A recent article on FranchiseDirect.com seeks to answer the question, “How much does it cost to buy a franchise?” by comparing the startup costs for two very different franchise opportunities: a work-from-home travel agency and a 300-plus room high-end hotel. In doing so, it lists the Item 7 estimated initial investment disclosures from two Franchise Disclosure Documents (FDDs), which range from a low-end total of $3,245 to a top-end investment in excess of $64 million.
While these may be franchisors’ actual published figures, they represent two different extremes. Most franchisees will need to initially invest amount that is somewhere in the middle, often somewhere roughly in the range of $50,000 to $100,000.
Where to Find Information on Franchise Startup Costs
When looking for information on franchise startup costs, Item 7 of the FDD is one place to look, but it should not be prospective franchisees’ only source of information. There are a number of reasons why. Most notably:
- Franchisors’ numbers in Item 7 are “estimates,” and they may or may not be based upon data gathered from franchised and company-owned openings.
- Startup costs can vary by geographic location. Real estate leases, licenses, permits and other necessities can all vary greatly in cost from one area to the next.
- The list of itemized expenses in Item 7 may or may not be complete. Franchisors may overlook or omit certain expenditures, or you may need to incur costs that are not common amongst other franchisees.
- Even franchisors’ high-end estimates will often be fairly low (in Item 7, franchisors must disclose both low-end and high-end estimates for various opening-related expenses). For example, it is not uncommon for new franchisees to need to spend much more on grand opening advertising than what is listed in Item 7.
- The Item 7 disclosures may be outdated. While franchisors must update their FDDs annually, most franchisors will not carefully scrutinize their Item 7 disclosures in light of current market factors.
If prospective franchisees cannot rely solely on Item 7 of the FDD, where else can they look for information to gain insight into their potential startup costs? Three additional sources of information include:
1. Current and Former Franchisees
In many cases, current and former franchisees will be willing to discuss their pre-opening expenditures with franchise candidates. Speaking with several current and former franchisees is an important step in the due diligence process.
2. Other Franchisors’ Item 7 Disclosures
Taking a look at competing franchisors’ FDDs can provide insight into initial investment costs and a variety of other aspects of a franchise opportunity. Your franchise attorney should be able to help you obtain FDDs to compare.
3. Independent Financial Analysis
Of course, the best source of information is your own independent financial analysis. Working with an accountant if necessary, prospective franchisees should prepare startup cost worksheets and pro formas to assess the financial viability of their chosen franchise opportunities.
Discuss Your Opportunity With a Franchise Attorney
If you are thinking about buying a franchise, in addition to seeking financial advice, it is also important to have the FDD and franchise agreement reviewed by an experienced franchise lawyer. To learn about our flat-fee franchise business review packages for prospective franchisees, please call 202-293-3947 or contact us online today.