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Calculating the risk of a franchise

By Dale Dauten, Globe Correspondent, 1/15/2006

Lisa Poole/Associated Press/File 2005 A Dunkin' Donuts franchise in Boston.

"Risks should not be taken without necessity or real hope of gain. To do so is the same as fishing with gold as bait."
— Roman Emperor Maurice in "The Strategikon," 600 AD

In the age of self-esteem, your friends and family are required to encourage you in new undertakings. "Go for it": That's what they are duty-bound, Oprah-bound, to say.

However, if your new life involves starting a business and you want to know how they really feel, ask them to put up some money. The wallet supports one's true feelings.

What got me thinking about investing in a business was meeting with Kent Craven, a big man with a quick smile, who runs Franchise Resource Co. (www.franchiseresource.com), and whose job it is to fit franchisees to franchisers. That brings to mind one of the most-cited statistics in all of business, that "over 90 percent of new businesses fail, while over 90 percent of franchises succeed."

This is an alluring notion, for even if experience suggests that you're not in the upper echelon of executive performers, no one is going to think, "I'm in the top 10 percent of dumbest business minds." In other words, the 90 percent success statistic translates in the mind to "I can't fail."

I was eager to hear from Craven, a man who's devoted several years to examining franchises, and his thoughts on their being risk-free. He sighed. Then he said, "I caught some flack last year when I was quoted in a magazine article as saying that half of all franchises are crap, but it's the truth: Half are crap."

Then he added: "Not only can you fail, it can drive you crazy ... literally. In one case, the franchisee not only lost every dime — her house, everything — she ended up in a mental health facility."

When meeting with those considering a franchise, Craven concluded, "We help more people decide they shouldn't own a business than should. We do testing and have conversations to probe for a pair of essential traits — your desire to control your own destiny and your risk tolerance, including the risk tolerance of your spouse."

That brought us bang up against the 90-plus percent stat.

"Those numbers," Craven told me, "are from an SBA study. However, I can show you another study that found that three of four new franchisers won't last 10 years. Most of the new franchisers that fail are undercapitalized, and use the franchisees' money to test their systems."

So what makes for a franchise worth buying into? "You need a business that has demonstrated that the system works and that the success is reproducible," Craven responded, adding: "On the other hand, if the business is a household name, it's probably too late to really cash in. What we do is search for franchises that are in the right stage — not too soon or too late — and which have not just a product or service, but a system to deliver it."

When I asked for an example, Craven told me of a company called DataPreserve, which offers a service to small businesses, backing up the company's data automatically, via the Internet, to a remote computer.

Such services are available online from various suppliers, but what got Craven's attention is that with this business, the franchisees recruit computer consultants, the ones small-business owners already rely upon to keep their systems running, to sell and install the backup service. (The business owner pays a monthly fee, and the consultant, franchisee and franchiser make a bit of it.)

"That isn't just a great service, but it has a great system to deliver the service," he said. "They offer a where-do-I-sign? sale."

Having a set of franchises to pick from, Craven then applies his two personality qualifiers to those seeking to join one — need for control and risk tolerance. There is an appealing paradox there, as risk is what can't be controlled. And that brings us back to what may be the biggest risk of all, thinking that you can't fail.

So let's end with a cautionary tale from Craven: "The woman I mentioned earlier, the one who ended up in a mental hospital, bought into a good franchise. I helped someone else buy it out of bankruptcy, and he makes a nice second income. The risk is on both sides."

So here's the risk of living in the Age of Self-Esteem: Nine out of 10 of us believe we belong in the top 10 percent. When we confuse desire with inevitability, we bait our hooks with our own gray matter.

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