How to Buy a Franchise: What You Need to Know Before Investing

22:36But then below that, there's other smaller to mid-sized family offices and private equity groups buying up individual operators' portfolios. So Scott and Alex own five Jersey Mike's and this other group owns 12 Jersey Mike's. They're buying these territories up for these existing businesses. And the multiples on a franchise business compared to an independent business are typically anywhere from a half a turn to two and a half turns higher on EBITDA than the independent business. Because there's a system and a supply chain that's giving you bulk purchasing power through the franchise or because there's more data they can look at.

23:12And banks lend to them more frequently as a result. So SBA and other lenders favor franchises more than independent businesses for these same reasons. It's just de-risk compared to Scott and Alex's sandwich shop where we don't have the same purchasing powers, Jersey Mike's. We can't run a Super Bowl ad. We can't get celebrity endorsements. We can't invest millions of dollars in technology on our own. We don't have the scale. And so that's the case, I'd say, from an investment perspective. When you're buying these things, if you're developing it from scratch and you get in early, so Pop-Up Bagel is still an early brand, it's probably the cheapest time to be able to do it because you're getting in early, just like getting into Apple or some sort of tech stock early.

23:48The earlier you are and the higher that ride goes, the bigger the return, the better off you were. But picking those winners and franchising early is tough. You've got to have access, understanding, know-how, data, et cetera, which, again, Franzy provides a lot of. If you're buying an existing location or a resale, you would look at this similarly to how you diligence an independent business. Is it a good location? Are the numbers going up and down over the last few years? Is the area gentrifying or some other event in the area that's going to impact the business? And what you would pay for a franchise sandwich concept or an independent one, again, is likely going to be higher for the franchise one.

24:24Same reason private equity pays higher multiples. The market commands a higher multiple because it's de-risked. I'd love to hear a home run and a failure story in there. And I'd love for the failure not to be a dude didn't show up and follow the playbook. So he lost, you know, I'm sure there are people, plenty of people who go into it and try their best and it doesn't work. Yes. I also will observe that even in my local town here, you can see this dynamic playing out that I go to this new restaurant, new franchise location for breakfast joint opens. It's awesome. It's way better than the other place.

24:56I start going there a lot. Nobody else seems to have realized this. It's been like six months. The place is completely empty. and it's like me and my wife are the only people who seem to have realized that this is like a good breakfast spot nearby. Surely that has to happen in a lot of these cases where, hey, I'm on the early train. It seems great. Everything is going right and it is a legitimately good product and just doesn't work for whatever reason. I would love to hear your anecdotal view on what you see as a home run outcome. We was a guest on our podcast. Actually, we have a show called The Exit Plan that shows people leaving corporate to go do this or have just built portfolios up to a certain scale and then have exited them and how they did it, how they structured the deals, etc.

25:34And so one of our guests, he started, he was in banking. So his background, if we think about the skill sets you need and what type of personas get into this, he was an investment banker. So he knows how to raise capital and put deals together. He knew very little about operating though. And so his first few businesses were independent businesses. There was a few butcher shops. He did okay. I think it was more operationally difficult than he thought. And then he was at an Orange Theory as a customer and his brain is curious about numbers and how businesses work. And so he got ahold of the owner and was like, what's this whole franchising thing about?

26:04Or, you know, fitness franchise, like is Orange Theory, is it a good thing? Is it bad? How much money do you make? And so the guy showed him his numbers. Let's call this guy Doug. Doug was like, you make that much money from two Orange Theories? Because the guy owned two. And he's like, no, I make, Doug, I make that much from one Orange Theory. And so that's when Doug was like, I need to, you know, get into a few of these and, you know, maybe I'll operate better because it's not a butcher shop. It's a fitness concept. How much was he making from an Orange Theory? I don't have the exact number.

26:29he just told me that anecdote of what it was. But Orange Theory at its peak was trading at a 21x multiple on EBITDA, which was too high. It's since fallen off a cliff. But at one point, Orange Theory really revolutionized his membership-based fitness and gamifying it and selling products on top of it into their guest base. I want to say the average revenue at its peak was 1.5 million to 2.2 million, which for a fitness concept, again, better margins in food is pretty good, especially with the recurring revenue nature of it. Doug gets into two of these, and now he realizes franchising is a vehicle for mass portfolio creation because I can just go buy XYZ concept and then start to do my investment banking background and put deals together, raise capital for them, and just add managers and operators and scale from there.

