Buying a franchise gives you the opportunity to start a business using an established brand and business model, but you still need to determine whether opening your particular franchise location makes financial sense.
How much money will you need to open? How much could the business generate in sales? What will payroll, rent, royalties, marketing fees, inventory, and other expenses cost? How much financing will you need? And could the business generate enough cash flow to support the proposed loan payments?
Financial projections can help you answer those questions before committing your money.
They can also be an important part of applying for an SBA or other business loan to finance a new franchise.
The good news is that you don't necessarily need to hire someone to build an expensive financial model or create complicated spreadsheets yourself.
You can use StartSmart to build financial projections and supporting financial documentation for one franchise business completely free.
Why Do You Need Financial Projections When Buying a Franchise?
A franchise may come with an established operating model, but that doesn't mean every franchise location will have the same financial results.
Your individual business can be affected by factors such as:
- Location
- Rent
- Local wages
- Staffing requirements
- Financing
- Franchise fees
- Royalty fees
- Marketing fees
- Local demand
- Pricing
- Startup costs
- Working capital requirements
That's why it's important to build projections around the specific franchise business you're considering opening.
Financial projections can help you understand what needs to happen financially for the business to work before you sign a lease, take out a loan, purchase equipment, or invest your savings.
Why Might a Lender Ask for Franchise Financial Projections?
If you're applying for financing to open a franchise, the business doesn't yet have its own operating history.
A lender therefore may need to evaluate the assumptions behind the proposed business and its expected financial performance.
Depending on the lender and transaction, financial projections can help demonstrate:
- How much money is required to open the business
- How the financing will be used
- How much money you're contributing
- How the business is expected to generate revenue
- Expected operating expenses
- Projected profitability
- Projected cash flow
- Expected loan payments
- The business's potential ability to service its debt
Requirements vary by lender, loan type, franchise, and transaction, so always follow the specific documentation requirements provided by your lender.
What Should Franchise Financial Projections Include?
A useful franchise financial plan should go beyond simply estimating annual revenue and profit.
It should connect the major assumptions behind the proposed franchise and show how they may affect the financial performance of the business.
Startup Costs
Start by identifying everything you'll need to spend before opening.
Depending on the franchise, this might include:
- Initial franchise fee
- Equipment
- Furniture and fixtures
- Lease deposits
- Leasehold improvements
- Initial inventory
- Technology
- Licenses and permits
- Professional fees
- Insurance
- Pre-opening payroll
- Initial marketing
- Training-related expenses
- Working capital
The franchisor's Franchise Disclosure Document, or FDD, may provide useful information about certain estimated initial investment requirements.
However, your actual costs may differ based on your location, financing, local costs, and other circumstances.
Franchise Fees and Royalties
Franchise businesses can have expenses that an independent startup may not.
For example, you may need to account for ongoing royalty payments, advertising or marketing fund contributions, technology fees, or other recurring franchisor charges.
These costs should be incorporated into your projections so they affect future profitability and cash flow appropriately.
Revenue Projections
Next, estimate how the proposed franchise could generate revenue.
Depending on the business, revenue assumptions might be based on:
- Customers per day
- Transactions
- Average transaction value
- Units sold
- Memberships
- Recurring customers
- Available capacity
- Pricing
- Expected growth
Avoid simply choosing the amount of revenue you want the business to generate.
Instead, build the forecast around assumptions you can understand and explain.
If the franchisor provides financial performance representations in Item 19 of its FDD, that information may help inform your assumptions. However, not every franchisor provides an Item 19 representation, and historical results from other franchise locations don't guarantee what your location will achieve.
Operating Expenses
Estimate what it will cost to operate your specific franchise location.
Depending on the business, expenses might include:
- Payroll
- Rent
- Utilities
- Insurance
- Supplies
- Inventory
- Marketing
- Software
- Professional services
- Repairs and maintenance
- Franchise royalties and fees
- Other operating expenses
Make sure your assumptions reflect the market where you intend to operate.
For example, payroll and rent can differ significantly from one location to another.
Staffing Costs
Many franchise concepts depend heavily on employees.
Your financial projections should account for how many employees you'll need, when you expect to hire them, their wages or salaries, and other compensation-related expenses.
