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

January 4, 2010

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.

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Franchising is much riskier than independent business

July 24, 2008

The franchise industry is well-known for its hyperbole bordering on propaganda.

For the latest example of these half-truths and silent misrepresentations see a recent modestly named article: Franchising to the Rescue.

In my opinion, this is an unnecessarily biased and dangerous article for small business investors.

It’s assumption is that franchising is a safer investment than independent business. That claim has been exploded for at least 10 years and totally ignores the recent New Zealand experience with Blue Chip and Green Acres.

  • No mention, either, of the two Australian state franchise inquiries and the upcoming national Oz industry probe. [see an excellent Oz resource, BakersDelightLies.com]

All the credible academic research comes to the opposite conclusion: Franchising is much riskier than independent business.

Research: There is an big quality difference between true academic work [published in refereed journals, funded by public money] versus private research [biased, paid for by interest groups]. It is not enough to say that there are no reliable statistics and then go ahead and spout off unsubstantiated figures.

  • Everyone knows the public remembers the numbers while forgetting the qualifications.

Publishing these self-serving guesses [with zero opposing opinions] is bordering on reckless media behaviour. Mom-and-Pop investors are risking their life savings and homes, after all.

Timothy Bates: In 1996, this university professor published an academic study that rocked the franchise industry. Bates was contracted by the Office of Advocacy of the U.S. Small Business Adminstration to look at survival patterns of franchised and non-franchised businesses.

Survival Patterns Among Franchise and Nonfranchise Firms Started in 1986 and 1987 concluded the following [see S.B.A. Research Summary, Related Bates paper]:

  • young independent small firms had a better chance of surviving than small, non-corporate franchises,
  • while franchise firms were better capitalized than non-franchise firms, about 62 percent of the franchise firms survived, versus 68 percent of the non-franchise or independent firms,
  • average profit was much higher for the independent businesses; profits were negative, on average, for the franchise firms,
  • franchises purchased from a previous owner were riskier than franchise firms started from scratch, and
  • only 49 percent of the franchises started by women in 1987 were in existence in 1991, compared with 67 percent of the independent firms started by women.

Within the report itself, Bates said:

…the franchisee route to self-employment is associated with higher business closure rates and lower profits for the young, largely noncorporate firms, relative to independent business ownership. p. 8.

U.S. Government: On June 24, 1999 Dr. Bates appeared before the U.S. House of Representatives’s Subcommittee on Commercial and Administrative Law. The Oversight Hearings on the Franchising Relationship were called to review the state-of-the-union in American franchising. Click here for a .pdf copy of his testimony.

Bates:

Findings of my research indicate that new and small franchisees are more likely to discontinue operations than independent startups, and this holds true when firm and owner traits are controlled for statistically. One clear-cut finding was that franchisees starting by purchasing the firm from a previous owner were riskier than franchisees starting from scratch. A person entering self-employment by purchasing an ongoing franchise risks acquiring a firm that is more likely than a de novo startup to go out of business within the next few years. [my emphasis]

These Kiwi industry gentlemen know all about


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