How to Spot These 4 Major Red Flags Before Buying a Franchise | Entrepreneur

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We all know that in every industry, there are good, strong, well-managed companies, and then there are some … not so good companies. This is also true in the world of franchising. The challenge can be knowing what to keep an eye out for — especially if you are exploring franchise ownership for the first time.

While there are plenty of strong franchisors, it’s important to understand, particularly for aspiring franchise owners, that there is a lot of work upfront to find the right fit. As a franchise consultant for many years, I’ve developed a list of several warning signs to keep an eye out for when evaluating franchise opportunities.

Here are four red flags to watch out for.

1. The current franchisee feedback is negative

While going through the discovery process, you will have the opportunity to speak directly with current franchisees. Without being rude, ask the honest and blunt questions. A best practice is to establish rapport and ask more general questions at the beginning, then work up to financial questions at the end. If current franchisees are unhappy with the parent company or they don’t see the value in their franchise, this is a major red flag.

Ask these three questions to current franchisees:

Would you do it again?
Are you considering expansion?
How do I fail at this business? (This question enlightens you about the critical skill or trait you need to be successful in that system.)

2. Franchisor leadership makes you uncomfortable

Trust your gut! During the discovery process, you will have the opportunity to meet with franchisor leadership teams. If you are getting bad vibes from the leadership team or their representatives, listen to your intuition. Think of the franchise structure as a business partnership. You both bring something to the partnership and will have obligations to the other — so are these people you can partner with? Finding a trustworthy company is vital.

I know this can sound somewhat esoteric, but it’s important to know this franchisor’s track record. Is this their first rodeo? More specifically, do they have a proven track record for success in franchising? They may be good at delivering their service to customers, but once they franchise, their new business is supporting franchise owners, which is a different skill set. It’s important to look under the hood and see whether this franchisor is a stand-alone or if they have other successful companies under their umbrella of operations.

There are franchises out there that pop up quickly and don’t have the backing necessary to earn your trust. Make sure you dig deeper into the franchisor and their leadership team before deciding to buy that franchise.

3. A questionable fee structure

It’s expected that a franchisor will require an initial fee as well as royalties, but it’s important that you understand the fee structure upfront. While conducting due diligence, if you notice that a certain franchise has significantly higher fees than comparable franchises, this should make your ears perk up.

Items 5 and 6 of the Franchise Disclosure Document (FDD) are fees that you pay to the franchisor. It’s important that you take time to review and compare these items. Understand, not all fees to your franchisor are bad — but you need to understand what you are getting for that fee and how it would be comparable to how you would do it on your own.

For example, say you take a look and see a line item you are paying the franchisor called a “tech fee.” It’s worth your time to consider what this fee is actually covering. Frequently, a franchisor will have the resources to purchase top-of-the-line technology tools because they are purchasing it on a large scale designed to span the needs of their entire franchise operation. In comparison to what you’d spend for a similar lower-end tech product on the market, it’s much cheaper and more efficient. In this case, that “tech fee” is worth it.

4. Sales process is shady

A good franchise is going to be as picky about you as you are about them. If it feels like the franchisors are selling you a bad used car, that’s a bad sign. A good development rep will not just push someone through — they will be evaluating your work history, personality, experience, financial position and expertise. All of these aspects are possible assets to their brand and they should be carefully considering the individuals who will be representing that brand. If you are getting cheap sales tactics and you feel pressured, that’s a red flag.

For example, if you need a new car and are trying to pick between a Toyota Camry and a Honda Accord — both similarly evaluated cars — but you have a terrible experience at one of these dealerships, you’re probably not going to buy that car.

If a franchisor has a bad sales process, that can be an indicator of larger concerns. You should expect professionalism, getting your questions answered and a feeling of transparency. Part of the sales process should also include connecting you with other franchisees in their network.

What is called validation, or speaking with franchisees in a system, is a tried and true part of the sales process that I consider to be one of the most important elements. After all, what better way to learn the good, the bad and the ugly about a brand than by speaking to people who already own the brand? If a brand is keeping you from talking to other franchisees in their network, that’s a huge red flag. A good franchisor will try to get you in contact with as many franchisees as possible.

At the end of the day, it’s impossible to anticipate every possible red flag; however, when you are asking the right questions and know some of the telltale signs to watch out for, you’re ahead of the curve. To avoid these red flags (and others), working with an experienced franchise consultant can be a great safety net.

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