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Franchisees hit by lack of accounting advice

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Franchisees hit by lack of accounting advice

Red flag

Prospective franchisees have been urged to have an accountant run the numbers before buying a business, with one senior adviser suggesting that common “red flags” in franchise agreements can get overlooked by an untrained eye.

Speaking to My Business sister title Accountants Daily, Pitcher Partners principal Simon Johnson said that the recent royal commission should come as a warning that greater regulatory scrutiny is on the horizon for franchisors to prevent franchisee investors from being taken advantage of.

“The royal commission has gone at lengths to look at the investment community and those sorts of disclosures, and certainly there are some parallels with franchising because, at the end of the day, this is a very significant investment for a potential franchisee,” Mr Johnson said.

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“I think there is an onus on people in an influencing position, and in this case we’re talking about a franchisor — it is no different to a superannuation fund or wealth adviser — they are in a position of authority and they are influencing the decisions and choices of the potential investor.

“I see some extra regulation or compliance and best practices being brought into how a franchisor discloses to a franchisee and whether or not it is an investment decision that is going to suit their goals and their aspirations.”

Mr Johnson added: “Until now, that onus of responsibility has not rested on the franchisor.”

He suggested that accountants can play a big role in protecting mum and dad franchise investors, by doing a thorough analysis of the franchise business down to the granular details.

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According to Mr Johnson, some of the key red flags for would-be franchisees include:

  • high franchise fees;
  • expensive locked-in agreements around supplies;
  • compulsory marketing and administration costs that might not benefit the franchise owner;
  • an unwillingness from the franchisor to be transparent about its earnings, about the turnover of new and old franchisees, and whether the franchisor offers assistance in reselling.

“From our own experience, it seems to be unfortunately a little common that the potential franchisee doesn’t really engage their accountant to give them any advice on the potential investment,” the principal said.

“We would really encourage the accountant to be involved early to look under the hood to see the cash flow projections and question the numbers being provided as an average performance for a franchisee, so they can look at the capital required for the business and what working capital sensitivities might be present, what happens if the market has a little downfall, what difference does that make to their cash flow projections and their ability to meet their franchisor payments.

“We really think the accountant should be taking a ruler over the projected profit and loss and delving deeply into the cost of goods sold, if it’s a store buying goods that are procured from the franchisor, and really understanding if there are any sensitivities around those costs of goods sold.”

Mr Johnson’s comments come after the Australian Association of Franchisees questioned the viability of franchising as a business model without urgent and significant legal reforms.

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