As new finance sources flow, ask questions for correct choice
Those wanting to invest in or expand a franchise were encouraged by a new International Franchise Association report. Banks will make $23.9 billion in loans to franchise businesses in 2013, the highest level since 2009. So, the spigots are once again flowing.
What’s behind this increase and how should franchisees approach this opportunity?
Within the last couple of years, an increased number of banks have been exploring new avenues for loan growth outside of the more traditional general industries or real estate channels. More emphasis has been placed on specialization, which has led to the creation of industry-focused lending groups with concentrations in such areas as healthcare, energy, convenience & gas, and restaurants, the latter two being heavily franchise-based.
For an industry historically dominated by commercial finance shops and only a handful of commercial banks, franchise lending has seen a host of new lending institutions entering the space.
At the same time, more highly experienced restaurant lenders are willing to explore opportunities with other financial institutions. Newer banks have capitalized on the ability to attract industry lenders and immediately establish a lending presence in the space.
As the demand from banks for growth has aligned with the supply of industry lenders looking for a change, the franchise community has been presented with a unique situation that should translate to more capital and more choices for franchisees. If a franchisee is looking to be opportunistic regarding growth, now is a great time to find financing as terms are likely more favorable and the cost of capital likely less expensive.
But due diligence is still necessary. First, the franchisee needs to have a bank that will be a strong partner for the business, not just another vendor. The bank is a significant investor, and, as such, should act as a sounding board and in some cases, even play devil’s advocate as the franchisee explores growth options. Healthy dialogue with an experienced banker can help guide a growing business owner.
Second, the franchisee needs to vet the bank and the lender by asking the following questions: Is the bank well capitalized? This is important no matter the size of the bank. Big doesn’t mean better. You’re looking for strength.
Is the lending team experienced in the franchise industry? Small-business lending experience is not the same as franchise lending experience.
Do those on the credit or underwriting side of the bank also understand the franchise industry? Terms that make sense for a manufacturer may not fit a restaurant or other franchisee.
Can the bank serve all your funding needs, including growth capital, acquisition financing and construction financing?
Third, the franchisee needs to analyze the numbers for economic highs and lows to help ensure long-term sustainability. For example, consumer discretionary spending drives revenue for many restaurant franchises. Business is good when consumer confidence is high, but that can change quickly.
Before adding more debt, the franchisee needs to run various scenarios to see what a 5 percent, 10 percent and even 15 percent decline in top line sales would do to cash flow, and then ask: How much leverage can my business handle during an economic downturn? Can I make necessary changes to my business model to adequately service my debt obligations in a downturn?
As the supply of capital and specialized lenders increases, franchisees will undoubtedly be presented with very attractive financing offers. Start by finding the right financing partner, exercise a bit of caution, and use leverage prudently.
Dan Holland is head of the Restaurant Banking Group at Cadence Bank. Reach him at email@example.com.