27:15He, in a seven-year period, went from those two Orange Theories, and this was in 2019, to now 115-plus locations and he's adding, you know, 15 to 25 a year. And what he does is he goes and raise capital from family offices or investors to finance 50 to 70 % of this transaction that he puts his own equity in or debt. And he ends up owning 30 to 60 % of each of these portfolios, but 115 locations in the brands that he's in. He's in Marco's Pizza, Dave's Hot Chicken, Pop-Up, Restore Hyper Wellness, and a few other fitness concepts. His total portfolio probably does a little over 300 million in revenue a year.

27:53And he did that in seven years. I mean, again, I'm an entrepreneur. I've seen a bunch of tech startups. I've seen a bunch of independent businesses. Very few have I seen, or the frequency of this individual story happened that quickly. I mean, getting to that sheer size of revenue in seven years is wildly impressive. Granted, he has 3 ,000 employees now, but this was done through a systematic M &A acquisition, raise capital and go buy portfolios of other multi-unit operators within franchising. One of the things that's interesting here is, is I have no doubt that there's plenty of success stories, you know, and folks who live incredible quality of life.

28:26I also sometimes get skeptical of those like 300 million in revenue stories in there because I know some guys in the real estate world who, you know, have put in hundreds of millions of dollars into real estate and turned it into fewer hundreds of millions of dollars over a several year period. So once you get into the raising capital and private equity side of things, it's a whole new ballgame. And I think there will be some people who are really interested in that. But I think for the most part, the folks listening to this podcast are looking for like, no, I'm looking for financial freedom and I would like a better ride to that outcome than what my job is going to give me in corporate America.

29:00And there might be something to look for here. And it seems like that is a reality that you can get to, but let's do Jersey mics again. I'm buying a Jersey mics for, I'm assuming you can get in there for like 500 to$750 ,000. Yeah. With some debt too. Cause the buildup, I mean, most restaurant concepts with all the equipment are north of a million, million to two million build outs. Okay. How much cash and debt am I going to need to take on to buy a Jersey Mike's in a solid suburb? 1.3 to 1.5 million. In total? Cash and debt. Yep. Okay. Over the next three to five years, what happens in a solid single or double situation?

29:36Not the outlier extreme of the good, not the disaster where I have to close down at the end. What happens to the owner there? Yep. So the average in food, in franchising is about a 33 to 34 % internal rate of return on the cash that you put into the deal. And most people are financing with that. So if you are in for$750 to a million bucks, I think you can expect a 30 % return on that cash year over year over that period. That's seller discretionary earnings. That includes whatever salary you pay yourself, your health insurance that I'm sure flowed through the business, whatever you're getting in there.

30:10So you're saying, I'll put a million bucks in, I'm going to get 33 % IRR. Help you understand what the exit looks like at the end of that. If I were to sell it, what would I sell it for once I build it from scratch and then decide I want to get out at that point? So yeah, depending on the revenue you're doing, which Jersey Mike's is over is over 2 million, you're probably going to get a six to 9x multiple on the EBITDA of that business. This is a great outcome. It's not like a generational wealth outcome here. I mean, it kind of is to some degree, but I'm going to put in a million bucks. I'll probably put down 500 ,000, it sounds like, and borrow a million somewhere in that ballpark to get this thing going.

30:47And then if things go well, I could sell it for two and a half to$3 million once it is a sustainable thriving business. If I get to 500 to$600 ,000 in seller discretionary earnings, total pool of whatever you pay yourself in salary plus profit left over from the business. Is that a fair description of a single double in the space? Yeah, I think that would be on the higher end for sure. And it depends on, is Jersey Mike's a mature brand or is it still growing and people are more excited about it? I'll give you the example that I'm working on now, pop-up. We're developing 10 locations over a five-year period.

31:19Each location is sub a million dollars to build because it's a smaller footprint. My partner and I can't come up with the full seven and a half million we need on our own, so we'll use a series of our own cash, SBA. We're taking on some outside capital and giving up a small percentage of the business for it. And then we'll use the cash flow from the first few stores to finance the build-outs of store five and beyond, let's call it. But the goal would be to sell it at the end for, call it$30-ish to$50 million. And I'm not one of these guys that owns 100 units or I'm sitting on$10 million in cash.

31:52I probably would put myself in the persona of the dual-income household that is in their late 30s to early 50s and has a couple hundred thousand to half a million to a million dollars squirreled away. There's a possibility you're going to generate$10 million plus from your activity set there. That's your idea. Yeah, I think we'll be$25 to$40 million on this portfolio, just given the capital behind the brand. The average unit volumes are very high, especially for the cost of payback periods less than a year. And so this brand specifically has really good economics. And for anyone listening, they're already sold out.

