Huddle House Drops Franchise Fees
ATLANTA – Huddle House, an Atlanta-based chain that has slowly built a network since 1966 of 400 restaurant franchises, largely in the Southeast and MidWest, announced Wednesday that it would lower its licensing fee from $25,000 to just $5,000. It is also waiving the first five months of franchise royalties.
It's not just Huddle House that is hungry to find franchise buyers: in this environment, small business buyers are having a particularly difficult time finding adequate capital, resulting in fewer viable applicants. Entrepreneurs are complaining that banks are not giving out loans for small business expansion. As a result, Technomic, a leading food research and consulting firm, expects sales in the restaurant industry to decline 1.6 percent this year. And that’s an additional dip from the 3.5 percent drop in 2009.
Despite such bad economic news, Huddle House’s chief development officer, Thomas Flaherty, thinks the restaurant chain could be growing at a nice clip if buyers didn't have to dig so deeply into their pockets. “The exciting thing is that there is still a great deal of growth potential,” he states.
To give the chain a leg up on the competition, Huddle House buyers can now get into owning and running a restaurant on the cheap.
“This program allows existing and new Huddle House franchisees the opportunity to develop with a lower cost of entry. Also, the savings in paying no royalty for the first five months provides fuel for new restaurants to advertise more heavily during the initial stages,” says Huddle House’s chief development officer, Thomas Flaherty, who recently came on board from Papa John’s.
But is the lowering of a franchise cost necessarily a better value for buyers?
Peter Birkeland, franchise and small business consultant, thinks it's a bad sign when a franchisor drops its licensing fee. “Once you decide to discount the price of any product or service, you have commoditized yourself, so that the only characteristic that people look at in deciding to purchase your product or service is price,” says Birkeland.
A franchise (licensing) fee is the initial price that a franchisor charges to be a licensee. Franchisors explain the fee as compensation for finding, negotiating and sometimes training the buyer. Franchise fees are typically not methodically broken down to reflect actual cost structures. So these fees tend to be rounded numbers like $5,000, $25,000, or $40,000.
“Price is not the most significant factor in a market economy. It's value,” declares Birkeland, author of the book Franchising Dreams: The Lure of Entrepreneurship in America. “If something is a fair value then it should never be discounted. Harvard doesn't compete with Stanford by lowering its tuition, but by creating a unique experience, a better education, lower student-faculty ratios, or any number of qualities that increase the value of a Harvard education.” He also argues that lowering license fees and providing royalty holidays can weaken a franchisor financially, pulling it away from needed restaurant support.
Huddle House CEO Phil Greifeld sees it another way. “Many good investments are made during a down economy,” says Greifeld. “And our incentive program provides a great investment benefit to both existing and new franchisees.”
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1. What signal are you sending when a) the franchise fee is discounted, b) the franchisee fee is deemed earned by providing the necessary support for the grand opening, but c) the franchisor continues to pay substantive referral fees to franchise brokers?
2. Loaning money to people who cannot afford to pay for the franchise fee is akin to loaning money to people who cannot afford the 5% down on a mortgage for their residential property.
3. The franchisor is better off expanding the network by lending money to their own multi-unit holders, or by establishing an operator rent to own scheme instead of signaling to the world that the value of their start-up assistance is zero.
Michael Webster, a franchisee attorney in Toronto, Ontario, publishes a website on business opportunities and franchises called "The BizOp News"
Canuck commented:
"Loaning money to people who cannot afford to pay for the franchise fee is akin to loaning money to people who cannot afford the 5% down on a mortgage for their residential property."
That kind of thinking is why Canadian banks didn't get billions in TARP money.
Here in America, we don't worry about whether we can afford it. We just ask the Chinese for a loan.
"Doing God's work" as I like to say.
Count me as one who loves to see franchisors discount their fees as done by Huddle House. The goal of the franchisee should be to get their highest return on invested capital. Franchisors should be more willing to price according to demand, and just because an opportunity has lower fees doesn't mean I'm going to get a lower return on my invested capital.
Nearly all industries (and even financial instruments liked bonds) fluctuate their pricing based on many internal and external factors, particularly balancing prices with demand. Selling franchises should be no different.
Support suffers to the point of reduced sales for the franchisee if fee are discounted? Perhaps in some instances, but it is the exception rather than the rule. Per franchisee support expenses between can vary tremendously between franchisors, and the use of technology and other efficiencies can dramatically reduce support expenses. Maybe the franchisor's fees were too high to begin with and now they are drifting in line?
If I paid the full boat for a franchise and developed more, why would I want some nver do well getting a free franchise established near me to bleed off the sales that i need to get MY return on my investment capital. This free franchise bozo has ZERO investment capital.
