It takes money to make money, but does it always have to be your money?
Of all the things that keep potential business owners who long to take control of their professional destiny on the sidelines, nothing feels like a bigger obstacle than finding the funds. Learning the most you can about franchise funding will help you in the investigation process.
It’s true that you need skin in the game to join the world of franchise investment, but there are a lot of misconceptions about just how much is necessary and where the rest of the money will come from. The HIRE YOURSELF team frequently helps potential candidates get answers on both of these issues, and welcomes the opportunity to share its guidelines.
Many candidates think about funding too late, or make big funding mistakes that cost more money in the long run.
Out of Pocket Assets
First, on the question of cash: You do need it. In order to become a successful franchise investor, you’ll need a solid credit history, a positive net worth, and some money on hand. There are a number of ways to put your hands on cash, however.
These out-of-pocket assets are the first four sources of investment capital:
- Savings: If you have a nest egg in savings accounts, CDs, or other liquid or semi-liquid assets, that’ll make the investment process more straightforward than if you have to manipulate non-cash assets to acquire the up-front portion of your investment.
- Home Equity: If you own your home, you may be able to leverage that asset through a home equity line of credit (HELOC), or a home equity loan (HEL). The biggest advantage is that leveraging your existing equity is typically possible at a low interest rate. The disadvantage is the inherent risk involved in using your home as collateral for your business. The HIRE YOURSELF team recognizes that risk is a built-in part of franchise investment, but we advise investors to carefully consider their risk tolerance before leveraging home equity.
- Retirement Funds: You can leverage retirement funds for your business investment and avoid penalties by working with a company that specializes in helping investors take advantage of the Entrepreneur Rollover Stock Ownership Plan (ERSOP) or Rollovers as Business Startups plan (ROBS) to fund new businesses. With each, retirement funds become an investor in your business instead of being invested in publicly traded equities or fixed-income investments. Using this kind of account is complicated, so make sure you work with a reputable investment professional to ensure your program is set up and executed correctly. As with the use of home equity funds, use caution as you look at utilizing retirement dollars.
- Family and Friends: Gifts, loans, and investments from family members can be a great source of capital for your business. HIRE YOURSELF candidates have successfully worked with parents, siblings, and friends to launch multiple franchise units that achieved long-term profitability. If you accept funds from people you have personal relationships with, make sure you clarify the terms and conditions of the gift, investment or loan in writing, including investment terms, payback terms, interest, and what happens if you default.
Once you have the cash-in portion of your franchise investment figured out, most candidates turn to lending sources to come up with the balance. There are a number of traditional and unique ways to acquire financing—some of them even franchise-specific.
These lending resources are the next 5 sources of investment capital:
- Franchisor (or franchisor-assisted) financing: Franchisor financing is sometimes offered directly from a franchisor and sometimes offered through a third party prearranged by the franchisor. Programs vary widely, but some of these arrangements have notable benefits. For example, some may not require collateral, some offer equipment leasing, and others offer deferred payments. There are programs with low-interest rates, but also those with rates that are not competitive with traditional loans. Check with your franchise consultant and your franchisor, and be sure to compare shop.
- Franchise Financing Companies: Companies that specialize in financing franchise businesses can offer assistance with figuring out how to capitalize yours. These companies understand the franchise business model and have relationships with financial institutions that fund franchise loans. Some also specialize in assisting clients with utilizing retirement funds) and in securing U.S. Small Business Administration loans. In many cases, franchise financing groups have pre-approved dollars—assets that can streamline the process of getting your investment working.
- Traditional Loans: Don’t overlook commercial lending, including secured and unsecured loans, short- and long-term loans, equipment loans, and business lines of credit. Expect to put up at least 20% of your investment to be considered for these kinds of loans, and know that many traditional lenders may not understand the franchise business model as well as lenders who specialize in this area.
- U.S. Small Business Administration Loans: The SBA offers loans through participating banks and lenders, and since the administration guaranteed up to 85% of the loan, there’s less risk for the lender—which can translate to a lower interest rate for you. SBA financing is not really a government loan, but rather a private loan backed by government funds. There are multiple types of SBA loans you can investigate. Make sure you carefully evaluate the pros and cons associated with taking out an SBA versus a traditional loan, i.e. the cost to establish the loan, the length of the loan, and the interest rate. If your franchise company is listed on the SBA registry, it may help expedite the process. Unfortunately, individuals with high net worth may not qualify for this type of loan.
- Online Financing Centers: these are internet-only companies that serve as clearinghouses for franchise financing. They have multiple financial institutions in their systems to review your information and evaluate your request for financing. They host the equivalent of speed dating for the loan industry—you provide all of your information, then lenders review it and decide if they’d like to initiate a relationship with you. As with any lender, the onus is on you to make sure the franchising company and lender are reputable entities. Your franchise consultant can recommend an online franchise financing company with a good reputation and track record.
Don’t let bean-counting keep you from exploring the possibility of franchising. You may be better able to make the leap than you think.