This is Lesson #3 in a five-part series on the top reasons I’ve seen franchisees fail. 

Tucked away in nearly every franchise agreement is a provision that very few franchisees consider when they are purchasing a franchise business. The provision I am referencing gives a franchisor the right to sell or transfer its business to another person or entity. Now I am not saying that a franchisor shouldn’t have that right. Of course a franchisor would like to reserve the right to sell its business as a succession plan or outright sale for profit. But unfortunately I’ve seen many franchise relationships change dramatically after the sale.

On many occasions I’ve found that the new franchise owners lack the spirit and care for the franchisee that the original owners may have possessed. The new franchise owners may not have the same goals or aspirations as the original owners. They may even change business models, pricing or marketing which could have a significant impact on your business. As a result, many franchise operations fail after the franchise has been sold.

If you are going into franchising, have careful and detailed talks with the franchisor about their goals. Find out if the franchisor is in talks with anyone to sell the franchise business or whether that is an ultimate goal of the franchisor. The franchisor may not always be candid with you but perhaps they will be and you will have gained valuable information in the process. If sale talks are imminent, you may be better off waiting to see what the new owner has in store for the franchise business. But no matter what be aware that the franchise business could be sold and consider carefully whether you are buying a "system" or whether you are getting caught up in the persona of the franchise owner. Because if you are buying the owner rather than the system, you may be in for a rude awakening if the franchise business is sold.

In the end, you are not likely to eliminate the risk that the franchisor could sell. An astute franchisor would not negotiate that provision away in a franchisor agreement. But consider that possibility from the start and whether the franchising "system" is right for you.  

 Mike Colwell of THE BIZ posted a presentation I have on Partnering for his Raising Capital series. One of the biggest things a partnership needs is communication. Like any good marriage, communication is the key. Business partners that communicate effectively are much more likely to be successful. Also, proper documentation is a key. Without documentation, many partnerships are doomed to fall into litigation if problems arise.

View my presentation on Partnering here.

VIew all of presentations on Raising Capital here.

 

The franchising model is available in almost every industry. (Even law firms apparently). Reports have indicated there’s nearly 1 million established franchised businesses in the U.S. Among those franchises are many unknown (or relatively unknown) franchises. In my opinion it is critical to buy franchises with brand recognition.

Does that take out many new franchises from consideration? Perhaps even the future Subway or McDonald’s? Why yes, it does. Let someone else be the guinea pig. (This shouldn’t be too hard in Iowa because most franchises become popular somewhere else before coming here). My rule of thumb – ask 10 of your friends if they have heard of your franchise opportunity. If they haven’t, perhaps you should reconsider the opportunity. The upfront costs of franchising are often considerable higher than starting your own business. If the brand isn’t recognizable, can you really justify the higher costs associated with buying a franchise or perhaps you are better off starting your own independent business?

I’ve seen several franchisees buy unknown franchises. In many instances it hasn’t worked out. They spent a lot of money but really didn’t get much in return. Part of the appeal of franchising is to license someone else’s trademark. An easily identifiable trademark gives a franchisee a potential leg up. It doesn’t guarantee success, but all things being equal, look to franchises with brand recognition. Sinking money into an unknown franchise is generally a poor investment in my experience.

For a good discussion on the pros and cons of buying well-known franchises read Does Buying a Big-Name Franchise Ensure Success?

This is first a series of five blog posts on the top reasons I’ve seen franchisees fail.  

There’s no substitute for hard work – Thomas Edison.

I often hear from franchisees that one of the main reasons they have decided to purchase a franchise business is "all the support I am going to receive from the franchisor." The franchisor has the system, the brand, the marketing plan and the experience, right?

I am here to tell you that these beliefs are often not the truth. Many franchisees I’ve represented have been sorely disappointed about the lack of support and assistance they have received from a franchisor. Often though it’s not the franchisor’s fault. After all, many franchisors never really promise support or assistance in their franchise disclosure documents and franchise agreements. So how in the world do franchisees get the impression that they’ll have a leg up on starting their business?

