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Franchising Is Safer for Lenders and Entrepreneurs When They Use the Right Tools to Make Better Choices

I financed several start-up restaurants when I was in the commercial mortgage banking business. All of the non-franchised restaurants failed within the first two years. So I studied the restaurant failures to better understand what it takes to underwrite them successfully.
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I financed several start-up restaurants when I was in the commercial mortgage banking business. All of the non-franchised restaurants failed within the first two years. So I studied the restaurant failures to better understand what it takes to underwrite them successfully.

One restaurant failed after four months because the owner ran out of working capital. Another facility bit the dust because of inadequate parking. I financed a restaurant for a gourmet chef who made mouthwatering food but had no financial management experience. It died too.

I learned not to make the same mistake twice each time one of my restaurants closed down. So I financed a new restaurant for an experienced owner with a history of industry success. But that didn't work either. He catered to a young and fickle drinking crowd and paid less attention to his food menu. And when a trendier watering hole opened in the neighborhood, my borrower's customers' loyalty waned and the business closed.

The loans on these restaurants were partially guaranteed by the U.S. Small Business Administration and collateralized by real estate. Furthermore, we sold the guaranteed portions of the loans into the secondary market at a premium. As a result, we were able to recoup some of our losses.

But rather than trying to pick winners and losers, some lenders only finance chain restaurants for successful companies with solid financial statements. Others prefer to finance borrowers who buy units of proven brands.

Franchises are a "pre-tested business model, (have an) operating plan and playbook with which to run 2012-07-17-CharlesGreen72611.jpgthe business," Charles Green said at a webinar. He is the founder of the Small Business Finance Institute, an author and former chief executive of a community bank. Green presented an online program called, "What You Need to Know to Underwrite Franchise Loans." Coleman Publishing produced the event for small-business lenders and franchise professionals.

Green said that SBA has extensive data available about its previous lending to franchised businesses since 2001, sorted by brand, default rate and charge-off rate. He said that presently approximately 11 percent of SBA's lending is to franchise unit buyers, which has been utilized by over 1,000 different brands over the years.

SBA's database is a "rich resource to evaluate future loans and model concepts," Green said. In addition to lenders and borrowers doing their own independent underwriting and due diligence, "SBA is a second set of eyes on a living portfolio with annual updates provided."

"Do you know BoeFly?" Green asked the webinar attendees. "BoeFly connects borrowers and lenders in an online information platform." He also cited the IFA/BoeFly Franchise Lending Index for industry professionals to measure current lending activities compared to historical data. It is a "joint venture with BoeFly and the International Franchise Association "to boost credit and create jobs," Green said.

There are over 2,200 lenders that actively seek qualified loan applicants at Lenders are quickly matched with prospective borrowers who post confidential applications on the website. As a result, borrowers get multiple offers to choose the one that is most suitable for their needs. What's more, closing occurs quickly because all the necessary forms needed to get the borrowers funded are uploaded to the BoeFly site. Lenders can also use the site to sell their loans into the secondary market.

Green mentioned that the Coleman Franchise Report is a "compilation of SBA-published statistics on franchise performance since 2001." Furthermore it is sorted "to reflect total population of franchise loans and their year-to-date performance." It tells you which brands have the best and worst SBA loan charge-offs and failures. That is critical knowledge to have when underwriting a brand. Coleman also provides a "top performers list, reflecting franchises that have less (than) a one percent charge-off rate," Green said.

FRANdata, Green adds, offers access to a 20-year archive of Franchise Disclosure Statements and does extensive research on specific franchise brands that order its Bank Credit Report Document. FRANdata also hosts SBA's Franchise Registry. It lists franchise brands that were previously vetted by the agency to determine that they do not exercise excessive control over their franchisees. The registry does not, however, reflect on the risk or quality of the brand.

Whether you are a lender or an entrepreneur considering franchising, there are tools available to help you make intelligent choices.

Jerry Chautin is a volunteer SCORE business mentor, business and real estate columnist, blogger and SBA's 2006 national "Journalist of the Year" award winner. He is a former entrepreneur, commercial mortgage banker, commercial real estate and business lender. You can follow him at

Copyright © 2012 Jerry Chautin -- All rights reserved
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