ordinary people. And even more! The statistics proves that people who have health problems in one sphere usually are extremely talented in the other.
And one more statement: being disadvantaged they can better understand the needs and want of other disadvantaged individuals. As a result their business can meet that needs much better; and it’s the first step to better competitiveness.
 
 
3. Obstacle: It’s too expensive as disadvantaged individuals have more expenses to cover in comparison to ordinary people. I agree that this is an obstacle; but on the other hand franchise business can bring them additional money in the form of profit. I think that government has to support (and I know that in many countries it does) the willingness of such people to start their own business as it will help to achieve the long-term goals too. Also I believe that franchisors must include special paragraphs in their franchise programs for disadvantaged individuals buying the license from them to make it cheaper…
 
4. Obstacle: It’s physically difficult for the disadvantaged individuals to collect and to provide all the necessary documents to start-up the franchise business. I think that authorities must pay attention to this problem too. We create special parking slots for such people, help them in the shops and so on. I think that there wouldn’t be any problem for all sides (I mean banks, franchisors, lawyers, local authorities and other institutions) to introduce some light procedures for such groups of people. It’s not only a noble  but also a good economic decision. Will anybody argue?
 
Certainly there are more other obstacles for disadvantaged individuals to start their franchise business. Here I mentioned only the main as I think…

Another interesting program of the Small Business Administration (SBA) is called the CDC/504 loan program where “CDC” stands for the Certified Development Company. The Certified Development Company is a private nonprofit organization with the main purpose to contribute to the economic development of its community. The organization works with the SBA and privately-owned lending institutions (commercial banks and other financial organizations) to provide financing to small businesses. There are about 270 CDCs in the USA. Each CDC is responsible for a specific geographic area.
 
The main features of the loan are the following:
a) it’s a long-tern loan;
b) the interest rate is fixed during the whole period;
c) there is a limited number of purposes: to acquire real estate,  machinery or equipment for expansion or modernization;
d) in most cases the loan is secured with a senior lien (when provided by privately-owned lender) or with a junior lien (when a loan secured from a CDC and with a full SBA-guaranteed debenture);
e) the borrower has to invest himself not less then 10%.
 
How much a company can get according to this program? It depends on the purposes and job creation factor:
 
1. You will get up to $4,000,000 if you are qualified as a “Small Manufacturer”. A company is considered as small manufacture if its primary business classified in sector 31, 32, or 33 of the North American Industrial Classification System (NAICS); and all of its production facilities are located in the United States.
 
2. You will get up to $2,000,000 if your company’s activity meets at least one of the following public policy goals:
a) Business district revitalization (a strange goal as I think; different people will vary in opinion while explaining the sense of “revitalization”; I can even say that every new company revitalize a business in a district… I don’t like that factor, as it’s not clear to my opinion);
b) Expansion of exports (this factor is a wonderful public goal; every student can explain why export is important for the economy of the district and for the whole country; but one doubt appears in my mind – how will new small business company prove that they are going to expand the export; such statements are based on the international marketing research but small business company – especially a new one – has no money, specialists and other resources to get such research even for one product and for one country… But still I like that factor because it’s economically correct);
c) Expansion of minority business development (Government tries to kill two birds with one stone – to help small business and minority… I like this because it can save some budget money!);
d) Rural development (my comments are the same as to the previous factor);
e) Increasing productivity and competitiveness (oh… one more factor that would be very difficult to prove; especially competitiveness; certainly if you buy a new technology and modern equipment it WILL increase the productivity of the company; but the costs will rise and so on… I’m not sure about this factor);
f) Restructuring because of federally mandated standards or policies (it’s clear and I support this);
g) Changes necessitated by federal budget cutbacks (I like this; when new business creates new jobs in the region or solve some urgent economic or social problems it worth of receiving some support from the Government);
h) Expansion of small business concerns owned and controlled by veterans, especially service-disabled veterans (it’s easy to prove and it’s very noble goal; such people need to know that they can do something for the society, not only society for them; they have a special need to be useful; I really support that goal)
i) Expansion of small business concerns owned and controlled by women (as a woman myself I like this goal… but feminists can say that the Government offend women by this goal: why do they say that women need more help than men…)
 
3. You will get up to $1,500,000 if your project meets the job creation criteria or a community development goal. Generally, your business must create or retain one job for every $50,000 provided by the SBA.

I’m continuing describing the 7(a) Loan Guaranty by the SBA. By the way the strange name of the program is not really so strange. It comes from the legislation, the section 7(a) of the Small Business Act.
 
