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Franchise Validation: What to Ask

Franchisee Validation: What to Ask

Transcription:

Amanda: Good morning, good afternoon, whenever time of day you’re listening. We are here with an old favorite of the “Franchising With Purpose” show, Mike Magid, the Chief Operating Officer of Griswold Home Care. An old favorite. just to reference the podcast.

Mike: And age as well.

Amanda: That was not a dig. But Mike, thanks for joining us. Just to kind of a recap, kind of where we’ve been going in this whole process. You know, the last couple of months have been series about folks outside of the franchisee-franchisor relationship that you want to talk through things that like the legal components of buying a franchise and setting up a business entity and all the things they consider when you’re reading through the FDD and things that you’re…you know, you’re signing legally binding agreements. You want to make sure that you know what you’re signing and what you’re looking for.

We talked to Steve from Bennett Trends, talked about all the different financing options that are available when you’re purchasing a business. So, we’ve looked a lot at the outside. We’ve talked with Jim and Frank about the conversations that you should be having with your own personal support system, your spouses, families, getting everybody on board. And we’ve kind of gotten up in our journey here into what, in some franchise processes, is towards the end of the process where I’ve talked to everybody else, I know that this is what I want to do, but I want to talk to the people who are doing this every day. And most places call that validation, or is that fair to say?

Mike: Yes.

Amanda: Okay. So we’ll talk about validation and that’s the part in the process where you get to talk to current franchisees of the system that you’re looking at purchasing. So, talk a little bit about kind of what that looks like. What are some questions that you might want to ask? Is there anything I can’t ask them?

Mike: Yeah. So, I appreciate it. So it’s always nice to be on the podcast. I really enjoy doing this series, mostly because I want to help people be able to research thoroughly franchise opportunities and ultimately live the American dream of owning a business one day. A very small percentage of our population, I think the number is like 5%, don’t quote me on that but it’s somewhere in the 5% range of people in America that actually take this step of business ownership. And so, I have an enormous amount of respect and admiration for people that do that because you’re risking your retirement, your savings in some ways, and sometimes your life’s work to put into a business opportunity. And so the responsibility around training and educating somebody in that process is paramount and should be paramount for any franchisor that wants to bring good people into their system.

So, there’s a lot of important steps to researching franchises but none more important than what we’re talking about right now, which is validation. So, we can take critical steps of educating you in the process. We can take all the time we need to review the FDD, the franchise disclosure document, and reviewing the franchise agreement. We can talk to franchise attorneys. I know we’ve had on this show in the past about what you need to be aware of in franchise agreements before you would enter into one. And they’re all very important steps. But from my experience, and I’ve been in franchising for 28 years, people don’t buy franchises as validation isn’t what sells them on the business. And I’ve always looked at validation from two perspectives. I’ve worked with many people over the years that go into validation from two different perspectives and they are much different perspectives.

We have people that are researching franchises that get the validation and are looking for reasons not to buy the franchise. And then the other half of that, won’t call it half and half, but another percentage of those folks go into validation looking for reasons to buy franchises. The set up of that process for validation meaning when you ask the questions they ask franchisees, what can’t they ask, those types of things, no different. I mean, you’re going to set up the validation process and any responsible franchisor will set up the validation process to help their potential candidate succeed in validation because validation is the most uncomfortable step in a franchise development process for candidates because now they’ve got to get on the phone and talk to people about the business. So, they have to be prepared for what questions they can ask, what questions they shouldn’t ask.

But in the end, validation from the prospective buyer’s standpoint should be about anything they need to know to help them make a decision. And the beautiful thing about a great franchise development process is it allows people to pick and choose who they want to speak to, what area of the country those folks are in, what their backgrounds are, what their tenure is in the system, groupings by revenues. There are so many ways you can carve up franchise development validation for candidates that have interest in specific backgrounds or revenues, etc., or tenure.

Amanda: So that’s something that I can…well, as I’m going through this process and whoever I’m talking to in franchise development, I can say, “You know, I want to talk to people with a similar background or in a similar geographic area to where I’m looking to purchase this business.” It’s not kind of a pre-selected list that they just send me and say, “Here are 10 people you can call,” but I have the freedom and flexibility to ask for specific niche groups. Is that…?