Well, the franchise industry has done a terrific job of marketing itself. There are many success stories in franchising and it truly is a wonderful business model for franchise owners if executed correctly. Consider this quote from Wikipedia on franchising with a little emphasis from me:

Franchising is the practice of using another firm’s successful business model.

The issue is that all franchisors are not created equal. There’s no guarantee that the franchisor has developed a successful business model. In fact, many franchise business models are not successful at all. The truth is many franchises out on the market may have no real system, no brand recognition, no marketing plan or perhaps even little to no business experience with the franchise owners.

So that makes the initial decision on which franchise to choose so critical. Don’t get sucked in by hype. At the end of the day, regardless of the franchise, it is so important to remember:

IF IT IS TO BE, IT’S UP TO ME. 

Don’t get into the mindset that you’ll receive a turnkey operation that will run itself. You will need to work your tail off to make your franchise operations work. If you don’t, you are almost sure to fail. Unfortunately, I’ve seen way too many people who didn’t understand this before they buy a franchise. Franchising does not guarantee success. Studies have shown that franchises fail at about the same rate as independent businesses. Don’t automatically assume that just because a business has franchised that it is successful, or that the franchise can create success for you. Because at the end of the day your success will most assuredly rest upon your shoulders.

 

The Iowa Supreme Court has announced that it is beginning a three-year project for an Iowa Business Specialty Court for complex cases with $200,000 or more in dispute. To begin the project, three Iowa judges will be hired for the court based upon their educational background, judicial and trial experience with complex commercial cases and personal interest.

Participation in the pilot project will be voluntarily and all parties to the dispute must agree to opt into the business court pilot program. It is anticipated the court will begin accepting cases no later than May 1, 2013. The Court covers the following:

 

Only cases in which compensatory damages totaling $200,000 or more are alleged, or claims seeking primarily injunctive or declaratory relief, will be eligible for assignment to the business court docket. In addition, to be eligible a case must satisfy one or more of the following criteria:

      I.        Arise from technology licensing agreements, including software and biotechnology licensing agreements, or any agreement involving the licensing of any intellectual property right, including patent rights.

   II.        Relate to the internal affairs of businesses (i.e., corporations, limited liability companies, general partnerships, limited liability partnerships, sole proprietorships, professional associations, real estate investment trusts, and joint ventures), including the rights or obligations between or among business participants, or the liability or indemnity of business participants, officers, directors, managers, trustees, or partners, among themselves or to the business.

   III.        Involve claims of breach of contract, fraud, misrepresentation, or statutory violations between businesses arising out of business transactions or relationships.

 IV.        Be a shareholder derivative or commercial class action.

  V.        Arise from commercial bank transactions.

 VI.        Relate to trade secrets, non-compete, non-solicitation, or confidentiality agreements.

 VII.        Involve commercial real property disputes other than residential landlord-tenant disputes and foreclosures.

VIII.        Be a trade secrets, antitrust, or securities-related action.

  IX.        Involve business tort claims between or among two or more business entities or individuals as to their business or investment activities relating to contracts, transactions, or relationships between or among them.

 

This is a step in the right direction in my opinion. I first starting writing about business courts here in Iowa in 2008. At that time, I asked whether Iowa needed a business court to compete. While I think it’s a great step in the right direction, I’d like to see the threshold amount come down. Many small business owners express frustration because the costs of litigation are so high. Perhaps we can have a modified "business small claims" that would include cases in a minimum amount of $25,000 or so. That’s real money for a lot of small businesses. But I am excited to see how the pilot program works and commend the Iowa Supreme Court for taking this initiative.

Happy New Year everyone! The first blog post of the year centers on a controversial Iowa Supreme Court decision handed down right before the holidays.

In Nelson v. Knight, the Iowa Supreme Court was presented with the question whether a male employer could terminate a female employee because the employer’s wife, due to no fault of the employee, is concerned about the nature of the relationship between the employer and employee? The district court had ruled in favor of the employer on summary judgment and the employee appealed. The Iowa Supreme Court affirmed the ruling of the district court.