One of the most important things to learn about this program is guaranty itself. Who provides it? When? Are there any limitations?
1. The SBA doesn’t guaranty the full amount of 7(a) loans. The lender and the SBA share the risk that the borrower will not be able to repay the loan in full. The SBA takes the responsibility to cover the loan payments in the case of payment default. The guaranty doesn’t include imprudent decisions made by the lender or misrepresentation by the borrower.
2. The SBA provides the guaranty that is only available to the lender. It means that according to this program, the borrower remains obligated for the full loan amount due either to the bank or to the government. The program assures the lender that in the event the borrower does not repay his or her obligation and a payment default occurs, the government will reimburse the lender for its loss (up to the percentage of the SBA’s guaranty fixed in the loan agreement).
3. The SBA doesn’t provide guaranties to all small business companies. The applying company needs to understand that the Agency will check both eligibility and being creditworthy. Also they will determine if the company can prove the willingness and ability to pay its debts and whether it abided by the laws of its community. I’ll write more about the factors of eligibility later but here I need to say that any prospective borrower has to understand that the SBA takes into consideration that for some reasons commercial banks and other financial institutions are not willing to lend you money. If means that something is not so good in your idea, or you personal credit history, or something else. Maybe you may think how to improve the situation yourself at first?…
 
(to be continued)

Some time ago I promised to write about financing your franchise business. I think that today is a good day to start. My first “finance article” will be dedicated to small companies because:
-I like small business as they produce goods and provide services that big companies don’t even consider;
-for small business it’s much more difficult to find money and also to find the information about where to find it and how to apply; they don’t have a separate department dealing with credits and refinance in their structure. As a result small business owners with less than 10 people stuff very often have no time to look for the most attractive variant of financing.

Here in this article I’m going to speak about credit, finance and refinance opportunities provided by SBA (Small Business Administration). Certainly the first thing to be mentioned is that SBA is not a bank or financial institution. Their goals expand much wider than financial sphere. And in many cases they don’t give credits but provide guarantees for loans made by private and public financial institutions, government organizations and local authorities.

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SBA is a guarantor of loans. As a franchisee you may need it to increase your reputation in franchisor’s or lender’s opinion. If you need it would be right to apply for THE BASIC 7(a) LOAN PROGRAM
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Basic 7(a) Loan Guaranty
According to this program small companies (both new and existing) can get a guaranty from the official government organization to increase their eligibility to get loans. It means that there can be some situations when you apply for a credit but bank or other financial institution doesn’t want to finance your business for some reasons. Why can this happen? Maybe the banker doesn’t believe in your business idea or your professional skills to realize it. Maybe you don’t provide good collateral from bank’s point of view… Anyway they don’t say NEVER but need something extra to change their negative decision.
The procedure is rather simple. Small-business company turns to SBA, and they guaranty the loan given by commercial lending institutions. It’s important to say that even after that guarantee bank or financial institution is not obliged to give you a loan. But most American banks do, and there are some financial institutions that lend money to small business only under SBA guaranty. 

It’s a very flexible program as SBA will guarantee to loan for a wide number of business purposes. As they say you can get financing for:
-working or operational capital (it’s very essential for retail business to purchase the initial range of products);
-machinery, equipment, furniture and fixtures (usually the largest part of start-up capital);
land and building including purchase, renovation and new construction (as I think this one is not so important as you can get a loan through normal lending channels because real estate is a good collateral and most banks and financial institutions agree to finance them);
-leasehold improvements (not very important as it’s a usual practice when franchisor provides this, but it not than you can apply for this too);
-and debt refinancing (under special conditions).

The loan maturity differs for different purposes. For example, the maturity of the loan for working capital is up to 10 years, but generally up to 25 years for money spent to purchase  real estate.
(to be continued)

The first time I thought about religion and business after reading one of the fundamental books in management science “Management” by Michael H. Mescon, Michael Albert and Franklin Khedouri. The authors used the example of the Rome Catholic Church to explain that sometimes traditional organizations can exist without any improvements in management for centuries. I returned to this example more and more thinking about what would happen if the leaders of the Rome Catholic Church decided to make that changes (I mean only business and management spheres, and maybe personnel motivation or some marketing but nothing concerning religious doctrines). Will the organization operate better or worse? Will more people choose Christianity from other religions or Catholicism instead of Protestantism or Orthodoxy or other Christian direction? And in general, will more people start thinking about attending any church? Will using business instruments attract or antagonize people?..
 

Today I see a lot of churches from different denominations using business instruments. It works. They advertise on TV and radio, issue posters. They train their stuff to be good managers. They use interesting and sometimes even intrigue titles for sermons to attract different groups of people (more churches started teaching about money, business and investments). But what I wanted to emphasize they use franchise strategies to expand their influence.
 

Certainly, I do not want to say that this was invented in the 21st century. Mentioned before Rome Catholic Church has the outstanding number of congregations all over the world. And they continue to open more and more. But the main difference as I think is hidden in the procedure of opening the new ones. The initiative comes not from the leaders but from the prospective pastor. The leaders of the church motivate people to move to other cities, towns and countryside but the final decision is made by particular believer. The main church like ordinary franchisor provides him with start-up and current training, helps to solve technical problems and so on. The subsidiary church pays a royalty (usually it’s 10%), and everybody is happy.
 

Is it good and bad? As for me I think that it’s more likely good because being a part of a big church chain the young pastor has fewer opportunities to fall into heresy…