Mike: Yes. That’s accurate. So, I’ll take a step back based on that response. From the franchisor side, there are a few things that you, if you were a buyer, have to understand about the franchisor. Number one, they cannot direct or control your validation. They can assist in your validation by doing things like, yes, I can give you five people in our system that came from an IT background similar to yours. Here’s the five. Call whomever you want. You know, here’s three people that you want to talk to that are under two years in the business. They can do that by request. What they can’t do is steer. So, when I say steering, meaning that can’t be the only way you validate in the system is by having the franchise company tell you who you can speak to. That’s steering. If you make a decision based on that and they have steered you to those franchise owners, if things go sour in their relationship you can always come back to, you know, I didn’t have a chance to speak to who I wanted to speak to and, you know, they didn’t give me that option, so you can’t steer.

Amanda: So that’s something to potentially red flag as you’re getting into this process, if you’re talking to a franchisor who’s saying here the 10 people that you can talk to in their system of 200 or whatever the case may be, that’s something, again, recommendations may be based on your background or things like that. But that’s good to be aware of that that’s not something that they can do.

Mike: It’s only a red flag when they say that’s all you can speak to.

Amanda: Right.

Mike: So, you can’t steer. You can’t make earnings claims as a franchisor. So any time franchisees through the development process want to find out how much money they can make, the typical answer is you need to ask those questions in validation because unlike the franchise owners, the franchisors on their federal trade commission regulations, and based on those regulations, there are certain disclosures you can and can’t make all based on your item 19, which is where your financial performance representations are. If it’s not in your item 19, you can’t make the claim. So, you have to be really careful. That being said, franchisees are not bound by federal trade commission regulations and they can disclose anything that they choose to disclose to you. That’s why validation becomes very important. So, you can’t steer and you can’t make earnings claims as a franchise or you’ve got…and you can’t make any claims around financial performance that aren’t disclosed in your item 19.

And so, if you’re working with franchise companies, understand that. So, a good responsible franchise company will go through a list of questions that you should ask. They’ll leave it open to any questions you want to add to that list. But they’ll typically review those standards about what can and can’t be done on the franchisor and franchisee side. And then they will prep you with the list of questions that you can go and ask the franchisees along with any other questions you want. So, the only questions…I don’t think I can think of any questions you really can’t ask franchisees. To be fair, it doesn’t mean they’ll answer all those questions.

So if I was going into validation, I think one of the big mistakes with many potential candidates…because they’re putting their money on the line, right, all their life savings and hard work and retirement goes into the investment. And they are many times leaving jobs which have carried them throughout their careers. And now I’ve got to go buy a business with no guarantee of success and no guarantee of what income I can make either in the first year or beyond. And so, one of the first questions most candidates want to ask franchise owners when they get on the phone is, “Well, how much money can I make?” Because they’ve been asking that through the development process and they’d been hearing from the development team, we can’t make those earnings claims.

Amanda: Yeah. And that’s a good point too. Because, you know, when we talked with Steve and Ellen and I’m noticing this theme keep coming back and coming back and it’s about being organized, right? So as you’re asking those questions, if there are things your franchisor can’t answer, right, they’re based on how much money can I make or all the things that are regulated and can’t be answered and aren’t in that item 19, you want to keep track of those things because that might, it should…not might, but it should inform your conversations with existing franchisees when you get to that point in the process, and you don’t want to miss something. I asked and I really want the answer when I talk to Joe and franchise development but now that I’m talking to, you know, Frank in Texas, I forgot to ask the question, so about being organized. But you mentioned that a good franchisor or franchise company will provide you with a list of questions. Again, open-ended, you can add, take away, you know, you don’t have to ask that set of questions. But can you talk about some of the questions to ask a franchise owner?

Mike: Sure. You know, I’ll try to keep it high level. I talk about being organized in validation, so I try to organize that process. And, you know, if I’m coaching a candidate that’s going to go into validation, you know, I want to make sure that they ask about the day-to-day role of the owner. So, what does an owner do every day? What does success look like in terms of the behaviors of an owner? And that that could come down into how do they hire? What kind of culture do they set? What type of people do they look for? You know, where is their business today and where are they going with it? You know, what’s their plan? So I want to dig in first to the owner’s role and the owner’s behavior. And I would prep them to do that because ultimately if you’ve talked to 5 or 10 people, in that information, you’re going to synthesize out what key characteristics you’ve heard of successful ownership. So, I always start with that, the owner’s role and behavior.

