Should you open a franchise?

Jack, a lifelong public servant, is an assistant federal deputy minister. Sherry is a high-school teacher. Both plan to opt for early retirement this year, but at 55 and 56, they aren’t ready to stop working. They have run a small bed-and-breakfast in their log home in the Gatineau region of Quebec for the last 20 years.

The couple has just under $1 million in retirement savings, plus blue-chip public-sector pensions. They’re not keen on travel. Their bed-and-breakfast is worth another $800,000 because it sits on 100 acres of land. Armed with their B&B experience, they feel ready to take on a larger venture—a franchise.

They want to stick with the hospitality industry and Choice Hotels is planning to open a location in their area. Sherry has never managed staff but is confident her years of teaching will compensate. As head of large departments, Jack has delegated day-to-day issues to middle managers. He’s been in charge of all the bed-and-breakfast’s marketing and their son Mark built its website.

The couple live an hour north of Ottawa in an area popular with outdoor enthusiasts. The population is less than 1,000 so businesses rely on tourism. Recent hikes in gas prices have led to a decline in B&B bookings and there’s no train or bus access.

Wannabe franchise owners pose a special challenge, says David Wilton, director of small business for Scotiabank. “The dream of franchise ownership can cloud the reality. Reputable franchises bring the value of the brand and a proven track record but investors need to do due diligence.” Franchise fees, asset requirements, marketing and training support vary widely.

What a franchise costs?

Franchise Name	Franchise Fee	Investment Required	Start-up Capital Required?	Training
Liberty Tax Service	$25,000	$33,350-$54,900	n/a	5 days
Speedy Glass	$25,000	$100,000-$300,000	n/a	Not specified
McDonald’s	$45,000	$500,000; unencumbered assets	n/a	1-2 years
M&M Meat Shops Inc	$35,000	$100,000-$500,000	n/a	4-6 weeks
Second Cup Ltd	$40,000	Equity of approx. $350,000 (cash and assets)	n/a	6 weeks
Baskin-Robbins	$20,000	$200,000-$500,000	$125,000 unencumbered cash; $250,000 net worth	4 weeks in Burbank, CA
Tim Hortons	$50,000	$194,000	n/a	Not specified
Swiss Chalet	$60,000	$1.5 million to $1.7 million	$500,000-$600,0000 unencumbered assets	10 weeks
Choice Hotels Canada	$25,000-$50,000	At least $3 million	At least $1 million	Company required
Pizza Pizza	$30,000	$100,000-$200,000	$100,000-$200,000	8 weeks

A franchise fee alone can reach the high five figures. “If you are opening a franchise that requires equipment, that’s a double hit. Look at both personal and business costs to ensure you have enough capital in place for unexpected expenses.”

Wilton says some new owners assume the brand will carry the business. But it still takes time to build customer loyalty.

At a minimum, the couple needs enough cash on hand that’s shielded from the new business to cover at least six to eight months of living expenses.

That’s not going to be easy. Jack and Sherry’s investment portfolio was designed for wealth accumulation and their current asset allocation is 80% equities. They made nominal contributions to a TFSA for emergency repairs to the B&B and maxed out RRSP contributions.

If they buy the franchise, they’ll need to shift contributions away from their RRSP to the TFSA so they can access cash without taking a tax hit. And they’ll have to switch their TFSA asset allocation to balanced to provide more income. Since they’re not in corporate-class funds, they’ll pay taxes on any gains when moving those funds.

What’s more, paying the start-up costs means they’ll have to liquidate their retirement savings. That will trigger gains and losses so a tax expert is needed to maximize the writedowns.

While franchise owners receive preferential supplier and insurance rates, operators may be limited to specific suppliers, store layouts and products, regardless of local preferences and availability. Those requirements are in the franchise contract.

Jack and Sherry realized they needed to do a lot more research. They underestimated the start-up costs and were reluctant to put all their retirement funds at risk. They’ve put the franchise idea on hold and are building their B&B client base instead.

“Not everyone is ready for the challenges of running his own business. Conversely, a person who likes to blaze his own trail may not do well under the prescriptive confines of a franchise arrangement.

“Most agreements have a clause that allows the franchisor to take back the franchise if it’s not run according to the terms.”