Analyze This: Franchise Performance Indicators for Tough Times
Rick Chittley-Young, Partner
FranchiseVoice
February 2009
There are so many competing demands for a franchisor’s attention during boom times, and even more when times are tough, as they are now. So how do you take care of the health of your franchise system while also caring for worried franchisees?
Turbulent economic times call for defending against the downturn by staying close to franchisees and monitoring key performance indicators – theirs as well as yours. When times are good, reviewing financial statements on a monthly basis will generally keep the franchise management team well informed about the health of franchisees. But when the economy turns down, deterioration can happen rapidly. By the time financial statement information has been collected and reported, a franchisee could be experiencing irreversible difficulties.
Franchisors need to be alert to subtle trends and able to respond nimbly. Weekly monitoring of lead indicators can signal changes in franchisee performance on a much more time sensitive basis, thereby serving as radar to detect performance variances and allowing franchisors to act quickly and knowledgeably.
Many franchisors monitor metrics related to their specific goals. All measures, however, should be revisited in the context of the current marketplace. Given today’s economic volatility, sales and profitability have become priority indicators of business health.
Right now, franchisors need an ongoing conduit of sales and profitability indicators that will facilitate proactive monitoring and the ability to swiftly address performance challenges. Tracking and comparing these indicators among franchisees as well as other franchises in your industry sector will equip you with timely performance benchmarks.
These measures must be relevant to your business, collected promptly and readily measured. It’s important to focus attention on the minimum number of metrics necessary to deliver a clear understanding of the current financial state of the franchise system as well as emerging trends. Be sure to allocate priority to what is vital to the health of your franchise system: sales and profitability.
While specific indicators vary from one industry and from one franchise system to another, the following key metrics can provide any franchisor with valuable and timely insights during challenging economic times.
While comparing total sales revenues by location will indicate sales trends, in addition, frequent comparisons of same store sales can reveal more specific information. Reviewing same store sales of franchisees during a specified week with the same week in the previous year, for example, reveals annual changes in performance while eliminating seasonal or geographical variations.
Tracking number of sales by location and region enables you to identify best and worst performers and to examine whether certain variables, such as promotions, need adjusting.
Monitoring the average size of a transaction (or average sale per customer or average order value) can point out seasonal fluctuations, the impact of promotions or product pricing changes. Again, this measure can be tracked by individual location as well as by region to highlight areas of strength and weakness and enable a franchisor to pinpoint exactly where attention may be needed – or where successes might be replicated.
For some franchise systems, the number of repeat sales is a good indicator as to whether customer loyalty is holding steady or eroding. If many franchisees are experiencing the latter, there may be a need to revisit customer service programs, pricing or promotions.
Measuring labour rates as a percentage of sales is especially important for labour-intensive sectors such as restaurant/foodservice and retail. Since supplies are generally tied into contracts and there’s often not much room to manouevre with the cost of supplies, if sales should fall, franchisees may need to become more efficient with labour costs. Labour typically represents the highest and most variable operating cost and is the area where franchisees may have to optimize efficiency by carefully balancing schedules and demand.
Gross margin is another important indicator when competition intensifies. As margin declines, so does profitability. Analyzing the components of the margin can assist in identifying whether declines may be related to labour, materials, overhead, pricing or other issues.
By identifying areas of strength and weakness, these key measures can help franchisors drive performance. By studying the what, when and where of each metric, you can identify performance gaps and determine why these may be happening. This will equip you with the insights necessary to develop the appropriate action plans that will produce stronger sales and profitability results.
It’s also important to ensure that franchisees comply with timely submission of financial reports as stipulated under the franchise agreement. Your accounting system should be generating prompt franchisee results for sales, expenses, daily cash position, accounts payable and receivable and inventory so that you are alerted to any significant changes in profitability or liquidity. If a franchisee’s accounting records become consistently late, this may be a signal of financial distress.
Franchisees also need more communication and support during an economic downturn. Share information and advice related to effective management. Pass along the strategies of successful franchisees. Visit franchisees that may be struggling. Experience their challenges on “the front lines” and be prepared to offer practical advice and support.
Franchisees may also benefit from financial management support to manage working capital, meet obligations and continue to reinvest in their business. It may be helpful to ally with a corporate finance specialist who can provide expertise as needed and can assist in developing financing arrangements that will enable franchisees to address certain short-term liquidity challenges.
The franchise management team should also prepare contingency plans for the possibility that some franchisee situations deteriorate. Consider involving a restructuring specialist who can assist in developing guidelines for warnings signs, risks and appropriate remedial and exit options.
Should monitoring indicate that a franchisee is experiencing financial distress, the franchisor will thus be able to respond quickly, before that franchisee falls offside with contractual obligations. Be prepared to work closely with this franchisee to try to resolve the issues. In some cases, direct financing assistance may be warranted. Should the challenges be insurmountable, however, and there is risk of devaluing the franchise brand, it may be necessary to deploy the exit plan.
Many franchisors, however, are optimistic regarding how their companies will fare through 2009. The US-based International Franchise Association conducted a Franchise Business Leader Survey in November 2008 and 49% of respondents expected their businesses to do better in 2009 than the previous year.*
This type of optimism is one of the greatest strengths of the franchise sector. For franchisors with strong balance sheets, cash flow and franchisees, and that are focused on profitability, a recession can present new opportunities. This may be the right time to acquire affordable strategic advantages: expansion or acquisitions, updated equipment, experienced executives, trained employees.
There are many opportunities available to strong, strategic, optimistic franchisors. No need to analyze that.
Rick Chittley-Young is a principal of BDO Dunwoody LLP (www.bdo.ca). BDO is one of Canada’s leading accounting and advisory firms, which helps entrepreneurs, family businesses, franchisors and franchisees succeed. You can reach Rick in the Oakville office at (905) 844-3206 or rchittley@bdo.ca.
* Franchise Business Economic Outlook for 2009, Educational Foundation, International Franchise Association, January 7, 2009