32:28The whole country's sold out, so it's not possible to get into from a de novo perspective. but resales will probably become available at some point where you can start buying up and rolling up these locations or finding another competitor or bagel concept. I just meant that it sounded like your cut of this profit pool. It sounds like there's some partners and capital partners involved. It's going to be personally in the$10 million range. It's just like my very quick back in the napkin math. That's your expectation from this particular move. Over 10 years or five years? So we have to build 10 locations within five years.

33:00And my guess is we could then sell either at that point, slightly before. Some people like the idea of the upside of developing new locations, how they see fit and using their team to pick the real estate and buy the real estate. Maybe they have a different strategy. But typically we would probably hold for five to seven years. Awesome. I'm trying to get back to the Jersey Mike's deal, right? I put down$500 ,000 and I'm going to go back to real estate because that's my comfort zone. But I'm going to put down$500 ,000. I'm going to borrow a million bucks. I'm going to control$1.5 million worth of Jersey Mike's.

33:33And then a few years later, you said it would be too high, my initial guess. It would be too high. I'm going to sell it for maybe$2 million at that point in time is a more realistic assumption. After I get it to$400 ,000 or$500 ,000 in SDE, is that fair? 1.5 to 2? Yeah, yeah, that's fair. My alternative could be I would put down$500 ,000 on a$2.5 million piece of real estate, for example. Like that's what I think was weighing in people's minds or in the S &P 500. And so how do I do in each of those scenarios, I guess, relative to the franchise investment? I think that's the, you're saying a 33 % IRR.

34:07And I think investor, you know, real estate investors would be jumping up and down at a 15 cap, right? Like a 15 % rate of return. I think investors would be thrilled with, tell me if that's wrong. I don't do a ton of real estate investing. Absolutely. But they would also not expect to show up every day. Right, right, right. And that's the trade-off. They would expect to show up sometimes, you know, but not every day. Yeah. And those are the trade-offs. Like S &P, you know, average over the last multiple decades is like 11 % or something. But to your point, you put the money in, you go back to work, you watch it grow, you don't really touch it.

34:35You know, very, very little effort. Real estate, more effort, higher return, still not a ton of effort. Owning a business, probably the highest effort, but also the highest reward and return. To me, the value in operating a business, whether it's franchise or not, is yes, it's a ton of work in the first few years, no matter how you cut it. I think you have to be involved. You've got to do hard work. You as an individual grow a lot during that phase. You learn a lot new skills that I think you might not learn in some of these other categories or as many diverse set of skills as you might in some of the others.

35:03But the value is the asset you're investing in over time gets to a point or has the high potential to get to a point of being a cash flowing machine for you that does turn into you doing as much work as the investment in the S &P or into the real estate, but still yielding that 33 % over and over plus the terminal value of when you go to sell it. And so are you willing to sacrifice a couple of years of very hard work for financial freedom and freedom of your time in the mid to long term? That's where I'm coming back to. I'm just trying to understand, because I think that some people will move in and say, I'm going to buy this as a replacement for my income and a way to get into something I enjoy more.

35:42And to your point, something I'm going to do the empire building. I'm still having trouble wrapping my mind around when the empire piece becomes more achievable. In my Jersey Mike's example, right? $500 ,000 down a million debt, selling for 1.8 to 2 million, somewhere in that range when it gets stabilized. Where do I get the multiple arbitrage that you were talking about earlier on that? Do I have to buy five of these or 10 or 20 and pull them together before the buyer universe appears? And then I can sell each one for two and a half million? So just on one, that's when I was saying like, hey, that was on the high end, you should go lower.

36:14It's because it was just one location. So as you start getting more and more locations, You can have a GM probably manage three locations with assistant GMs. You save cash there. You've diversified your portfolio. And so I think you get an uptick in multiple because you've de-risked it. Hey, if this one location doesn't do as well, I've got two or three more over here to fall back on. You get access to better lending and financing options at that scale and that size. You have more influence with the franchise. Your local marketing spend, let's say you own three in the same city, goes further. You're spending probably the same-ish amount on ads, but you're driving volume to three or four locations instead of one.

36:47And I think it's just more of a size multiple is why people start to look at it and value it more, given you've de-risked it. You've got proven systems in place, a team that you can rely on that will come with the deal in most cases. Awesome. When I think about buying a rental or a business or hiring somebody, what I do is I create a fictional, perfect situation. So I'll say, if I could right now, I'd buy a rental property for this price in this neighborhood with this many bedrooms, this many units in there. And then I look and I just do a check. And that fictional ideal is born of experience, right?