Amanda: And that kind of goes back to, you know, well, we talked about this whole process. It’s really easy to hear great things, the new shiny thing. But that’s why it’s so important to know what you’re looking for out of this business, to make sure that that day-to-day life of the owner aligns with what you’re looking to get out of this, right? Because it might sound great and then you realize, well, that’s not really what I, you know, was looking for when I started this journey. So it’s important that you, you know, ask those questions of yourself almost first so you know what aligns with your personal mission for owning a business.

Mike: Yeah. So when you think about starting at the owner position, what does success look like? What are the behaviors of the successful owner? And then we go back to the premise of people either validate to look for reasons not to buy or to look for reasons to buy, in those random calls that you make, if you choose to make them all randomly, you will be able to talk to enough owners and go, “Okay, I’ve heard enough about their success or what creates their success and I don’t see that in me. That’s not what I want to do. That’s not what I would do. That’s not how we would go about things.” And that’s one way of saying I want to talk my way out of buying a franchise. Or if you’re on the other side of it and you’re saying, “Yeah, I can do that, but I can do that better.”

And the interesting thing about validation is, you know, it comes in all shapes and sizes. You get to pick who you want to speak to. The conversations are unfiltered. You know, they’re open to go any direction you want. And I think you can do that in validation with people as long as you don’t make it about their finances, about their income, about their expenses. For me, when I tell people going into validation that you really don’t have to focus a ton on the numbers because you can take the financial performance representations out of item 19. And all you have to do is ask some basic questions and you can ask those questions based on percentages. You know, like, you know, what are your costs of goods as a percentage? What are your fixed expenses as a percentage? What is a good net profit margin as a percentage?

You’ll get those answers because people don’t mind sharing that as long as you’re not asking them how much they make. And so I can take those benchmarking percentages, lay it over the financial performance representations in item 19, or even if they’re willing to share their revenue and I can figure out what kind of money there is to be made. And so, that’s probably the last area I would tell people to focus on because it really is the easiest to get unless you’re a, you know, financial person and financial people are going to be much more detailed about the numbers and they might want to go down the list of, you know, all the expense line items in a P&L and what they might be.

That becomes more challenging unless you have somebody that’s really open to doing that, which franchise owners, for the most part, aren’t open to doing that. But so you start with the owner and what success looks like, the behavior. And then, in my opinion, you would dig into the hiring. So, who would I hire, what are their roles, what do they do, and what would I be looking for, much like what you were looking for, to hire the right people that will help create my success? So then I’m done with the staff. Then I talk about support. So, you know, I’ve talked to the corporate office, you know, for weeks, weeks or whatever it may be. And I hear about these programs, I hear about this type of support. What’s the reality of what I’m going to get when I sign a franchise agreement and I’m in business? And that’s a great way to talk to different people about their experiences and what they got versus what they thought they were going to get.

Amanda: And are they talking the talk or walking the walk?

Mike: Yeah, correct. So, and it’s support from how I get my business open to ongoing support and the programs that I hear about and the effectiveness of the programs. I want to dig into that and I want to dig into the corporate culture. How does that corporation and the franchise system interact with one another? How often do they interact? What are those interactions like? Are they open to growing and open to new programs and innovation that come from the field or they closed off to those kinds of things? And so, I want to understand that whole dynamic, you know, what is that relationship? What’s the culture of this company? What does this company ultimately value?

So, I would direct them to go that direct…and they can ask a bunch of questions around, you know, what that culture is like, what the systems are, what the support are. I’d want to make sure that they dig in the data and make sure that they have the day-to-day need or at least the benchmarking data that they can use against how they’re running their business. Because you don’t know where you’re going if you don’t know where you’re at. And I don’t want to have to…if I’m buying a franchise system, I don’t want to have to create my own processes. I don’t want to have to create my own tracking. I want to take what you say you’ve used and done and proven over years and I want to use those benchmarks as I’m running my business to compare how I’m doing against those benchmarks.

Amanda: That’s why you buy a franchise, right? If I wanted to create something from the ground up, going the startup route, we talked about that many episodes ago, may be the better fit for you. So, I’m choosing a franchise because that’s an established system and model that works and has been proven to work, right? So we want to make sure you’re getting those processes and those systems.