Ryan;
You might like this thread.
Michael Webster, a franchisee attorney in Toronto, Ontario, publishes a website on business opportunities and franchises called "The BizOp News"
...are expected when it comes to discounts and such. In the end, however, one doesn't rely on a discounted initial fee or temporarily reduced royalties to get the "highest return on invested capital".
Franchise candidates should rely on the due diligence mentioned here, the strength of the concept, general marketability, and moreover as due diligence is concerned, the financial health of existing franchisees. A "bargain" initial fee or temporarily reduced royalties should NEVER be the deciding factor for anyone considering a franchise opportunity. Unlike "many industries" franchise agreements typically have a ten, twenty, and even 40 year term with renewals. You just simply don't make a decision based on year one as that would be foolish. Many a "Franwack" will promote the franchise via short lived reductions...ultimately, these concepts either don't hold up or aren't doing well to begin with.
Once again, caveat emptor.
Come on - I wasn't suggesting investors focus on year one returns, nor was I suggesting you ignore non-financial issues. I am suggesting that a franchisor reducing upfront and ongoing fees often can, but not always, make the investment more attractive.
Projecting your return on invested capital is based on the entire expected life of the investment. After you review your expected return on invested capital, then you consider and adjust for intangible factors such as franchisor quality, location, levels of controllable and non-controllable expenses, desired income and investment return given the risk, alternative investments, and so forth.
There is a difference between discounting a pair of sunglasses toward the end of summer and discounting stale bread. The discounting of franchise fees and the various other ‘giveaway’ type incentives available to sell a franchise is always a sign that the franchisor is desperate to get signatures on contracts and the franchise offering is not proving itself investment worthy. Or they would not discount would they.
Such offers of discounted introductory fees, discounted assignment fees and the ’gift’ of financial support for business setup all target the gullible who don’t appreciate that the limited value of those ‘gifts’ over the period of the contract and where they pale into insignificance when one evaluates the royalty plus the franchisee’s financial feed for any other revenue streams, abusive or not, over the period of the contract that assigns the franchisee to a product that was deemed by the franchisor to require desperate acts to ‘bait’ the mark.
You point out that a franchisor may have found he/she had erred in original calculations and the discount merely brings the fees back to where they should have been. I would suggest this is highly unlikely to be a motivator for a franchisor to reduce fees. I don’t doubt for one mille-second that there are situations where franchisors try to squeeze way too much from gullible newbie franchisees on the basis of a ‘you’ll never get it if you don’t ask’ level of deliberation. But when they cannot ‘sell’ the product because the product ain’t investment worthy their fallback is to discount to a new more gullible market of franchisees. Discounts target, in a very large way, a new market of even less sophisticated investors.
‘just because an opportunity has lower fees doesn't mean I'm going to get a lower return on my invested capital.’ It certainly doesn’t mean you will get any ROI and the liklihood increases that you won't.
Whether support costs suffer or not that point in relation to discounting franchise fees and ‘gifts’, is practically irrelevant. If the franchisee chooses to sign a contract where support costs mostly or entirely cover the franchisor’s administration of the franchise network then consideration of those costs doesn’t add to the investor’s consideration of any ROI. I would suggest that unworthy franchise investments are very likely to contain ‘support’ that offers little, if any, value for the franchisee.
Quality systems offer quality support and the franchisee benefits from reduced or eliminated need to outsource support. But quality systems; investment worthy franchises, don’t discount and they don’t guess as to the investment level required by prospective franchisees.
Perry; watch out for Darnelle or he will be suggesting your comments are self-interested spam and not a worthy contribution.
I'm confused. I do not see a Perry posting here. I just see attorney Ryan Knoll, aka FranchisePundit.
Why is the comment above titled, "Perry, oh perry"?
mny apologies .. but the comments stand.
We’ve all seen the inflatable castles at fairs where kids get their parents to spend some pennies so they can squeal and be bored within minutes.
Last year Jumping J-Jays was giving away a ‘free’ franchise. Bewdiful; except what was being promoted as a little effort weekend pocket money investment came with a contract where few were interested and where those that had signed found an obligation to spend a few additional days a week marketing the ‘castle’. And all for pocket money and as a distraction from any interest that might produce a worthwhile income.
That is only one example of many that invade the market but it came to mind after last weekend after watching a 2 young girls from the local pony club making a killing selling rides while the contracted castle guy destined to have the bum out of his pants for as long as his contract lasted, at least, sat drinking coffee and reading the newspaper. And 20 feet from a long line of kids waiting for their pony ride with no interest in bouncing up and down because their parents probably bought a $200 trampoline.
Over the last 18 months in particular there have been many ‘gift’ franchise offerings and perhaps that reflects a need to reduce franchisee borrowings or perish as banks take more interest in investment worthiness.
