Investing in a Foreign Franchise

What to know when researching a franchise based outside of South Africa.

Investing in a Foreign Franchise

Investing in a foreign-based franchise poses an exciting business dynamic, as it gives franchisees a fantastic way to take advantage of business concepts that may not exist in the domestic market or that have a unique twist. That said, this dynamic also raises a number of questions in the minds of many prospective franchisees. Some of the most common questions one hears when researching a foreign-based franchises include:

1. How safe is investing with a foreign-based franchise?

The same disclosure requirements that apply to a domestic franchise also apply to any foreign company that comes into South Africa to offer franchise opportunities. The franchise must provide you with a full disclosure document containing information on key mandated factors.

They are also subject to the same consumer protection rules in terms of their behaviour during the process of selling their franchise. Also, you can use the Internet to find out information about any company anywhere in the world. Most prospective franchisees don’t find any significant difference in the research process of a foreign-based franchise company compared to any other, so the fact that they are foreign-based should not, in and of itself, affect your risk in a negative way.

2. What corporate structure do foreign-based franchises typically use in the new country?

Most successful international franchises,in either direction, use a “master licensing” arrangement. In this scenario, the franchisor finds a domestic partner that they contractually agree will develop the franchise in the selected country.

In the case of foreign-based franchises, this is the most typical structure we see. The foreign-based company will research the franchise business in the new country, then interview and select a master licensee that will own and control the franchise rights in this market.

The foreign-based company may own some percentage of this entity or may simply require the entity to pay it fixed or variable fees in exchange for the development rights. The most common alternative to this structure is for the foreign-based company to create a wholly-owned subsidiary in the new country and then hire local employees to run the operation.

3. What extra research do I need to undertake?

It’s always a good idea to check out the track record of any franchise company in relation to their past results. In the case of foreign-based franchises, you effectively have two companies you should research: the local master licensee and the foreign-based main franchise company.

In relation to the local master, you want to make sure you have a track record of performance sufficient to demonstrate that they know what theyare doing and can help you to be successful.

You also need to know that they are strong enough financially to last and support your efforts long term. In relation to the foreign-based franchise company, you may want to gather additional information about the franchisor’s operations in other foreign countries to see how well they follow the standards and values you’re used to in South Africa.Also check on the financial strength of the parent company in case the master licensee in the South Africa encounters difficulty and needs to be supported in some manner by the parent company.

The benefits of investing in a foreign-based franchise

The benefits are many and in some respects are similar to those associated with buying into any franchised business. Perhaps most obvious is the fact that the business is established and has a model that has been proven to work.

Franchises with an international footprint and the proliferation of branches that come with it, generally have systems that have been extremely well tested. In many instances, you will be able to leverage the credibility of an internationally recognised brand and use it to build partnerships and attract clientele. As a local franchisee, you can draw on the collective strength, experience and expertise of a global group with a track record.

4. What if I am the first South African franchisee?

There’s an old adage used in relation to smart money investing in franchises: “When in doubt, send a scout.” The simple fact is that being the first franchisee, or even part of the first group of franchisees, in any system under any circumstances always involves far more risk than waiting until later.

No matter how much experience a franchisor has elsewhere, each country they go into is different. Until they are tested in the real world, the company simply doesn’t know how well their operating systems, marketing, training and brand are going to work.

If you do decide to be a test subject for them in their new South African operation, one advantage you may have relates to bargaining power. The very least you should do is negotiate for some form of an early bird discount of costs, such as the initial franchise fee (or even better – a large special marketing test allowance paid for by the franchisor). This approach will help you, but it still doesn’t change the fact that you will be entering the business with a fair degree of uncertainty.

What are the red flags I should be on the lookout for with a foreign-based franchise company? There is really just one,and that involves the transition of their opportunity into a different culture. There are many examples of U.S.-based franchises that have struggled when they took their concepts to a foreign country because of cultural or language barriers.

Make sure you have taken this into consideration prior to making any investment. If the company has not been operating in the domestic South African market long enough to prove the effectiveness of their concept, you have exactly the same risk as with any other startup franchise – you don’t know for sure that it’s going to work well and should therefore be cautious.

One final piece of advice: When in doubt about anything, ask the franchisor. Don’t be bashful about this, since they have probably been asked the same thing by many others before you and should have the answers to your tough questions all ready to go. Research thoroughly, take the time to do this right, and you should be fine.

Some Drawbacks

A new business idea may allow you a unique opportunity to establish a foothold in the market, but it often means educating the consumer about an entirely new productor service category. Word about trends that are well known overseas may not have reached our shores yet and it will be up to the local representatives of the international franchisor to build the brand and increase awareness about what the new market category has to offer.

This typically requires a big marketing budget so it’s critical to ask probing questions about the company’s plans for marketing and concept roll-out. Is the local franchisor representative committed to educating the market or is that something you as the franchisee will be expected to do? If so, what kind of marketing material will you be provided with and what back-end support systems are in place to assist you? Another factor to consider is fees. If the franchise fees are payable in foreign currency, you will need to factor a fluctuating exchange rate into your planning, something that can have enormous and ongoing implications for your business.

Jeff Elgin
About the Author
Jeff Elgin has developed a consulting system that matches pre-screened, high-quality prospective franchisees with the franchise opportunities that best fit their personal profile.

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