How does the financing of a franchise work?

Financing your franchise

One of the ways that a franchise company rates potential franchisees is by evaluating their capital adequacy. A franchise business must be satisfied that a prospective franchisee has sufficient funds to finance start-up costs, working capital, and personal expenses until the franchise is profitable. That could be three or more years from the time a store opens to the public.

Franchise fees are divided into two groups, namely initial and ongoing fees. Fee amounts vary widely depending on the type of franchise. Taking a hotel franchise as an example, ongoing fees include royalty fee, advertising or marketing fee, reservation fee, frequent flyer program fee, and other miscellaneous fees.

Before accepting a prospect, a franchise company reviews the prospect’s net worth, liquidity, and credit bureau report as part of the qualification process. Some franchises can cost a great deal of money and may require a loan from a bank or other sources. If that’s the case, the franchise company will want to make sure the prospect would qualify for a reasonable loan to cover the cost of the franchise and ongoing working capital requirements until the business is profitable.

Unfortunately, financing remains illusory and a problem for prospective franchise owners. In an effort to promote franchise ownership, many franchise companies are offering their own financing programs. Others offer creative financing programs for starting franchise owners or those looking to expand. Programs range from zero percent financing for a limited term, lower license fees, reduced royalties, and minority participation by franchise companies in multi-unit outlets. For those who do not qualify for franchise business financing, an SBA loan program is the way to go. It comes with all the attributes a startup would want: low down payment, low interest rates, and long terms.

Assembling and assembling an SBA loan package and finding lenders with an appetite for start-up franchises can be daunting and time-consuming. For most prospects, it is advisable to enlist the services of a professional business plan writer and loan package expert to increase the chances of being financed and the rate of feedback from the lender. A professional will provide a well-crafted business plan and financial statement projections prepared to the standard preferred by lenders. As a prospective franchisee, all required SBA forms will also be checked for accuracy and the package rigorously tested to ensure it has a high probability of being financed before it is presented to lenders. You will receive a report on the deficiencies of the package and, in close cooperation with you, a good professional will improve the package as necessary. Thereafter, if your loan package passes the screening test, it will be turned over to SBA lenders for issuance of a letter of intent (LOI).

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