Three Financial Considerations for Emerging Franchise Systems

White Deer Group asked Dina Bright, a 20-year CPA who spent nearly a decade managing the Finance and Accounting department for a national restaurant franchise system and now advises our franchise clients, for her top recommendations for an emerging franchise. This is a companion piece to Five Marketing Decisions You Should Make Before You Franchise and Three Legal Tips to Consider Before Franchising Your Business.

Over the past decade, I’ve worked with an established, national franchise system as well as tons of emerging franchises. I am intimately familiar with the importance of providing a solid financial foundation for your franchisees, and in my experience, making decisions about finance and accounting processes is almost always the part where emerging franchisees get stuck. Many business owners don’t realize that there are financial decisions to make and tools to develop on behalf of their future franchisees.

Once you make the decision to franchise your business, getting stuck on two or three seemingly small items can be painful. From yours truly, here are the top three head-scratchers for emerging franchise systems that you should address beforehand to avoid a lag in the process:

1. Chart of Accounts

This is the most common financial blocker among emerging franchise systems. You’re not alone if you didn’t realize that you’d need to create a Chart of Accounts (COA) for your future franchisees — or if you’re not even quite sure what it is.

In a nutshell, your COA is a listing of all your financial accounts; it’s a way of organizing and viewing your financial transactions by category.

As a franchisor, you’ll want to make sure all your franchisees are using the same COA so, when it’s time for your franchisees to report their financial records to you, you can easily combine reporting as well as do an apples-to-apples comparison among the different locations to assess their profitability. Having the same account structure ensures that you (or your accountant) don’t have to become an investigator to figure out which lines correspond to which — or, worse, IF they correspond.

Your franchisees will benefit from being given a standard COA because it provides them with a starting point for their business’ bookkeeping processes. They can easily add onto the COA if they need additional accounts.

Best Practice: Create a standard Chart of Accounts for all your franchisees to use. Using your existing Chart of Accounts, your accountant can help you adjust it for use in franchised locations. On your side, the COA will have income accounts for royalties, the National Marketing Fund, and any items your franchisees purchase from you. On the franchisees’ side, the COA will have expense accounts for those same items.

2. Financial Reports

You want your franchisees to be successful, and as the expert in your business, you’ll need to maintain some level of oversight so you can assess your franchised locations’ financial performance and address issues as they arise. With that in mind, you’ll need to determine which financial reports you’ll require from your franchisees and how often you’ll require them.

Consider the following when developing your reporting procedures:

  • Sales by region
  • Franchisees who are falling behind in sales (and why)
  • Franchisees’ biggest expenses
  • Normalized labor percentage
  • Normalized COGS percentage
  • Are the COGS too high to make a profit?

Additionally, these figures will be part of the story you tell prospective franchisees — proof of why franchising with your business is a solid investment.

These reports are also beneficial to franchisees, and not just when you’re able to identify issues and provide guidance on correcting them. After you have completed your accounting period closure, you can provide comparative statements that give your franchisees a benchmark for what their finances should look like. They’ll be able to set goals and make adjustments to control costs.

Best Practice: Set the requirements for your account periods so that the required reports and frequency provide you with comprehensive insight into each location’s performance. After each period closure, provide your franchisees with comp statements that can help them improve their processes and, thus, profitability.

This brings us to the final consideration.

3. Accounting System

Most of our clients ask why it matters which accounting system franchisees will use — as long as they’re successful, who cares, right? When it comes time for franchisees to submit those financial reports I told you about, you will.

As a franchisor, you can’t exactly require that your franchisees use a specific accounting program, but you can recommend a system and list requirements that their chosen system must meet (which makes choosing the recommended software an easy choice for new franchisees who have a million things to do get their business up and running).

Whether they use the accounting software you recommend or one of their choice, it’s essential that the accounting software is robust enough to integrate with the designated POS system. Integration means that the accounting software can pull transaction data from the POS, resulting in up-to-date, accurate reports.

And, if you and your franchisees all use the POS system, you’ll benefit from being able to pull some reports yourself, making it easier to perform more frequent (i.e., daily or weekly) financial check-ups, thus identifying issues pertaining to sales and inaccurate reporting before they become a long-term problem.

The current pandemic is a great example of why this kind of oversight is important. In March 2020, businesses had to completely change the way they operate (or close, at least temporarily). Restaurants were forced to close their doors to diners and could only offer take-out — often only curbside or delivery service. Many restaurants had to shift tactics to offset the loss of dine-in service by devising new product offerings like family dinners, alcohol to go, and even fresh, butchered meats. Beauty salons began advertising take-home hair color kits tailored by a professional hairstylist and home wax kits. Franchisors with the ability to pull financial reports themselves through an integrated POS system were able to assess the success of these new efforts and adjust accordingly.

As an added bonus, you’ll also be able to project incoming contributions to the National Marketing Fund — an asset for planning purposes — as well as your royalty income.

Best Practice: Define specifications for your franchisees’ accounting system that ensure that it will integrate with the prescribed POS system and generate the reports you need, exactly how you need them, so you can proactively assess each location’s financial performance and nip any issues or reporting discrepancies in the bud.

Trust me… Getting these pain points out of the way early will not only impress the people helping you through the franchising process, it’ll make life easier for both you and your future franchisees.