Should I franchise or grow organically

For successful restauranteurs, the desire to grow is usually strong at some point. Growth brings opportunities and potential financial gains, but also challenges. In order to minimize risk and maximize the rewards associated with growing the number of restaurants one has, they must first determine how best to achieve that growth.

There are three basic means of increasing the number of units a restaurant brand has:

1. Open more company-owned restaurants
2. Strike licensing deals allowing others to use the brand, or
3. Become a franchisor and expand through franchising

Each method has its own set of pros and cons. Let’s take a deeper look into each of these scenarios. First, let’s look at the parameters for any form of restaurant growth. When opening additional units, make sure to have a solid foundation in place, which include the following:

A clear understanding of financials

Owners need to have a solid working knowledge of the fundamentals of the restaurant business and their restaurant’s financial performance. Engaging outside support from a professional accounting team or restaurant consultant can help owners and executives better understand their own financials and put systems in place to monitor critical key performance indicators.

Financial strength

Strong performance in existing unit(s) is a necessity. By that we mean solid sales, acceptable profits, positive cash flow and solid financial controls.

Growth potential

Does the concept have “legs”? By that we mean a concept that has the potential to continue or grow in popularity with the target audience well into the future.

Replicability

The concept needs to be able to be replicated in different locations while still preserving the essence of what makes the brand unique.

Systems

The systems needed to replicate the performance of the first restaurant must be in place before next steps can be taken to grow the brand. These systems are critically important:

• Menu - The menu should be well thought out, costs and pricing updated continuously and all recipes and procedures should be documented.
• Operations manual - All of the restaurant’s operational procedures should be standardized and documented.
• Training materials - Everything from orientation and onboarding procedures to position descriptions, training documents and regimens for every position in the restaurant should be in place.

A clearly defined brand

The brand’s message should be clear and easily conveyed to the staff and potential customers.

A source of working capital

While some forms of growth will take more available capital than others, all forms are going to take some capital. Restaurant owners and operators will need to secure funding, be it existing capital, bank loans or through an investor strategy.

Supply logistics

Does the restaurant have a stable national (or international) supply chain? To build consistency in the product that is being delivered, the restaurant will need to be able to ensure that any new restaurant(s) a licensee or franchisee open will have access to the same specified set of supplies and ingredients that are used in the first restaurant.

The ability to recruit talent

Whether opening additional company stores or finding great licensees or franchisees, owners will want to be able to recruit talented players. This often begins with having a great, positive culture in the first restaurant that serves as a testimony to potential new employees, licensees and/or franchisees.

Flexibility

The economy and the restaurant industry are dynamic and ever evolving. Owners must have the ability to react to and adapt to changes as they arise.

Affirming that these pieces are in place, may indicate a brand may be ready to grow!

Growth through company-owned units

Next, let’s look at the expansion avenues that may be open to grow the restaurant concept.

For many, the path of least resistance in opening additional units is company-owned units. Some of the most important pros and cons to this approach include:

Pros

• Total control over the process – from timing to location selection to final execution
• Control over the brand without allowing any other entity access
• 100% of the profits from company-owned restaurants will go to the owner

Cons

• Since the cost of expansion will have to be underwritten (with or without business loans), it will most likely come at a much slower pace unless there is very significant capital reserve on hand. At least early on there will most likely be limited expansion within the current market where the unit is located or markets in close proximity
• The burden of risk is all on the owner
• The time commitment of opening a new location is a big undertaking

This plan for expansion may be the safest as far as control, but is often the slowest, unless there are financial means to self-fund the expansion. Is this the best choice? It depends. If slow, very controlled growth is the goal, this may indeed be the best choice.

Growth through licensing units

The “poster child” for this type of a growth model is a popular coffee chain that seems to pop up on every corner. They do not franchise but instead license their brand. Under the licensing model, corporate receives a margin on branded products and supplies sold to the licensed store operator along with a royalty on retail sales. Even though they have many (many) licensed locations, the bulk of their income is derived from their company-owned locations. Licensees are responsible for operating costs and capital investments in all licensed locations. This works for the company because they have so many proprietary branded products that the licensee has little choice by to purchase from them. For most restaurants, this is simply not the case.

Pros

• Faster growth possible
• Easier to penetrate new markets
• Minimal costs to the parent company since licensees fund the cost of new units
• The burden of risk is mostly on the licensee

Cons

• No ongoing revenue stream through royalties like franchising would have in franchising
• Less control over the brand – especially if there are not branded products that a licensee is required to purchase
• Not a great deal of residual income unless there are a great number of branded products to sell licensees

Licensing may be a great option for some, but for most restaurant operators it simply does not provide the financial return that opening company-owned or franchised units provides.

Growth through franchising

If achieving rapid growth and realizing strong financial returns is the goal, franchising is an avenue to explore.

Pros

• The ability to expand with minimal cash outlay to the concept owner
• Less risk with the franchisee taking on most of the risk
• Easier market penetration through multi-unit franchisees and/or area development agreements
• Residual income through ongoing royalty payments from franchisees
• More control over the brand than licensing offers

Cons

• One must have a replicable concept that can work (and will resonate) in multiple markets
• The concept must be unique but at the same time simple enough for others to operate successfully
• The system must be well-developed and documented, including a detailed operations manual to ensure a consistent product delivery and customer experience
• There must be a franchise disclosure document with all appropriate documentation included
• Eventually there will be a need to hire additional corporate personnel as you grow your franchising entity
• Supply chain logistics will need to be addressed to make certain franchisees have ready access to the foods and supplies needed to operate the concept
• Time and money will be spent to recruit potentially successful franchisees
• There will be legal obligations to your franchisees in terms of support, training, etc.

Not every concept is suited for franchising. All of the criteria outlined above for building a solid foundation is relevant here, plus a few more. Franchising can be used in combination with opening restaurants as long as there are clearly stated rules for territorial development, so this gives a variant to solely franchised growth.

Determining which growth plan is best suited for the restaurant will take time and consideration. A well thought out vision of how the restaurant wants to grow and the speed at which to grow should be detailed in a formal business plan that is updated as goals and vision evolve. If owners are considering growing their restaurant concept, it is advisable to seek the assistance and advice of outside consultants, such as an accounting firm experienced with working in the restaurant industry, a business attorney and/or a qualified restaurant consultant. These outside resources will help avoid the pitfalls associated with growing a restaurant brand.

For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.

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