Mike: Yeah. So in our language, we call that standardization. I buy a franchise because I want standardized processes and procedures that I don’t have to develop. Now, if I’m a successful, you know, individual in my career and I’ve got great ideas and things that I want to do, I can certainly look to better those processes or those standards. But, you know, there’s always a foundation to any company and what you want to do in validation is understand what the foundation is that company is, what they value, how strong that foundation is because that’s what I’m going to rely on for my success. Even as I begin to implement my own kind of procedures, or better on those procedures or adjust those procedures based on my experiences in the business, but I should have that foundation to lean on.

So when I’m in validation, I’m trying to understand the structure of that organization, how strong that foundation is, and all those procedural things that they have in place in the data to help me run my business. And then I would want to understand, you know, about the industry. You know, I’ve learned from the corporate side what the industry is but, you know, I wanna understand from the franchisee’s perspective in their own marketplace how they feel about their own territory. Is it a good territory? Are the demographics supporting the growth in a territory? Because a corporation will always tell you that they do the right things and they do the responsible things in setting up a territory that you will be successful if you follow the process and the procedures, and if you hire the right people, and create the right culture, and track your data, and run your business, and play an active role if it’s a business that requires active participation because it’s all dependent on that.

But ultimately, yeah, so, you know, you want to make sure that you’ve got those things and understand those things, and franchisees can help you understand how good their territory is and the strength of that territory. So that’s something you want to learn. And then you want understand the competition in that territory. How many people am I competing with? You know, what is the opportunity to grow a business in a standard territory that I’ve been provided? If I do all the right things and I act accordingly, can I grow my business and to what level can I grow that? Now, you can’t expect franchisees to be able to predict how you’re going to do even if you say you do the right things and you’re going to hire the right way. So they may not tell you, “Oh, if you run the business this way and your territory looks like this, you’re going to hit, you know, $2 million in revenue.”

But what they will tell you is understand what your competitors are, how many they are, understand what your competitors are doing. You should understand what the going rates are and wages are and things like that that could affect your business. And then you can determine from there how you run your business and what you believe you can do in terms of conversions to know how your business can grow in a marketplace. But I’d want to understand that territory and how they define a good territory and how the numbers suggest in that demographic that I can, you know, be successful. So those are some of the big-picture things that I would send somebody in the validation looking to explore.

Amanda: So, you talked a lot about competition and other folks in that space, in their area, what about…is it valid or is it relevant maybe to ask about other challenges that they face on a day-to-day basis? So what are things…you know, the idea here is to get a really good, clear picture of the investment that I’m deciding whether or not I want to make. So, is that something that you recommend that people ask just, you know, outside of competition, some businesses have other unique challenges or what might those things be and…?

Mike: Yeah. And that’s a very good point. I wasn’t trying to limit the challenges, just the territory or competition. To your point, the challenges may be much broader than that. What I do is I always caveat that when I talk to candidates, they’re going to ask those questions, because very early on in our podcast, I had said on an earlier podcast that there are two main reasons why franchises fail. One is under capitalization. That’s number one, which shouldn’t happen if the franchisor is responsible. And then number two is ego. And so, you know, when you talk to people that have been in the business that have been grinding it out to become successful, competition aside, if you asked them, you know, what the challenges are, you’re going to get their challenges and they’re not going to lie. They’re going to tell you what they are.

You just don’t know whether their challenges are self-inflicted or not. And you won’t get that from them. You will never hear a franchise owner say, “Look, there’s not enough…” we’ll use home care. “There’s not enough caregivers in my area, so I can’t fill cases.” And you could hear that and if you go in unprepared for that, you’re going to sit there and say, “Well, that’s not a good market. And what am I buying? If you’re telling me it’s a great territory, but there is no caregivers to place into homes then it’s not a good territory.” And that would probably cause you pause, at least, for whether I continue on or whether I think I can overcome that challenge. Because if I take it at face value, I’m going to assume that if I buy a territory, there may not be enough caregivers.

