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Valuing a Franchise Brand: What You Need to Know

Valuing a franchise encompasses a broad spectrum of considerations, from economic performance at the unit level to the adaptability of the franchisor and the strategic foresight of the management team.

Last year, the franchise industry witnessed several notable mergers and acquisitions. Main Squeeze Juice Co. bought I Love Juice BarDarden bought Ruth’s Hospitality Group and, in the year’s biggest transaction by far, Roark Capital bought Subway.

So, when it comes to setting a price for these massive companies (Subway, for example, sold for nearly $10 billion), how can franchisors get the most bang for their buck? With over 821,000 franchised units operating across the United States for a total output of $893 billion, the valuation of these franchise brands is a complex, yet critical consideration for potential buyers and sellers. 

1851 Franchise spoke with Alicia Miller, Managing Director at Emergent Growth Advisors and author of “Big Money in Franchising: Scaling Your Empire,” to gather some insights and best practices. 

The Cornerstones of Franchise Valuation

One of the pivotal elements in valuing a franchise is understanding unit level economics. "Are franchisees making enough money? If they aren’t, it doesn’t matter if the business is making enough in cash," said Miller. “Despite a franchise like Subway boasting significant EBITDA and cash flow, the weak economics at the unit level can lead to closures, affecting overall valuation.”

Moreover, the composition of a franchise's revenue is scrutinized, with a preference for recurring streams such as franchise royalties over one-time fees. "Recurring revenue, franchise royalties, rebates are valued more highly," Miller said, pointing out the importance of a comprehensive quality and risk assessment of cash flows.

Management teams also play a crucial role. Their decision to stay post-acquisition can significantly impact the franchise's valuation, especially if deemed strong and capable of driving future growth. 

Furthermore, the brand’s expansion strategy will be under the microscope. “Rapid expansion through selling many units quickly can be viewed skeptically by buyers, potentially leading to a discounted valuation,” said Miller. “Waiting to open these units before selling can increase the franchise's value.”

Restrictive Covenants and Adaptability

Restrictive covenants in franchise agreements, including marketing limitations and transferability, are all part of the valuation mix. However, as Miller suggests, the primary focus is on whether the franchise operates as a "well lubricated, thoughtful process" for cycling operators in and out, rather than the specifics of the agreement itself.

Adaptability to industry trends and regulatory challenges is another critical factor. The ability to navigate and adapt to changing market conditions signifies a robust, future-proof business model, attractive to potential buyers. Scarcity can also play a role if an industry is particularly underserved.

Due Diligence is Key

For franchisors considering a sale, Miller recommends a proactive approach. "Think holistically about the objectives and closing the gaps beforehand if you can,” she said. “It will make you more valuable in the long run.”

This could involve enhancing franchise salesimproving marketing to boost same-store sales or resolving legal disputes to present a more cohesive and attractive opportunity to buyers.

“Buyers assess whether the brand meets or exceeds their expectations — how much of the future are we willing to underwrite given that it is unproven?” said Miller. “Franchisors often end up in a sale process before thinking it through. Are you personally ready for this? Younger brands with limited track records should focus on building their business to attract buyers.”

Overall, valuing a franchise encompasses a broad spectrum of considerations. “My entire consulting practice is based around reverse engineering a business that will attract both buyers and potential franchisees — they are kind of the same,” said Miller. “If you build it, they will come.”

As the market continues to evolve, understanding these key factors will remain essential for navigating the complexities of franchise ownership and valuation.

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