Timing is particularly important.
Hiring a full team several weeks before opening can create a different cash requirement than gradually increasing staffing as sales grow.
Loan and Financing Assumptions
If you're borrowing money to open the franchise, include the proposed financing in your financial plan.
That may include:
- Loan amount
- Interest rate
- Loan term
- Expected payments
- Owner contribution
- Other financing sources
The projections should reflect the effect of those loan payments on future cash flow.
Sources and Uses of Funds
A sources and uses schedule helps show where the money required to open the franchise is coming from and where it will go.
Sources could include your own investment, loan proceeds, or other available financing.
Uses could include the franchise fee, equipment, construction, inventory, working capital, and other startup expenses.
This can be particularly useful when preparing a financing package because it connects the amount you're seeking with the actual financial requirements of opening the business.
Projected Financial Statements
A complete set of franchise projections should typically include forward-looking financial statements.
Projected Income Statement
The projected income statement estimates future revenue, expenses, and profitability.
Projected Cash Flow Statement
The projected cash flow statement helps you understand when money is expected to enter and leave the business and whether available cash could become tight.
Projected Balance Sheet
The projected balance sheet estimates the future assets, liabilities, and equity of the business.
Together, these statements provide a more complete picture than a simple sales or profit forecast.
Break-Even Analysis
One of the most useful questions to answer before buying a franchise is:
How much does this business need to sell before it can cover its costs?
Break-even analysis helps estimate the level of revenue required for the business to cover its expenses.
You can then compare that amount with your expected sales assumptions.
If the business requires substantially more customers or sales than you believe are realistic, that's something worth discovering before you've invested your money.
DSCR and the Ability to Repay the Loan
If you're borrowing money, profitability isn't the only consideration.
The business also needs cash to make its loan payments.
Debt Service Coverage Ratio, or DSCR, is one measure lenders may use when evaluating whether available cash flow is sufficient relative to required debt payments.
The exact calculation and acceptable level can vary depending on the lender and transaction, so follow your lender's specific requirements.
Including DSCR analysis in your financial planning can nevertheless help you better understand how the projected performance of the franchise compares with its debt obligations.
Don't Automatically Assume the Franchise Will Perform Like Other Locations
One of the advantages of buying a franchise is having information and experience from an established system.
But you are still investing in an individual business.
Another franchisee's results may reflect a different market, rent structure, wage environment, financing arrangement, operating history, or owner.
Use information provided by the franchisor to inform your planning where appropriate, but build projections around the economics of the franchise you are actually considering.
That's ultimately what you're trying to determine:
Does this franchise opportunity make financial sense for me, in this location, with my costs, financing, and assumptions?
How Can You Create Franchise Financial Projections for Free?
You could build a franchise financial model yourself using spreadsheets, but you'll need to create the formulas, connect your assumptions to the projected financial statements, calculate loan payments, and make sure changes flow correctly throughout the model.
You could also hire a professional to build the projections for you.
StartSmart provides another option.
StartSmart guides you through questions about the new franchise business you're planning, including startup costs, revenue, expenses, employees, financing, and other assumptions.
It then automatically performs the financial modeling and calculations needed to turn those assumptions into a complete financial plan.
StartSmart can help you create:
- Projected financial statements
- Startup cost schedules
- Sources and uses of funds
- Revenue and expense projections
- Employee cost projections
- Loan projections
- Cash-flow projections
- Break-even analysis
- DSCR analysis
- Other supporting financial documentation
And you can use StartSmart to plan one franchise business completely free.
Create Financial Projections Before Investing in a Franchise
Buying a franchise can require a significant financial commitment.
Before paying a franchise fee, signing a lease, borrowing money, or investing your savings, you should understand the numbers behind the business you're considering.
Financial projections won't tell you exactly what will happen after you open.
They can help you understand what needs to happen for the business to work, how much money you may need, where financial pressure could occur, and whether your assumptions appear reasonable before you commit.
And if you're preparing to apply for financing, those same projections can help you organize the forward-looking financial information your lender may need to evaluate the proposed business.
Use StartSmart to create a complete financial plan, projections, and supporting financial documentation for one franchise business completely free.
