Funding A Food Franchise

Daniel Cloete from Westpac provides some insights to help you decide where your future lies

Food franchises have always been popular. The Quick Service Restaurant (QSR) sector saw good results in the five years before Covid, with an average growth rate of 6.1 percent per annum.

During the last two years, however, hospitality has been negatively impacted by lockdowns and restrictions – and the disruption isn’t over yet. Industry revenue is still down, the impact of staff shortages is significant, and margins are under pressure from increasing prices for freight, food and fuel.

Despite this, some food franchises have out-performed the market as they combined technology, on-line ordering, click-and-collect, drivethroughs and delivery options to reach – and even grow – their customer base. That ability to devise and implement solutions quickly is one of the benefits that franchising can offer small business owners, and it means there are some real opportunities in the sector.

Trends to consider

• Is the franchise quick to test, prove and adopt new technology? Growth in on-line ordering applications and increased use of software to track real-time stock management are vital to maintain sales and margins.

• Is there a delivery option? The convenience of having food delivered to your front door has been accelerated by working from home. We will continue to see further growth in the delivery market driven through digital technology.

• Does the delivery option increase profits as well as sales? Platforms such as UberEats are impacting on the profitability of some food outlets. While an incremental increase in sales from new customers can have a positive impact, in some cases delivery sales have replaced existing dine-in or pick-up sales which have better margins. The result is higher sales and more work, but lower profits.

• Do you need dedicated premises? The growth in delivery trends has resulted in the introduction of new concepts such as ghost kitchens or virtual kitchens which are designed solely to capitalise on the delivery market. Because they aren’t serving customers direct, ghost kitchens can be located in premises with lower rent costs, or can even share premises with other brands.

• Is there a non-meat option? Health, climate change and animal welfare concerns mean food businesses must be prepared to offer alternatives such as vegetarian or plant-based foods – and have the operating systems to do so. Many large QSR groups have now launched vegetarian options, with mixed success in some cases.

• Is it something new? As New Zealand’s population base is becoming more multicultural, we are seeing a variety of originally ethnic concepts becoming more mainstream: Mexican food, Katsubi’s Red Bowls and Malaysian meals are finding a growing following as they introduce new flavours and spices for consumers to try.

• Is it future-ready? Automation is set to grow from self-service kiosks at McDonald’s to scanning technology that allows customers to check the quality and consistency of their pizzas. Robots can cook and flip burgers. As the cost of technology reduces, it will become more common and may enable businesses to reduce labour costs or re-allocate duties.

How can you fund it?

Having found an opportunity that meets your goals, how do you fund your purchase? Most food franchises are funded using a mixture of equity and debt.

Your equity contribution can come from your own savings, raising finance against personal assets (eg. your home or investment property) and/or selling assets. It is important to ensure you have sufficient equity and understand the full cost of finance on the business, so using a franchise-experienced accountant is strongly advised.

Interest rates are currently experiencing a rising trend (although still low from a historical perspective), and this should be considered when looking at debt servicing. As a borrower, you should factor in the risk of future interest rate increases and what impact this could have on the cashflow of your business. Interest rate risk is generally the highest when your debt levels are at their highest, and for most businesses this will be in the first couple of years of operation.

In food, customers tend to pay at the time of purchase, so businesses don’t typically need a lot of working capital. But before you open your doors, there will be some start-up expenses such as professional fees, pre-paid rent, wages, and training costs. These will form part of your funding requirement so make sure you allow for them.

Using equipment finance to fund assets such as plant, machinery and vehicles can enable you to purchase specific equipment without the need for a lot of extra capital. It’s important that you ensure the term of the funding matches the useful life of the asset. You want to be sure that funding for refits matches the term of your lease, too.

Buying an existing business

A number of established businesses with strong cashflow are coming on the market. Vendors are looking to sell their business for a high multiple of earnings, though, because they are aware that property is less attractive as an investment so purchasers are looking for alternatives.

When purchasing an existing franchise, it is helpful if you can get at least three years’ historic results to enable you to identify trends in performance. It’s also important to ensure that the numbers are what they seem, and to check these against the benchmark expectations for that particular franchise.

For instance, in a business where wage costs are much lower than the system average, it would be useful to check what is being paid to staff and hours rostered to ensure they match up. You may find that the owner is working long hours but not paying themselves a wage in order to boost the figures for sale, and the actual profitability of the business is lower than it appears.

For all these reasons, doing proper due diligence before making a decision is important. Involving your accountant, your banker and talking to the franchisor and other franchisees will help you pay a fair price. It will also enable you to structure your funding in a way that best suits your needs for the future. That way, you will be set up for success.

About the Author

Daniel Cloete is the National Franchising Manager for Westpac. For more information, contact your local Westpac Franchise and Business Banking Specialist on 0800 177 007 or email: franchising@westpac.co.nz

The information contained in this article is intended as a guide only and is not intended as an exhaustive list of matters to be considered. Persons entering into franchise agreements should seek their own professional legal, accounting and other advice.