www Tipping Point: There are Limits to Fooling all of the People all of the Time

tippingpointThere seems to be some new and interesting things happening on the financing side of franchising.

There are some questions being asked over at Blue MauMau about why intangible property is being written down. It is reported today that Guidant, a major fianncier, has simply closed up shop while teetering systems seem to be desperate for a source of funds.

All of these I think obscures a fundamental change: franchising has reached it’s tipping point: the momentum for change becomes unstoppable.

Mom and pop investors have concluded that it is Unsafe at any Brand (ie. risks are too high to sink money into any franchise).

I outlined what I see as the signs in a Blue MauMau posting called: Better Quality pushes out Lower in a Functioning Community. This is my reasoning:

I would suggest that this historic need to re-value the worth of franchises’ future earnings is manifesting itself in a new phenomenon: a recession and new franchise sales in a tailspin.

The industry’s “conventional wisdom” is being turned on its head (ie. franchise sales increase during recessions) perhaps by three factors:

  1. very high ratio of new sales v. royalties (reliance on short-term, ponzi-like cash needs),
  2. significant industry portion that would perish under public scrutiny (unsustainable under more perfect information) and
  3. dramatically more unstable system brand life (faster, bigger and more blowups versus “bleeding” systems: akin to global warming effects).

I’m speculating here of course. What would reconcile all of these observations is a technology change that is short-circuiting the traditional command and control structure (top-down).

Web 2.0 and other community technologies offer investment information in a much more decentralized, cheaper and faster method than what it replaces. Maybe the industry’s paper is starting to be seen in much the same way as some mortgages now are: a product of a imperfect information?

The ice on the overall industry’s wings may be caused indirectly from the public’s improve ability to discern sustainable from non-sustainable offerings.

This is very good news for legitimate operators, their investors and the percentage of the industry that they represent.

  • Not so much for the short-cyclers, no matter their size.
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2 Responses to www Tipping Point: There are Limits to Fooling all of the People all of the Time

  1. Carol Cross says:

    If you are suggesting that the real risks of franchising are starting to surface for prospective franchisees and for the investors in the paper of franchisors, I agree. Obviously, the defaults and failures of the first-owner franchisees in systems should be transparent

    The “securitisation” scheme that is legalized in accounting and tax law has special ramifications for franchisors and the investors in the franchisors when markets freeze and fall. There is no doubt that franchising grew, even during recessions, because it accompanied the housing bubble and a great many retail franchises were financed with home equity loans.

    The lack of transparency of Unit Performance of Franchise Systems enabled by the FTC Franchise Rule may have contributed to some over-valuation of IP in the securitisation process that will become highly visible in a very deep recession.

    The ABA Journal in an article “Troubled Kingdoms” July 2006, by Jill Schachner Chanen, said “As Franchisors Seek to Expand Their Empires, Individual Operators Look for Ways to Protect Their Turf” looks to some of the problems facing franchisors and franchisees but doesn’t expose “churning” and “turning” and “pumping and dumping” activity that goes on outside the view of the new franchisee and the regulators, and apparently, the investors in the franchisors.

    Is churning kind of like channel stuffing in accounting practices?

    Like

  2. Les Stewart says:

    Carol,

    My understanding of channel stuffing is forced selling that artificially inflates this period’s profitablity. I’m not sure of the analogy.

    The franchise industry is not alone in its obsession with doing everything it takes to maximize its rewards now, to hell with the future. What is rational for the individual executive (say the fellow at Citigroup) is not rational for the corporation, directors or let alone the shareholders.

    Until we align rewards with sustainable business, we will continue to experience bubbles and collapses. In the interim, there will be many pundits lining up to explain, effectively, why the chumps should continue to trust a clearly a group of characters who apologize for nothing.

    I judge anyone that has profited from this perfectly legal but reckless behaviour guilty of complicity. They can spin it anyway they want: To think that the public is stupid to forgive AND forget, shows their breathtaking arrogance.

    As usual, communication is used to conceal rather than reveal accurate descriptions of misbehaving.

    In this way, the franchise industry is perfectly consistent: Their mea culpas are simply another example of doing the least, well past the time when they should have.

    Any new purchasers or renewers should think very hard about feeding a corpse by carrying on.

    Like

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