Franchise sector fares well from recession
ONE of the most vexed issues in franchising is that of business failure rates.
Not all businesses lend themselves to franchising and yet, partly because of the early successes of companies such as Wimpy and KFC, many have turned to it as a way to expand their brand.
There are 40 UK fast food franchisor companies in addition to 15 US fast food franchisors with offices here (and more seeking to come to the UK as the US food service industry stagnates).
Franchising gains particular popularity during recessionary times as those made redundant seek to become self-employed. The most common recommendation at a career crossroads is to become a franchisee and/or open a fast food restaurant.
Of those companies which fail within 10 years of starting business, 50% of failures occur within the first two-and-a-half years and 33% within the following two-and-a-half years.
Within the catering market, the rate of business turnover is such that, during the five-year period of 1986-1991, there were 104,000 VAT registrations compared with 98,000 deregistrations. Further, most face a high degree of risk as they have annual sales of less than £100,000.
The catering sector has, according to government statistics in 1992, accounted for 7.4% of all bankruptcies and 4.1% of all insolvencies in England and Wales. Recently published data for the first half of 1993 shows that there were 1,745 failures in catering out of a total 30,000.
More specifically, it has been estimated that three out of four restaurants fail in their first three years of life.
The bottom table shows that when compared with these statistics, fast food franchisor companies certainly appear to have fared well. Only a small proportion have failed purely for commercial reasons.
Although government statistics show a decline in the number of take-away shops from 31,000 to 29,600 in 1992, there have been no notable fast food franchisor failures in recent years.
The non-availability of data recording fast food franchisee failures would seem to suggest that fast food and franchising present a formidable marriage when coping with recession. Fast food franchises are seen as being low risk as they are cash rich, requiring low levels of stock.
They do tend to require a higher level of investment than many other types of franchises and therefore a high rate of return is vital.
Nevertheless, the fact that there have been few insolvencies among fast food franchisors does not necessarily mean all are trading well. Trouble manifests itself before failure in the form of declining or lower than average performance.
Bankruptcy or insolvency is only the final stage in a company's inability to recognise and adapt to external or internal pressures that threaten the organisation's survival. This means that a company must monitor its and others' performance.
I have analysed the insolvency scores of a sample of fast food franchisees, fast food franchisor companies and non-fast food franchisors.
The top table summarises the findings by showing the average score of the 18 companies in each category for each year. In addition it shows as a percentage the number of companies that are low performers, taking 0.2 as the threshold.
The table shows that although ratios indicate only symptoms of problems concerning company health and that the sample is relatively small, some interesting conclusions can be drawn.
It is clear that the franchisors have coped well with the period of high interest rates, escalating unemployment and increasing inflation with few incidents of impending failure.
The general franchisor companies' average performance has fallen 5.7% per annum, which suggests they are not immune to the recession and must ensure they respond to the changing market conditions. This compares with the fast food franchisors annual growth rate of 60%.
The fast food companies sampled scored poorly - 56% had a score of less than 0.2 - this is even worse when compared with non-fast food franchisors. Many of the major brands in the sector, including McDonald's, Burger King and KFC, scored well but the average score was dragged down by many of the lesser-known players.
Such performance levels by the smaller chains means that franchisees have greater levels of risk bestowed on them. In the longer term this need not be a disadvantage. Early franchisees could gain advantageous bargaining positions should the franchisors grow as they forecast.
Finally, the fast food franchisees scored better than the fast food companies - more had scores in excess of 0.2. Many of the sample were multiple franchisees of major fast food brands, which may account for some of the scores.
An updated study shows that there has been a general decline in performance among fast food franchisees with 45% registering a score of less than 0.2. o
TABLE: YEAR/CATEGORY FAST FOOD FRANCHISORS FRANCHISEES
1987-88 average 0.105 0.514 0.233
1988-89 average 0.177 0.465 0.327
1989-90 average 0.267 0.457 0.296
% with more than 0.2 44 94 62
% with less than 0.2 56 6 38
TABLE: BANKRUPTCIES AND INSOLVENCIES - ENGLAND AND WALES
Industry 1988 1989 1990 1991 1992
Hotels and catering 984 1,090 1,356 2,229 3,376
Total industry 17,155 18,597 27,111 44,459 56,531
Hotels and catering % 5.7 5.9 5.0 5.0 6.0
Percentage failure rate n/a 9.2 10.4 11.9 10.5among franchises (all types)
Franchise failure for n/a 310 316 545 630commercial reasons
Percentage franchise n/a 3.3 3.0 3.6 2.6
commercial failure*
* as a percentage of total industry insolvencies
Source: Department of Trade, British Franchise Association, Stuart Price