37:19I've been doing this for 10 years in the Denver market. And, you know, we've had a lot of experience with executives and those types of things. But I'll think about that and then I'll write that down and I'll then see how close I can get to, you know, how close the reality of the market gets to my fictional ideal when hiring or buying property, those types of things. I'm a little oddball in that particular approach, I think. But how would I go about some version of that in the evaluation of potential franchise opportunities? How do you get started? I'll talk to this through the lens of myself.

37:49And I won't use the pop-up bagel answer because I'm doing that. But if I had a corporate job and I wasn't doing franzi and I hated it. I mean, that was me before. I was at Ernst & Young. I was a consultant. I did it for a few years. Didn't love it. But let's say I'd stayed on that path and I was in my mid-30s to early 40s now. And I had a couple hundred Ks squirreled away, maybe a little bit more. but I wanted to go do something else, but I also wanted to have this success story. I would look at a home services business because I'm betting less of my household nut. I would look for something that has staying power and isn't just a trend or a cyclical thing.

38:24And so I go back to senior care. My parents, my grandparents are very important to me, so the mission piece is also something that drives me a little bit there, and I can see myself showing up every day happy about it and knowing that, hey, I'm doing something meaningful to all these people's lives versus hitting a bunch of numbers in a spreadsheet and making Bank of America more money or cutting costs for this huge machine that I don't care as much about. So the feel-good piece there is there for me. I can afford it because it's a services-based business. I don't have to deal with physical infrastructure, which I don't love necessarily personally, but the revenues are very meaningful and give me that empire-building upside and potential.

39:00I need to have something to chase. I wouldn't be happy with one or two territories. Even if it more than replaced my income, I would want to get to that multi-million dollar year in cash flow and ability to sell for 10 plus million in terminal value. And senior care, home mobility and accessibility would be it for me. I like little projects. I could manage a small crew to do these installations. I'd be good at selling into this group. And I could build territories that do over a million each for an investment of less than$200 ,000,$300 ,000 to get into it. I like that. I've done a bunch of personal research calling senior care facilities in different markets just to see what the wait lists are.

39:38In every city we've done, Cincinnati to Denver to Miami, et cetera, there's all three to six plus months wait lists for these facility-based care concepts. There's such a huge demographic that has such a big need right now that's not being fully filled. Whenever I hear that, the question I always ask next is, is that not priced in to the acquisition fee for the franchise, those dynamics of the waitlists? And it sounds like, for some reason, no, that's not, in your view. For resales, they might be in some cases, but I'm talking more like de novo development. And for a services business, I would rather just start from scratch.

40:18Even if there's an existing customer base, I have enough confidence that I can beat the average operator in this market. It would be better off just starting from scratch in a franchise concept where my cost is probably a lot less than paying the existing operator a premium because there's established cash flow and a customer base. Well, this has been super fascinating. Have I missed anything I should have asked you about franchises so far that I haven't? I think one thing to look at is just like red flags, like what to look out for. I was very skeptical of franchising when I started. My background is in technology startups and kind of accidentally stumbled into franchising.

40:56I think a lot of the things that people might think when they hear franchising is it's McDonald's or it's these snake oil salesmen selling unproven concepts. And there is both, but there's also this world of everything in between. And I think finding the right brands and knowing what to look for. And so the one last thing I'd leave people with is whether you're using a platform like franzi or you're using a business broker or you're looking at FDDs, franchise disclosure documents, on your own, the one thing that you can't ignore in your diligence process is just go talk to other franchisees, both current and those that failed or exited the system.

41:28You can find their contact information in these FDDs, in these franchise disclosure documents. Past franchisees are listed. You can go find FDDs from 2017 and go see who was there then that isn't now in the 2026 one if you want. And just go call the message of my LinkedIn. You'll be surprised how many people want to help you and ask them if they would ever do this again or not and why and how they financed it and was it successful for them or not. That is the single best way to learn. We, again, as a platform have compiled a lot of this feedback and data and information. It's free for you, but nothing beats, even our platform at franzi.com doesn't beat face-to-face human conversation with those that have done it before you and if they do it again or not.

42:06Awesome. Can you tell us about what Franzi does and how that can help on this journey? Yeah, so we're trying to solve for what I think's been missing the last few years is that typically for franchising, it's this unknown black box. You talk to brokers, you don't realize they're paid 60 % commissions on the back end, which is, one, it's way too high, but two, it also creates a misaligned incentive. And so similar to what Zillow did for, I would just say, the top of funnel diligence discovery for a retail buyer. It allows you to go look at things, visualize it, see the square footage, see what the rough zest meter price would be, what the taxes are, what the school district is, etc.