The flip side to that is there may be tons of caregivers, but that individual that says they struggle may not be a good recruiter, may not have hired good recruiters, may not have good tracking or data. They may not know that, you know, an application for a caregiver comes in and they don’t get touched for three or four days. That’s causing them to lose out on opportunities. There are a lot of factors that go into the challenges. Most of the challenges that you hear, I’m not saying they’re not legitimate, but most of the challenges can be offset with a different mindset and different practices. But you don’t get that when an ego’s driving that discussion and you ask somebody what their challenges are. So, I always caveat those challenges when people go in and try to give them a broader perspective so that they can dig deeper instead of just hearing at face value what the challenges are, dig into why are they challenges? Why do you believe they’re challenges for you? You know, is it staffing? Do you track? In that exploration, you should get enough information back to say that’s a legitimate issue or I’m going to discount that because they don’t seem to have a good handle.

Amanda: Yeah, that’s a really good point because, you know, the skeptic in me, when you’re making any, especially large purchase, go right to, well, why wouldn’t I want to do this? And we talked about, you know, a percentage of people will go that route, why shouldn’t I buy this business? And other percentage of people are looking for reasons to validate why they are on the right path here. But that’s super valid, you know, you used the example of caregivers, but dig into the recruitment processes and is it, you said, self-inflicted challenges or is it a real challenge? Because it’s really easy, I think, to hear, well, here’s this laundry list of challenges because I called somebody that’s having a bad day or, you know, having a rough whatever issue with something and to really dig into those things and not to kind of take them at face value because there’s a lot of stuff that could be behind those challenges that you may or may not have the same issue.

Mike: Yeah. So let me crystallize this point. So, if I’m an individual that’s looking for reasons not to buy, I’m going to ask about all the challenges. I’m going to listen to those challenges, and at face value, I’m going to accept those challenges and say, “There’s why I don’t want to buy the business.” And that happens a lot. Those that are looking for reasons to buy will act one of two ways. They’ll listen to the challenges and they’ll go, “Okay, I hear his challenges or her challenges, but that’s not me. I wouldn’t think that way. I’m better than that. I’m just going to discount that challenge because I think my ego tells me I’m better than what I’m hearing because I want to buy.” Or they say, “Okay, I want to buy, but I want to buy responsibly. So I’m going to dig into those challenges and find out what is behind the challenges and not just hear the answer but try to understand why I’m getting that answer, what’s motivating that individual to tell me they have a problem in our industry with recruiting caregivers.” People that want to buy go one of the two directions, they either move past it because they’re better than that or they dig in. People that don’t want to buy, take it at face value and they move on.

Amanda: So we’re talking about digging in, is this kind of a once and done, you know, I get on the phone with Tom and Tom is saying, “Oh I have a real problem with finding caregivers in this market and this is my challenge and so on and so forth.” And at this point, I’m in there relatively early, like I’m not running a business. So the questions to ask about, well, what does recruitment look like? And, you know, what’s the…you know all the questions you would ask to dig into that, I may not have that depth of knowledge about the business yet. Is that something I can call whoever is kind of taking me through this franchise process and say, “Hey, these are the challenges. I want to dig more into it. I want to understand if it’s a valid challenge, what are some things that I can ask?” Is that something I can kind of go back and get some guidance around?

Mike: Yes, you can. So, the short answer is yes. However, good franchise companies and good development processes know what the basic challenges are and understand what those challenges are and can help prep you in validation before you get on a call of what questions you should be asking. To understand those challenges, I wouldn’t hide from the challenges they are what they are. There’s a lot of people that deal with those challenges every day and find solutions to those challenges. So, if it’s done properly, you’ll have a good set of questions upfront going into validation. But you bring up a good point and…

Amanda: I do that once in a while.

Mike: Yeah, you do that a lot. Here’s the point though, validation’s beautiful from this perspective. As you begin exploring the…again, keep in mind, not everybody’s hot buttons in terms of what they go in trying to find out about validation is the same. Some people only want to know if they can make money and how quickly they can make money. Some people want to know every phase of the business. Some want to know areas of the business that they may not have skillsets in and try to explore those further. There’s lots of reasons people go into validation and hot buttons that are driving the information they seek. So, understand that as they start making calls and asking questions, they’ll get better and better and more savvy on the next call or two or three to know how to dig for the information they want because they’re getting better at getting answers to the questions they want and now they can rephrase questions or they can ask deeper questions. So, you know, that’s the value of validation is I start making calls, I learned what I didn’t know going in as much as I was prepared and now I’m better at digging for what I want on subsequent calls.