Nelson was a dental assistant for Dr. Knight for ten-and-a-half years. Dr. Knight admits that Nelson was a good dental assistant and one of his best employees. Nelson in turn acknowledges that Nelson generally treated her with respect, and she believed him to be a person of high integrity. 

At some point in the last year and a half of Nelson’s employment, Knight began to complain about Nelson’s clothes being too tight and revealing and "distracting". (Nelson denied this claim about her clothes). Then during the last six months or so of Nelson’s employment, Dr. Knight and Nelson started texting each other on both work and personal matters outside the workplace. Neither objected to the texting. Both Knight and Nelson have children, and some of the texts involved updates on kids’ activities and other relatively innocuous matters. Nelson considered Knight to be a friend and father figure, and she denies that she ever flirted with him or sought an intimate or sexual relationship with him. Knight’s wife found out about the texts, confronted her husband and demanded that he terminate Nelson’s employment.

In reading the Court’s opinion, it appears Dr. Knight allegedly made at least a few comments that may have been construed as sexual harassment.  However, it is important to note that Nelson did not sue for sexual harassment but rather sued only on the basis of sex discrimination.

In a decision roundly criticized by the Des Moines Register’s Rekha Basu  because of the seeming unfairness, the Court ruled ruled that the Plaintiff was not fired because of her sex. The court seemed swayed by the fact that all of Dr. Knight’s other employees were women and that Nelson was replaced by a woman.  The court thought there was a distinction between (1) an isolated employment decision based on personal relations (assuming no coercion or quid pro quo), even if the relations would not have existed if the employee had been of the opposite gender, and (2) a decision based on gender itself. The Court said that In the former case, the decision is driven entirely by individual feelings and emotions regarding a specific person. Such a decision is not gender-based, nor is it based on factors that might be a proxy for gender.  The Court went on to state,

The civil rights laws seek to insure that employees are treated the same regardless of their sex or other protected status. Yet even taking Nelson’s view of the facts, Dr. Knight’s unfair decision to terminate Nelson (while paying her a rather ungenerous one month’s severance) does not jeopardize that goal. This is illustrated by the fact that Dr. Knight hired a female replacement for Nelson. As the Platner court observed, "[W]e do not believe that Title VII authorizes courts to declare unlawful every arbitrary and unfair employment decision." 

"[t]he issue before us is not whether a jury could find that Dr. Knight treated Nelson badly. We are asked to decide only if a genuine issue exists as to whether Dr. Knight engaged in unlawful gender discrimination when he fired Nelson at the request of his wife." 

Many have questioned this decision. Thomas Crane of the San Antonio Employment Law Blog observed,

 

This is a difficult call for all courts.  The case law is clear that in a consensual relationship, both employees should be treated the same.  If the female worker is fired, then the male manager should also be terminated.  But, how can the boss be fired?  So, instead, the courts engage in strained reasoning about what truly motivated the boss when he fired the female worker.  This decision arose after the employer moved for summary judgment.  The court should have simply found sufficient factual issue to allow Ms. Nelson’ claim to go to a jury.  Doubts about motivation should always be resolved by a jury. 

Nelson’s attorney, Paige Fiedler, strongly disagreed with the all-male court’s ruling stating to the Associated Press,
 
"These judges sent a message to Iowa women that they don’t think men can be held responsible for their sexual desires and that Iowa women are the ones who have to monitor and control their bosses’ sexual desires," Fiedler told the Associated Press. "If they get out of hand, then the women can be legally fired for it."

 

In meeting after meeting with prospective franchisees I am asked what I would look for in a franchise opportunity. It’s not an easy question. But trust me when I say that all franchise opportunities are NOT created the same.

