Each year franchising needs debt capital in excess of $10 billion to fund more than 30,000 new units
and transfers of existing units. That’s a
lot of money, and the lending community doesn’t seem that likely to meet
the demand—even though collectively
there’s ample lending capital available.
It’s clear that access to capital will be an
issue for the franchise community for
the next few years at the very least.
Who has responsibility for resolving
this shortfall? The stakeholders are the
franchisee, the lender, Congress, and the
franchisor. Let’s look at what each of
them is likely to do, or can do, to solve
the lending problem.
• Franchisees are in the least influential position. They can try to improve
their business operating performance and
do a better job of packaging their loan
request (financials, business plan, and the
like). These steps are necessary but will
only marginally increase the likelihood
of obtaining capital in the short term.
Over a few years, improving their business operating performance will make
a big difference, but that doesn’t help
them gain access to capital now.
• What about lenders? When demand
exceeds supply, freely functioning mar-
kets use price to adjust any imbalances.
In lending, however, price adjustments
are a bit complicated. Loan pricing goes
beyond changes in interest rates, involv-
ing other loan terms such as advance
rates, collateral, proven performance,
and so forth. Lenders assess risk and
create term sheets that reflect the risk
they perceive. Their ultimate risk is that
they don’t get repaid, which is why lend-
ers use risk rating systems for all loans.
They do so to determine, among other
things, the level of reserves they need
to cover losses. When a borrower’s fi-
nancial position is adversely changed,
lenders downgrade the risk rating and
increase their reserves. Lenders that are
regulated (e.g., commercial banks) are
periodically reviewed, and those reviews
may lead to adjustments in their rat-
ings and changes to their reserves. All
of which is to say that supply/demand
in loan markets operates with less than
full freedom. With loan profits taking a
back seat to capital preservation, don’t
expect lenders to ease terms soon.
$5 million, the lending gap will be quite
a bit less for franchising. As noted above,
we know lenders aren’t likely to do much
more in the next few years because of
their perceptions of risk.
• That leaves us with franchisors
to help reduce the lending gap. There
are direct actions franchisors can take
as well as indirect ones. For decades
some franchisors have had internal lending programs or partial loan guarantee
programs for franchisees. Increasingly,
we are seeing franchisors explore such
programs, particularly partial guarantee
programs. If the franchisor’s balance sheet
is strong enough, if the franchise system’s performance is well above average,
and if the franchisor wants to continue
new unit development and/or support
ownership transfers among franchisees,
it makes sense to consider such programs
to enhance access to capital.
Indirect actions are also being employed much more actively during this
credit crunch. Because SBA lending is
prevalent for the reasons cited above,
there has been a rapid increase in SBA
Franchise Registry applications and
renewals. With the shift to local banks
still actively lending but less experienced
with franchise lending, franchisors with
good financial, operating, and system
metrics are making effective use of
tools like Bank Credit Reports to open
lending doors.
Who needs to solve the problem of
franchisee access to capital? While franchisees, lenders, Congress, and franchisors all have a role, in my opinion the
most influential stakeholders in the near
term are franchisors. The lending world
has changed and franchisors with good
metrics should welcome the opportunity
to show the lending community just how
attractive they are. They worked hard for
that performance and now they should
be rewarded for achieving it. n
Darrell Johnson is president and CEO of
FRANdata, an independent research company supplying information and analysis for
the franchising sector since 1989. He can
be reached at 703-740-4700 or djohnson@
frandata.com.
