When you franchise your business, you may wonder, “Do I have to show prospective franchisees my financials?” The answer is yes, but probably not the financials you are thinking about.
As part of the franchise development process, financial statements are prepared for your franchising company. This is the company that will be offering franchises and supporting your franchisees. These financial statements are included in the Franchise Disclosure Documents (FDD) that will be prepared so you can legally offer franchise in the United States. These financial statements are intended to help an applicant understand the financial strength of the company behind the franchise opportunity.
This is different from simply handing someone the financial statements from the business you already operate.
Your Franchising Company is a Separate Business
When you begin the steps to franchise, one of the first things we will do is create a separate business entity for your franchising activities.
Think of it this way. You already have a business that sells products or provides services to customers. Your new franchising company is in a different business, the business of franchising. Its purpose is to offer franchises, train franchisees, provide support, guidance and help pave the way for someone to successfully operate your business in their market without being left alone.
Creating a separate entity also helps segregate the liabilities of your existing business (your company-owned location) from the liabilities associated with franchisees operating their business.
So when we talk about the financial statements that prospective franchisees will see, we are talking about the financial statements of your new franchising company.
Why Does Your Franchising Company Need Financial Statements
A prospective franchisee is considering making an investment in your franchise system. Naturally, they want to know about the company offering franchises and who is behind that curtain.
One way they can do that is by reviewing the financial statements of your franchising company.
Those financial statements are included as part of your Franchise Disclosure Document and provide information about the financial condition of the franchising company (to further understand the FDD take a look at “What Are the Elements of a Franchise Disclosure Document?“).
In simple terms, an applicant should be able to get some idea of how financially strong the franchising company is and whether it appears to have the resources to meet its obligations and support its franchise system.
There are also federal and state regulatory requirements surrounding the financial statements included with your FDD. Bottom line is that it is a federal requirement that the company offering the franchises must show financial statements.
But My Franchising Company is Brand New. What Financials Could it Possibly Have?
This is where many business owners who are wanting to jump into franchising get confused.
You just created the franchising company. It hasn’t sold any franchises. It hasn’t collected franchise fees. It hasn’t received royalties. So naturally you may be thinking:
“What financials could I possibly show?”
Remember, every franchising company has to start somewhere.
As part of the franchise development process, there will come a time when you will need to fund your new franchising entity. In other words, you put money into the new franchising company so that it has working capital to begin operating and supporting its franchise activities (no different than you first start any business, you need a bank account with working capital).
The amount isn’t necessarily the same for every franchisor. There are a number of factors that can affect how much money you should fund your new franchising company (for more detail take a look at “Beyond Development: Funding Your Franchise Company“).
The important point is that your new franchising company isn’t expected to magically have years of operating history when you just created it.
Why Funding Your Franchising Company Matters
Think about this from the perspective of someone considering your franchise.
You don’t want your new franchisee who is paying you a franchise fee to become a franchisee and then doubt whether you have enough capital to fulfill your responsibilities to them.
Your franchising company needs the financial ability to perform the obligations that we will define when we build your franchise program. This can include things such as onboarding franchisees, providing training and providing other deliverables. To be clear, this does not include any monies you spend to advertise or market your franchise opportunity. This type of expenditure, according to franchise examiners and as defined in the franchise rule, is considered normal business expenses and is not a deliverable to the franchisee.
That’s why the financial strength and the net worth of the franchising company matters.
The financial statements help provide a picture of the company that stands behind the franchise program. As your franchise system grows, those financial statements will eventually begin reflecting the actual financial history of your franchising company.
Don’t Confuse Financial Statements with Financial Performance Representations
Here’s another area where business owners who are wanting to jump into franchising sometimes get confused.
The financial statements of your franchising company and a Financial Performance Representations are two completely different things.
The financial statements we’re talking about in this article relate to the financial condition of the company offering the franchises (the franchisor).
Financial Performance Representations relate to information about the financial performance of the businesses operating under the franchise system.
That’s an important distinction (for clarity take a look at “Financial Performance Representations vs Audited Financial Statements“).
If you’re wondering whether you have to show prospective franchisees the financial performance of the business you currently operate (your company owned location), that’s another great question and one we fully address in “Franchise Myth: A Business Needs to Show Financials to Franchise.”
Financial Statements Are Just One Piece of Your Franchise Program
Financial statements can sound complicated when you first start researching the idea of turning your business into a franchise, but the basic concept really isn’t.
You create a separate company for your franchising activities. That company is funded so it has the financial resources to begin operating. Financial statements are prepared for that company and included with your FDD so applicants can learn about the financial condition of the company offering them the franchise. Bam, its that simple.
As your franchise system grows, the financial statements grow along with it.
At The Franchise Maker, we explain and walk you through all the steps to become a franchise as part of our franchise development services so you fully understand what is being done, why it is being done and how all the different pieces fit together. If you’re thinking about franchising your business and have questions about the process, call us directly at 1-877-615-5177 and we’ll be happy to answer them.
- About The Franchise Maker
- Why Do People Buy a Franchise
- What is Your Role as a Franchisor
- How Do I Make Money Franchising
- What to Look for in a Franchise Development Company