When a franchise is discounted it is a reasonable indication it is not investment worthy and indeed might be considered to be a FranWhack!? If in doubt and unable to walk away from ‘free’ then some serious due diligence is the only fallback.
Agree with writer above that potential franchisees should not be swayed via one time or temporary discounts of initial franchise fees or royalties. There is no substitution for doing proper due diligence, including having a full multi-year, multi-scenario cash flow projection, and a year or more of funds in reserve.
One major problem is lack of credit and associated higher equity infusion /underwriting standards. If the zee can't get past this, then there is no unit. What about a dedicated supplmentary franchisor originated supplementary loan pool, for franchisees, to bridge the higher equity infusion requirements?
John A. Gordon Chain Restaurant Earnings and Economics Experts www.pacificmanagementconsultinggroup.com
...prospective franchise candidate would not, and should not, be swayed by a discounted fee or reduced royalty structure. Unless you were looking at a particular franchise opportunity based on its merits, and because you were interested anyway, it should be the "due diligence" and independent review that convinces the prospect...not the equivilent of a "Franchise Coupon" offering.
Discounted initial fees and royalties = No prospect pipeline and a need to "make the numbers".
Caveat emptor...
Discounts tend to be a wonderful indicator .
Licence fees, or assignment fees, are simply cream for franchisors and as the blog infers, they are seem more often than not to be calculated on a ‘what will they pay’ basis. The real money is in royalty and additional revenue streams over the contract term.
Unless we are talking about start-ups, Contracts and Operations Manuals are ready to go having been refined and duplicated many times over. The cost involved is minimal although the fee to the new franchisee is usually inflated and sometimes to a ridiculous level. Training is a real cost and while it should reflect quality it can also be inflated. Another aspect that is built into licence fees is any broker commission and those franchisees that didn’t go through a broker get to pay it anyway.
Such inflations have been almost a luxury available to quality franchise offerings and those who sell well on glitz and glamour when the offering is less than investment worthy in markets where credit has virtually been a formality.
The times they are a changing and as Richard Solomon suggested a week or so back in relation to fitness franchises, banks tightening credit are a gift from God. The feedback I get is that franchise offerings, generally, continue to attract strong levels of inquiry.
The problem seems to be that now the banks are more interested in their investment risk and loan rejections reflect the suitability of the franchisee investor and the history of the franchise model. ‘Suitability’ referring to the likelihood that the prospective franchisee has what it takes to be successful and in whatever franchise is on the table.
I have done very little reading on the Huddle House franchise but when I see a network of 400 that took 44 years in the US restaurant market to get to discounting then I suspect due diligence might just be a problem for franchisee investors and their banks.
Startups are finding it tough at this time but perhaps that is a good thing as many are FranWhacks and the banks should have been more discerning a long time ago. In many instances the selective attitude of financiers is truly a gift from God.
I suspect that in a year or two franchise lenders will mostly return to; ‘A recylicable coat hanger franchise – Way to go Mr Flintstone’ approach.
I would suggest that for the most part, discounting licence fees and the various other ‘special – buy now’ gambits on the market reflect on the barriers that more ‘interested’ banks now have in place.
In suggesting all that; I was recently contacted by a franchisee complaining that his system’s renewal fee had been increased from $10,000 to $15,000. He suggested it was a good franchise and his investment had produced more than a healthy return and he wanted to resign. His franchise has growth that I would describe as considered and ‘healthy’. I was aware that in lesser quality and questionable franchises in that particular industry licence fees typically ranged from $35,000 to $60,000. I doubt he will contact me again.
Not long back I was asked an unrelated ‘Can I’ question by a franchisee which when interpreted back amounted to ‘Do you want to breach you contract’ – ‘No!’ – ‘Then best you get back to work and making money’. As it turns out in that system there are no upfront licence fees. The franchisor charges what the market would consider a minimal exit fee.
The idea being that new franchisees be in the best position to get to breakeven in the case of Greenfield sites or get to investment return status in the shortest possible time where they commit to 6 months of consistent quality local marketing going in. No doubt the franchisor noticed that this approach lefts royalty revenue quickly and ensures his ‘no failure’ policy is maintained. The ‘franchisee attrition rate’ reinterpreted to mean in this system ‘retirement rate’.
Discounting always means ‘something’. What the ‘something’ is in franchise offerings has to be determined by effective franchisee due diligence but as a ‘rule of thumb’, I would generally recommend ‘walk away’.
Forget royalties. The real money for the franchisor is in selling overpriced food and supplies to captive franchisees. Unless Huddle House franchisees buy through a FRANCHISEE controlled co-op my advice is to stay far, far away.
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