42:43Franzy has done that for buying franchise businesses. We've taken all this data across 20 ,000 of FDDs and have made it easy for you to say, hey, I'm in Denver. I've got$300 ,000. Here's what I'm good at. Here's my risk tolerance. We start to use AI to filter and distill down which brands you should at least consider or explore. And then we still give you all that coaching and access to lending and franchise CPAs and franchise attorneys that can help you navigate this process. Because again, I think going back to the number of 67 % of Americans want to own a business, but 12 % actually do it. I think the gap is just a lack of education and understanding on what's available and what would I be good at.

43:19And the fear sets in and I'll just stick to what I was doing. Our goal is to help unlock some of that fear, give you the data you need and the connections and resources you need to get comfortable if this is ultimately something you do want to do and would make you fulfilled and happy and financially independent? I describe it as like Zillow and a real estate broker for franchises. A lot of people are like, oh, you can buy rental properties without an agent. And I got my license and buy rental properties without an agent. I certainly didn't buy my first one without an agent or even my second. And I think it would be great to hear from a couple of people over the next couple of months or next year that have bought a franchise using your help and kind of see what their thought process was and how it's going.

44:00So So it would be great to maybe talk to some of the folks that have used Franzine every couple months and just kind of see how things are going. Yeah, no, we'd love to do it. There's a few from both sides, too, success stories and some of those that they got into a brand. And they're like, I don't know if this is for me anymore, not because the brand was bad or anything. But the feedback I'll share is the wrong person in the right brand is still the wrong brand. And so situations like that can happen. And I think that would be a fun exercise to have some of the folks that we've had come through both success and others that, you know, aren't as happy about the decision come through and share their experience.

44:34I, for example, would probably not thrive at core power yoga, even though I do go there occasionally with my wife. I kind of trashed it a little earlier, but I actually think I would be more suited for the grease trap cleaning one because you thicken some headphones, you get dirty, and then you clean it all off at the end of the day. And it's probably a lot of solo time. And that would suit me a little better, I think, personally, personality wise, even though that's not one I would consider right now. But I don't know. I think that's that's interesting. So there's a personality component to it.

45:00A thousand percent. Some people, like I mentioned, they come in like, I'm good at this and I need to do something like this. Others are like, I'll learn new skills or I'll hire someone that's better at it than me and I'll figure it out. As similar as we all are as human beings, there are a lot of underlying, kind of minute, small differences that add up and compound and do factor a lot into whether you'll be successful, both financially, but also from a happiness measurement perspective. You can make all the money in the world, but if you hate it again, all you did was take this other thing you didn't like doing your job and replace it with this other thing you now don't like doing, which is your business.

45:32And so the fit part is really important. Well, thank you very much, Alex, for coming on the show. The website is franzi.com, or you could find it over at biggerpocketsmoney.com slash franzi. And we'll link to all that in the show notes. And look forward to hearing from some success stories here. And let us know if you're a BiggerPocketsMoney listener, if you are one of, I think it's a relatively small portion of the current listenership who owns a franchise, but let us know if you do. And we'd love to hear a story from you as well, potentially, in this world and see if this is something that other people should be considering as part of their journey to financial independence.

46:02Thank you, Alex. Thanks, Scott. All right. That was Alex Smirznack. What do you think, Scott? I thought it was a great guest. I think he had a great discussion today. And like I said in the beginning, I think that buying a franchise is something a very small percentage of people listening to BiggerPockets will actually do. And a very small percentage of people listening to BiggerPockets money should do. I think it's a niche opportunity and a real one that deserves conversation in the spectrum of possible things to invest your money in, right? There's true entrepreneurship, there's side hustles, there's real estate, there's passively managed index funds, there's commodities and alternatives.

46:39And I think this is one additional opportunity along that spectrum that has real appeal, I think, for some people and for good reason. There's real risk, there's real reward, and there's real work that goes into making this happen. And so I think I'd be really interested, again, to hear if anybody listening to this does own franchises or has had a positive or negative experience. If you have, please reach out to me at Scott at BiggerPocketsMoney.com. We'd love to hear your story and we'll probably cover one to three franchise stories every year or two. I think it deserves its place in the discussion.

47:11So, yes, if you're interested in learning more about buying a franchise, you can go to biggerpocketsmoney.com slash franzy, F-R-A-N-Z-Y. We'll also link to that in the show notes and it'll be in our navigation bar over at biggerpocketsmoney.com, biggerpocketsmoney.com. We also have a whole network of FI professionals, financial planners, those types of folks, accountants over there at biggerpocketsmoney.com slash FI Pro. Also something you can find in the nav bar over there. So go check those out along with the resources we're building over at biggerpocketsmoney.com. Thank you so much for listening and being a part of our community.

47:44Until next time, I'm Scott Trench saying we're out like trout fishing franchises.