Amanda: All good answers. So typically, and again, I know every franchise company is different, every industry is different, but typically, how many validation calls or how long can I expect this part of the process to take? Should I be planning on making 3 calls, 30 calls? What do you recommend?

Mike: So it’s all over the board. If I could make a recommendation, I’d say one, have it go well and that’s it. I say that tongue in cheek. I believe that about five calls is a good number of calls if you’re going in it with a plan, with the right questions, with the additional exploratory questions that you need to ask. If you’re going in with a plan, meaning I know what…here’s what I need to find out, and development helps you figure out how to find that out. And I go in with that plan and I execute that plan. By call five, I should have enough information. Now, you may continue because you just might want to hear what other people have to say, but by five calls, especially if they’re random and you chose them, you should be able to hear enough consistencies about what your concerns are and how they’re overcome in this business or how they’re not to be able to make a decision.

That process depends on your current circumstances. Those that are not working, they go through it a lot quicker. Those that are working and looking to move on from a job to live the American dream, that process could take a month, two months. I mean, some stretch it out because they may not have the time and they may or may not have the urgency or the pain driving their process to move faster. But if I’d been out of work for three months, six months, I’m moving a little quicker in that process.

Amanda: For a lot of different reasons.

Mike: For a lot of different reasons.

Amanda: Awesome. All great stuff. I appreciate it. I’ve got a much better understanding of the validation process. And, you know, I’m reading a lot and seeing a lot of information out there about reviews. And, you know, reputation management and all of these things. You know, it’s been in the hospitality industry for a long time. And I keep coming back to a quote and I’m going to paraphrase it, and forgive me because I don’t remember who said it but, you know, “Business is no longer what the business says that it is. It’s what the customers tell each other that it is.” Right, and that, I think, at least to me, perfectly sums up validation where we’re going through this process and, of course, you know, the person in this franchise development role that’s taking you through, obviously is going to be hopefully trustworthy and not be, you know, selling you on something that doesn’t exist, but at the same time they’re going to tell you, you know, paint the best picture of what you’re doing as possible.

But when we talk about what customers tell each other it is, I think that’s that don’t you wish you could, you know, call somebody who’s already bought the car that you’re looking to buy and say, “Okay, well what’s it really like? You know, the sales guy’s telling me that it’s got this, that, and the other thing, but you drive it every day. You tell me what it’s like.” So I think that’s…you know, just to summarize validation, it’s the review process. It’s talking to people who have made that investment who are living what you’re deciding whether or not you want to live every day and talking to the people who are doing it.

Mike: Yeah. Validation is a great balance to the corporate check. So, I’m just…maybe I’m idealistic when I say this, but I believe that most franchise companies hire development people for all the right reasons because they want to strengthen their system. They want to strengthen their validation. They want to help people live that American dream. And I think most franchise systems that hire people to help candidates to a process bring in people that have all good intentions. But even if they didn’t, it wouldn’t matter. It wouldn’t matter what that franchise development person told you. Because in the end, validation is a great equalizer. When you get into those reviews, as you call it, and you’re talking about the business and the realities of what the corporation is and what the structure is and what the talent level is, you know, and what the programs are and how strong the foundation is and, you know, what money can be made, etc., etc., when all is said and done, validation is a great equalizer to any development process.

So I know we’re going to go in other areas after this, but I wouldn’t get hung up on the development process and who’s there other than if you don’t like the person, you shouldn’t work with the person, you should move on. But if I was a candidate about ready to go through the process, what I would tell them today, after 28 years, is you need to understand the company and the industry. You need to look at their FDD. You need to get into validation because those steps…you know, franchise agreement aside, you can take all the time in the world to review a franchise agreement. Most companies franchise agreements are what they are. Most franchise attorneys will tell you they’re slanted towards the corporation because they have to protect the brand.

You know, they’re not going to make changes. So even if you’re reviewing the franchise agreement with an attorney, most of them will say they’re not going to make changes. So the review is about making sure you understand the terms and what you’re liable for. But validation is what will ultimately protect you from any franchise company that is unscrupulous or that isn’t doing things the right way. Trying to move a process too fast, trying to get you to sign a contract and pay your money. For those that are out there, validation will equal that every time.