Today I just wanted to give a little update on the different options you have as an entrepreneur. You can either start your own business, buy a franchise, or buy an existing independent business/franchise for sale. Some of the pros and cons, especially looking between an independent business and a franchise for sale, I’m going to go ahead and share a slide from a presentation I put together.
In terms of a franchise, it’s great because you have initial and ongoing support from the franchisor. It’s an established, built business model. If the franchisor did their job, it’s really built to scale, and the franchisor often provides the business functions.
There are many franchises, such as education concepts, where the franchisor develops a lot of the research and development and curriculum. That way, the franchisee doesn’t have to do that work. Other ones, like insurance, the franchisor is the one that’s selecting the different products and vetting the different providers. And then it could be a tax preparation where the franchisee is more just focused on client service and sales, and the franchisor is even taking care of all the bookkeeping and different accounting services that might be necessary from that entrepreneur or that end customer.
Some of the cons, though, can be quite costly to gain the rights of a franchise for sale. The franchise fees can range, but generally anywhere from $20,000 to $50,000. And it’s for a 10-year period. Most of the time you have to pay half that franchise fee or the full franchise fee after the 10 years. And then the time it takes to open the business and break even, if you’re opening up any small business, franchise included, that’s a con when you compare that to an existing business that you’re going to be buying.
The last one is just restrictions imposed by the franchisor. If you’re a creative type and/or if you owned a restaurant in the past, a franchise for sale is probably not a good fit for you. However, if you’re new to the U.S., if you’ve always worked a corporate job, if you want to have something that has pretty steady support, and you have a community of franchisees and the franchisor to lean on, franchising might be a good fit.
As for an independent business that you’re looking to purchase, it’s great because it’s already operational. You’re buying a business that already has sales. Hopefully, it already has net positive cash flow, and it has a customer base, and the historic financials to better determine the success of the business right now, especially in 2020, given the COVID-19 pandemic, and the past prior three years’ financials in terms of tax returns, and usually you get month by month bank records. It’s easier to finance too than opening up a new franchise or your startup.
There are more SBA lenders that can lend as low as 5% or even less and you could only put 15% down. Generally, a 30% down but we’ve seen as low as 15% down to acquire an existing business. Also, the seller might be willing to finance part of that purchase as well.
Imagine then you’re going to buy a business that does a million in revenue, has profit to the owner, or basically what the owner is earning in terms of profit, salary, bonus, other compensation to the owner of $200,000. And you could say the business is for sale for $500,000. You could potentially buy that business for as little as $100,000, $70,000 cash, and then finance the rest.
Then, there are definitely some benefits of buying an existing business. Some of the cons, though, the legal and due diligence process is more extensive than if you’re opening a new franchise, opening a new startup, as you could be inheriting liabilities. They could be giving financials that are just outright fraudulent, and you are going to have to engage an accountant, most likely an attorney, to support you with the due diligence for buying an existing business. And it’s that much more important if this is your first time.
And then successful businesses may have a high asking price. So generally the multiple is done off as basically compensation to the owner for smaller businesses, say, you know, under a million dollars in value. And then once you pass a million dollars in value, generally it’s off a multiple of EBITDA, earnings before interest, taxes, depreciation, and amortization.
Basically, what is the money-making before you include taxes, the interest payments, and all of that? And you could have a business that trades at five times earnings, six times earnings. If it’s a mid-size… if it’s a business, you know, valued above a million dollars, you might have to pay a lot of money, if you look at the earnings. Where we have clients that opened up new franchises, where after 2 years investing $100,000, they’re making at least $100,000 from the business, although the first 3-6 months, they are not making too much, even for the first year, and then getting it that second year.
That tends to be a trend for some service-related businesses. It takes a little longer to get customers for, compared to a food franchise or a barbershop where you have a physical location and customers are coming to you on day one.
And then on the startup side, (speaking from experience), generally, it’s little capital invested, but you have to have a period of at least a year where you’re not making any money. You’re just reinvesting back in the business. And I was talking to a group of entrepreneurs the other day, where for them it was more like on average 2 years where you’re… basically you invested $20,000, $30,000, and then you’re living off savings for 2 years.
If you have a spouse that is also earning an income where you can do the startup on the side of potentially a consulting job, probably makes the most sense, unless you’re potentially leaving a business where you’re going to already have clients and from day one or in the first month or two with that startup, you have revenue coming in.
With a startup, there’s a bigger risk, but you could make a very big exit and sell the business for millions of dollars.
In conclusion, those are the three options for would-be entrepreneurs, basically starting a business from scratch, starting a franchise from scratch, buying an existing business. That business could be an independent business, or you could even buy an existing franchise for sale.
This has been Patrick Findaro with Vetted Biz. I hope you find this video helpful. If it’s been useful, share it, like it, share it with your friends, and write in the comment box what other topics you would like us to discuss in future videos. And we interview a lot of franchisors, attorneys, accountants, business brokers to help provide you better information for buying a business. Thank you for watching!
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