Franchise Finance

Taking up a franchise is becoming an increasingly popular way to start a business. Studies show that successful franchises have a much lower failure rate than other start-up options, as their business models are usually already tried and tested. Franchise finance options can also make it easier for aspiring entrepreneurs to access the capital they need to get started.

However, the average initial cost of starting a franchise is around £42,200. This includes the franchise fee, working capital, equipment, fittings, and stock. One of the key considerations for anyone looking to start a franchise is how to secure franchise finance, cover these upfront costs, and begin trading successfully.

While some will be able to fund the initial purchase from their own resources, many will require financial support. Traditional finance options, such as secured lending from a bank, will often require you to have some start up capital to invest in the business. However, there are alternative finance solutions if this capital isn’t immediately available. In addition, asset finance, working capital finance and trade finance can all be used to your advantage to help you through the initial start up phase.

This article provides an introduction to the start up finance options and discusses why a comprehensive, tailored business plan can be the deciding factor in whether your business is accepted or rejected for funding.

Banking on a loan

When you are looking to finance a franchise, your first port of call will often be your local business bank. The high street banks tend to have specialist franchise units that can advise on services and products tailored specifically for this market, and it can pay to shop around to find a deal that is right for you.

Before approving you for a loan, many banks will expect you to contribute a proportion of the start up capital from your own resources. Typically this will be between 30-50% but will vary depending on the lender and your own circumstances.

In addition, lenders will often require some form of security to protect their investment if you cannot meet repayments and default on the loan. While some lenders will accept a second-charge mortgage on your residential property, others may accept a personal guarantee with or without additional security.

What if the bank says no?

However, if a lender has declined your franchise loan due to insufficient security, you may still qualify for the Small Firms Loan Guarantee scheme

The Department for Trade and Industry (DTI) launched the scheme in 1981 to offer £5,000 to £250,000 to small businesses lacking funds or assets for traditional secured loans The DTI provides 75% of the security for the loan. However, banks may still choose not to support your application, despite this.

There are several qualifying criteria you need to understand. The application process can feel daunting if you plan to tackle it alone. For instance, eligibility is limited to businesses that have been operating for less than five years. Additionally, turnover must not exceed £5.6 million.

Your bank may help guide you through the application process. However, it’s often wise to seek additional advice from an independent adviser. They can assist you in preparing your business plan to improve your chances of success. Just make sure your adviser understands the specific criteria your plan must meet.

Working capital finance

Whether you have used your own money, secured a bank loan or raised unsecured finance to pay the franchise fee and invest in premises, equipment and stock, you will need working capital to ensure your franchise can pay its bills and trade successfully.

Overdrafts

For those who simply require a temporary cash boost it may be worthwhile arranging a traditional overdraft facility with your bank. This provides additional funding in the short-term so you can ensure your bills are paid on time. However, you will accrue interest charges when you use this facility.

Invoice financing

Another option available to you is invoice financing, which helps when creditors delay payment after you send them an invoice. In exchange for a small percentage of the invoice amount, a financier can advance up to 90% of its total—based on certain qualifying criteria—before your creditor pays. This approach frees up working capital, allowing your business to continue operating smoothly during the typical waiting period. The real advantage of this form of working capital finance is that it grows as your business grows

Asset financing

If you need to invest in expensive equipment, asset finance may also be a worthwhile option. Operating in a similar way to a hire purchase agreement for consumer goods, asset finance enables you to pay a regular ‘hire’ or ‘rental’ fee for the equipment you require. You can access a variety of asset financing options tailored to your business.

Putting the plans in place

Before applying for any form of finance you will need to draw up a comprehensive business plan. This is one of the most important documents you will write for your business as the information contained within it can be the deciding factor between whether a lender accepts or rejects your application for finance.

Your business plan should give a clear and realistic overview of the market for your product or service. It must also outline your business strategy. Lenders will focus most on the financial plan, which should include detailed forecasts for the next three years. You’ll also need to provide information from your franchisor about the business metrics they’ve calculated for your area.

Banks, financiers, and other lenders will review your business plan—especially the financial forecasts—to ensure you can meet loan repayments. That’s why your plan should clearly outline your goals and offer a realistic view of what you expect to achieve in the first few years of trading.

However, when applying for certain types of finance, such as the Small Firms Loan Guarantee scheme, you will need to ensure that the structure of your business plan meets the specific requirements of the scheme.

Where to go from here

There are a number of different ways in which you can raise finance to purchase a business franchise. Your franchisor or an independent adviser should be able to provide advice and guidance on the options open to you. However, remember that the finance market is increasingly competitive, and it may pay to shop around to find the bank or commercial lender that offer the best rates and terms for your franchise business purchase.