Reports: Franchisees going out of business – and losing money on transfers

Two recent reports highlight the financial risk of investing in a franchise. According to an analysis from independent franchising research firm FranchiseGrade.com, the number of franchised units going out of business increased last year. And a Franchise Grade survey of ex-franchisees who transferred their units revealed that nearly half were unable to recoup their initial investment. The analyses use data from 243 franchise systems representing 62% of all franchise outlets in FranchiseGrade’s 2,419 franchise system database. Franchise Grade’s data cover the vast bulk of the estimated 3,000 franchise systems in the U.S.

Franchise Grade tallied Franchise Disclosure Document data on units that “ceased operations” for any reason except termination, nonrenewal, or transfer to another franchisee or to the franchisor. The firm found that though this metric declined in the aftermath of the recession, it increased in the past year, climbing from 5,842 in 2013 to 6,900 in 2014. According to FranchiseGrade, ceased operations can mean that the franchisor’s business model is not profitable and franchisees cannot generate a reasonable return on their investment. FranchiseGrade’s data analysis is one indicator of franchisee distress, as is the high and rising rate of franchise loan failure reported by WeAreMainSt.

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Small Business Investment Protection Act now law in California

CALIFORNIA STATEHOUSE

California now has one of the country’s strongest franchisee protection laws after Gov. Jerry Brown signed the Small Business Investment Protection Act earlier this month. The signature capped years of effort by franchisees to pass franchisee rights legislation in the Golden State.

“The law protects franchise owners from franchisors who seek to terminate their business on a whim or from franchisors who desire to take possession of a lucrative franchise without compensating the franchise owner,” wrote Don Sniegowski on franchisee news site Blue Mau Mau.

Under the new law:

  • It will be harder for franchisors to terminate franchisees, and franchisees will have more time to fix most violations before they can be terminated.
  • Franchisors will have to buy certain items from franchisees if they terminate or refuse to renew a franchise. This means franchisees will not lose every dollar they invested if a franchisor terminates or refuses to renew them.
  • Franchisees will have an easier time selling their units: Franchisors will have to approve proposed sales if the buyer is qualified and the franchisee follows the franchisor’s transfer process.

The Service Employees International Union joined forces with franchisees to press for the bill.

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