What separates the good franchising opportunities from the bad franchising opportunities in my experience? Here are my top four reasons:

  1. The Brand Must be Recognizable. Talk to 10 of your friends. If they’ve never heard of the franchise you may want to reconsider the opportunity. The upfront costs of franchising are often greater than starting your own business because of the associated franchise and other upfront fees. If the brand isn’t recognizable, can you really justify paying the franchise fees or are you better off starting your own independent business?
  2. The Franchise Has a Fantastic System. Are the operational processes the franchisor has in place so special that you couldn’t duplicate it yourself or perhaps it would take you years to develop?  I say a franchise better have those fantastic operational processes in place or it probably isn’t worth buying.
  3. Unique Concept or Product. Does the franchisor have an unique concept or product that you are unable to duplicate yourself or perhaps it would be to expensive to develop on your own? 
  4. Protected Intellectual Property. Does the franchisor possess protected intellectual property that would make it difficult or impossible to start the business on your own? If so, then franchising may be your only alternative to break into a particular market.

Time and time again I see people invest their life savings into franchising.  Some of these people achieve great results while others do not. There is no validity to the claim that franchise operations fail less than independent business opportunities. Be sure to examine franchise opportunities carefully and conduct your due diligence. The due diligence should include extensive interviews with the franchisor’s management team and as many franchisees as possible. Get advice from a franchise lawyer, accountant and a banker regarding the opportunity. Educate yourself and be willing to walk away from the negotiations to get the best deal possible from the franchisor.

In conclusion, there are many other issues to consider when evaluating franchise opportunities but if the franchise opportunity doesn’t have one of the four things above, it’s been my experience you can probably just move on to the next opportunity.

 

Daniel Burnick of the Alabama Employment Law Report has an interesting post on a case involving a disputed Twitter account where the employee left his employment, changed his Twitter account name and then kept all the followers he had with his former employer.

In Kravitz v. PhoneDog, Kravitz used @phonedog for his Twitter account while he was employed. He left his employment and changed his account to @noahkravitz. He also took 17,000 followers with him which left his former employer with the task of building an entirely new follower base. PhoneDog had no policies in place regarding who owned the social media account.  An extended legal battle occurred but was recently settled.

As Burnick points out, the key is to have policies in place about who owns social media accounts when they are used on behalf of the company. To date, I have yet to see a single employer who has taken the initiative to address the ownership of social media accounts in their employment handbook. It’s an issue that many business owners may overlook. But the time required to rebuild a Twitter or other social media follower base is invaluable. If you’ve worked hard to capture a strong social media following you won’t want to make the same mistake as PhoneDog.

It’s a great idea as you enter the new year to review your handbook policies and procedures to make sure your current with existing laws and trends.  

P.S. Also consider the issue if you are buying a business. Do not assume that you will automatically become the owner of a Twitter or other social media account when you buy an existing business. You will want to specifically address the issue in your purchase agreement.

IASourceLink.com is a new online resource available to help small business owners and entrepreneurs across Iowa. I haven’t had a ton of time to explore the site but I impressed with the information available on my initial review.

One neat feature is the Iowa Business Concierge service available in collaboration with MyEntre.Net. The business concierge service allows business owners to ask questions to get pointed in the right direction. 

For those in Central Iowa, you’ll want to check out CISourceLink.com for business resources in the Central Iowa region. 

In a recent review of a franchise disclosure document (FDD), I spotted a provision from a franchisor requiring the franchisee to pay any state taxes imposed on the franchisor as a result of the franchise operations within the state. Franchisees (particularly here in Iowa) should think twice before agreeing to this type of provision due to the Iowa Supreme Court’s decision against KFC Corporation in December of 2010.

As I have touched on before in posts on this blog, the Iowa Supreme Court ruled that KFC Corporation could be taxed on revenues received from the state of Iowa even though the company had no physical presence within the state but rather received royalty revenues resulting from intangible property (i.e. the use of trademarks and license fees) within the state. It was probably the most significant franchise case to occur nationally over the past couple of years and understandably franchisors are concerned about it.

However, I doubt most franchisees understand the potential liability at stake. It’s certainly not something most franchisees would anticipate paying in their business plan.  It could seriously cut into profitability. Given the court ruling on the subject in Iowa, tax payment shifting from a franchisor to the franchisee is not something to take lightly.

My advice for franchisees is that I would not agree to pay the franchisor’s tax. Obviously a franchisor isn’t agreeing to pay the franchisee’s tax obligations. I have a hard time understanding how such a provision would be fair for a franchisee.