You have completed all the due diligence, attended Discovery Day and met with the franchise company’s founders and management team. You are excited to take the next step and move forward to start your own franchise business. But how do you finance this investment?
There are several ways entrepreneurs finance their franchise investments. You need to fully understand your capital position before you sign a franchise agreement. Carefully consider your risk profile, working capital needs and future expansion plans before making a financing decision. Most franchisees will combine two or more sources of capital when starting a franchise.
Here are the most common methods of financing your franchise launch:
- CASH ON HAND.This is the safest, lowest risk and most common way people finance their franchise investment. By using idle cash, they can avoid interest costs and debt service risks while putting their capital to work.
- SELLING LIQUID SECURITIES. Many long working corporate executives find that their entire net worth is tied up in the stock market. Thus, diversifying by liquidating some securities and putting part of your portfolio into your own business can make a lot of sense.
- PORTFOLIO LOAN. For some franchisees with large securities portfolios, they find they can borrow against their stock and bond portfolios without liquidating them and get very low interest rates. Most banks or brokerages are pleased to provide portfolio loans at a low cost to investors. There are no restrictions on how you use the loan proceeds.
- HELOC. A home equity line of credit, or HELOC, is a popular way for potential franchisees to finance their investment. This is usually in the form of a second mortgage on your primary residence and can tap the unutilized equity in your home to put into your business. There are no restrictions on how you use the loan proceeds.
- 401k / IRA ROLLOVER. Also called ROBS (Rollover for Business Startups), this IRS-proven method will rollover all or a portion of your current IRA or 401k balance into a new plan that invests in your company’s stock instead of the broader market. This is a very common and popular way for franchisees to diversify their investments and start a franchise without debt. You will need to work with a specialized custodian to complete this method but there are several quality national providers that work exclusively in franchising.
- SBA LOAN. Most banks have loan programs that will loan to small business entrepreneurs with a guaranty from the U.S. Small Business Administration (SBA). Many franchise companies are already registered with the SBA, making loans easier to process and more quickly approved. SBA loans are much easier to get approved due to the government guaranty, although there are loads of paperwork and fees involved. Due to the nature of bank regulations, conventional loans are hardly ever available to a new franchisee unless you provide unrelated collateral. There is plenty of variability in the terms you may receive from different banks, so it pays to shop around if you are seeking an SBA loan.
- PARTNERS. Many franchisees have friends, family or business acquaintances that are looking for business investment opportunities. There are many variables and important business terms to consider before taking on a partner in business and you will want to explore the legal ramifications before considering a partner. The most important advice usually offered by attorneys is to plan your exit strategy up front in any partnership or LLC agreement. But if an appropriate partnership agreement outlining control, exit strategies, duties and obligations of each partner is completed, this can be another possible way to fund your growth.
Check with the franchisor first about financing options.
- FRANCHISOR. Depending on the type of franchise and cost of build-out and/or equipment, the franchisor may have financing programs in-house or with a closely aligned program lender. Especially if you are in an industry heavily reliant on equipment, the franchisor will likely have negotiated national leasing arrangements to expedite the opening of its franchisees. This can often be the most attractive source of funding, especially if there are no personal collateral or guaranties required.
- ALTERNATIVE LENDERS. There are several specialty lenders that have programs for equipment or other asset-backed or unsecured loans. While these are not ubiquitous, there are quality loan brokers who can source and identify financing to meet your specific needs. Certain franchise businesses, such as salon suites, are not SBA-approved so alternative lenders have created loan programs to fill the void.
Whether using any of the above strategies, some combination of providers or other sources, financing your franchise investment is a huge decision and should not be taken lightly. Many candidates find that the available financing options may help them decide between two finalist franchises in consideration. When in doubt, talk to a trusted franchise consultant for referral to experienced franchise lenders to understand your options.
David Busker is the Founder of FranchiseVision and a Franchise Consultant with FranChoice, the premier national network of franchise consultants. David helps candidates exploring franchise ownership to set their criteria and then matches them with the perfect franchise. Learn more about David at FranchiseVision.
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