Franchising more than helps flush +$100 million CDN annually down the toilet

A good Canadian Press article called Ottawa’s loan program for small business still troubled: report by Dean Beeby.

The revenue paid to Industry Canada was supposed to cover the default claims paid out, but the math has never worked in Ottawa’s favour.

Claims paid out have risen steadily over the decade, and now top $100 million annually, while revenues have consistently lagged, costing taxpayers a net $335 million so far.

Put another way, cost recovery is currently at only about 60 per cent rather than the 100 per cent that was planned, and is in steady decline.

“The gap between claims and fee revenues will continue to exist and most likely expand,” predicts the KPMG report, dated Oct. 30 and obtained by The Canadian Press under the Access to Information Act.

The program’s portfolio of loans has become ever more risky over the decade, now catering especially to newly established small firms with weak credit scores and little collateral, many in the food-and-beverage sector.

These loans are used extensively in franchising although the franchise bankers frequently don’t even bother to try to register or make a claim on the phantom loans. The difference between new and used equipment nicely covers the money split between the mob (see here for details).

I’ve kept a close eye on the Canada Small Business Financing program and how the franchise industry misuses it (see my 2005 paper called Franchising Opportunism)

Program results from 1999 to 2008 using Industry Canada’s own Annual Reports (franchised v. non-franchised loans):

  • Franchise Loan Claim Rate was 26.5% higher (than for Non-franchised loans).
  • Franchise Loan Default Rates resulted in over $22.9-million more Claims (Non-franchised rate).
  • The mean Franchised loan was 43.4% higher than Non-Franchised.
  • The mean Franchised claim was 11.9% higher than Non-Franchised.

Comparing the years 2008 to 1999:

  • The Claim Rate increased 858.2 times for Franchised (245.1  times for Non-franchised loans).
  • The Franchised Claim Rate accelerated 3.5 times more than Non-franchised loans.

I’d be happy to send anyone the spreadsheet.

The U.S. Small Business Administration’s 7a. loan program seems to be sticking their citizens with a $70-83-billion public debt, too.

4 Responses to Franchising more than helps flush +$100 million CDN annually down the toilet

  1. From Industry Canada:

    “However, contrary to previous research, loans to franchises and loans for the purpose of leasehold improvements were not so much sources of risk in themselves but seem risky because they are relatively more common within the relatively risky “Food services & drinking places” and “Retail trade” sectors. In fact, franchises in the “Food services & drinking places” are less risky than average within the sector.”

  2. Les Stewart says:

    Michael,

    Yes what sector the lending happens into matters but Industry Canada does not allow access to information, at a sufficient level of detail (see below), to do anything but accept this position on what amounts to 100% blind faith.

    Shane makes the sector argument much more usefully in his The illusion of Entrepreneurism but this is just one source of risk.

    My efforts are at comparing verifiable, auditable, transparent data and Industry Canada and the lenders (80% chartered banks) have some challenges in providing access to that information, especially if it raises multi-million $ questions.

    Industry Canada chooses not to publish the annual loan/claim outcomes by franchise tradename while the U.S. SBA does annually, by routine.

    My 2007 Freedom of Information Request (numbers of loans, numbers of claims, $ loans, $ claims by tradename or bank) was entirely redacted.

    Industry Canada currently views loan claim information between their clients (the banks) and franchisees to be confidential and private and will not disclose that information for potential system investors.

    If we want to subsidize the banks and dozens of known franchise scams artists, let’s just do it in a more transparent, democratic manner without saddling future generations with $100s million debt and sucking hundreds of non-sophisticated franchise investors into almost certain-financial catastrophes.

  3. I agree about the lack of transparency in both the US and Canada regarding these types of loans.

  4. Carol Cross says:

    Amen! Les Stewart! SBA Policy and guaranteed loans for small business, to include loans for franchisees of big franchisors and big franchising” and small franchisors are the result of policy decisions made by Committees in the Congress of the US. Franchising is lumped together with all small business and apparently these franchise loans aren’t separated out by the SBA from independent small business loans. How convenient!

    But I think you are wrong about “sucking hundreds of non-sophisticated franchise investors into almost certain financial catastrophes?” I think it is more like “thousands.”

    Third party churning with the use of straws is really not that visible, is it?.
    Read my new Ezine Article “Buying a Franchise. Look out for the franchisor’s use of third parties — Sucking Straws.”

    http://thegreatfranchisingrobbery.blogspot.com/

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