Franchises Offer Profits, But Watch For Pitfalls

By Omar Perez, Review Staff

Miami Daily Business Review, Chronicling Money and Power in South Florida, Vol. 73, No. 126, Monday, December 7, 1998

Angelo Izquierdo decided to open his own business three months ago.  He knew he didn't want to struggle with starting a company from scratch.  So he became a franchisee, paying more than $75,000 to open a Pak Mail shipping store off North Kendall Drive in Miami-Dade County.  Besides getting rights to the store name, he received training courses, operating manuals, equipment, insurance and even bookkeeping services. 

"Everything is there ready for you," Izquierdo says. "It's a good way to get into business."

Plenty of entrepreneurs must agree.  In 1993, the latest year for which figures are available, franchises generated about $800 billion in revenue a year and employed 8 million people, according to the International Franchise Association, Washington, D.C-based group.  The group also says franchises accounted for more than 40 percent of retail sales.

But there are plenty of things entrepreneurs should be familiar with before signing up with a franchiser.  Fees can vary widely, for example.  And despite the benefits of buying into a ready-made business, franchising doesn't come without pitfalls.  Just ask Steve Monokian, who sold the Pak Mail store to Izquierdo after owning and running it for nearly four years.

While Monokian's experience with the shipping store was a good one, his previous one wasn't.  In the mid '80s, he owned two Chicken Unlimited stores, a now-defunct fast-food restaurant chain that was based in Chicago.  The franchise collapsed; several storeowners in South Florida banded together and sued.  Ultimately they converted their stores to a different name.  Still, one of Monokian's stores was located next to Miami International Airport, and when Eastern and Pan Am airlines disappeared, so did a large portion of his customer base.

"Just because it's a franchise doesn't mean it's going to be a success," Monokian says. "Anything can happen."

Experienced franchisees offer plenty of advice.  First, it's important to know what level of investment will likely be required.  It can vary greatly, ranging from $30,000 for example, for a small printing and copying outlet, to more than $6 million for a Holiday Inn.  Likewise, the average royalty fee - a monthly amount paid to the franchisor based on gross revenue for each store - is from 2 percent to 9 percent.  At Pak Mail, for example, Izquierdo pays 5 percent.  In addition, he pays 3 percent of store profits for an advertising co-op fund.  Izquierdo declined to say exactly how much money he pays his franchisor.

There are several measures that help protect a would-be franchise owner from buying a potential disaster.  The Federal Trade Commission requires franchisers to disclose 20 facts about their business in what is know as a Uniform Franchise Offering Circular.  The disclosures include a list of past and present franchisees, any history of legal trouble, and franchisee nonrenewals, cancellations and transfers.

"If a company doesn't give you that information, you should look into another company," says Kara LaGrassa, a spokeswoman for the International Franchise Association.  She recommends contacting as many current and former franchise owners as possible.  "That way, you get a perspective on how things are going in the company."

Bob Einhorn, a franchise lawyer with the Miami firm Zarco & Pardo, says a prospective buyer should try to locate owners the franchise itself doesn't mention, to avoid getting "an unrealistically favorable picture."  Franchisers may list store owners who are friends, associates, or anyone willing to lie about how happy they are with their operation, Einhorn says.

But the amount of information available from franchisees is limited.  The Florida Franchise Act, for example, prohibits franchise salespeople - those trying to sell franchises on behalf of franchisers - from  making statements about potential earnings.

Different variables can affect earning Einhorn says.  Low rent or overhead, for example, can give the impression of higher earnings.  "The typical person will see they can make $100,000 and think 'That's great.' But you have to look deeper," he says.

Alex Valladares of Miami did his research.  After attending a franchise exposition and asking many questions, Valladares in 1994 bought his first Lady of America fitness center in Coral Springs.  Today he owns 10 centers in South Florida.

On the average he has paid between $100,000 and $120,000 for each gym, the price varying by location.  He pays $1,000 a month into an advertising pool.

Some companies, mainly restaurants, require storeowners to purchase supplies from a company-approved vendor or supplier.  The requirement helps "maintain uniformity in each of the restaurants," says Charles Nicolas, spokesman for Miami-Dade-based Burger King Corp.  Using different vendors many lead to different brands, he says, which in turn can result in inconsistent flavors.

Would be franchisees also should look at unwritten guarantees, such as a franchiser's ability to open other stores near an existing one.

It's implied in the relationship between franchisor and franchisee that the company won't allow another store so close to yours that it will hurt your business, says Einhorn, but it isn't always guaranteed. There are also long term considerations, like the renewal of a contract.  There's no guarantee that the previous rules and agreements will apply at renewal time, especially if demand for the franchise has increased since the original contract.

Einhorn says he sees more contracts that make it more difficult to renew.

"I would say that the trend is for franchisers to make more difficult for franchisees.  There's more hurdles to jump. And [franchisers] hold the cards; they make the decisions."