Risk vs. Reward, Understanding Your Tolerance
How to assess your overall risk tolerance before buying a franchise.
Taking the entrepreneurial path is a decision that requires fortitude and courage in the face of adversity. No matter the route taken, adversity in some form or another (sometimes multiples) will be present. The decision to buy into a franchised business concept becomes one of risk vs. reward. In Mark Siebert’s The Franchisee Handbook, published by Entrepreneur Media, he dedicates an entire third chapter on how to gauge your individual tolerance for business ownership. He wastes no time in pointing out that “conducting a thorough risk assessment is a key element of choosing a franchise.” How should you get started assessing your own risk?
Weighing the big decision
For a majority of people that take the franchise path to business ownership, there was a clear “before” time. Perhaps even a very successful and lucrative career with many accomplishments, accolades, titles and awards. Even so, each individual carries with them a certain tolerance of risk. If you happen to be one of those singularly successful corporate citizens who’s enjoyed a thriving career thus far, are you truly prepared for an entrepreneurial venture? Siebert presents a few rapid-fire rhetorical questions for consideration: are you prepared to leave the security of your career and job position? Are you willing to risk your personal finances to fund a business of your own? Could you entertain working more hours per week than you are now? How about 60+? Most importantly, what exactly is your backup plan in the event this venture fails? Once you’ve carefully considered these questions as they apply to your own life, it’s now time to assess the risks of the franchises you choose to investigate.
With thousands of franchise concepts on the market today, there’s something for everyone. But when risk vs. reward is taken into account, some businesses appear more high-risk than others. During the franchise investigative process, you must be wary of fad businesses, emerging brands that seem too good to be true and others that don’t meet the definition of “recession-resistant.” According to Siebert, even regionality comes into play, as a business that does well in one part of the country, may not exactly thrive in another. The same goes for seasonality factors, with the author reminding the reader that a lawn care franchise won’t be as lucrative in upper Michigan as it might be in sunny Florida.
Markets, sectors and industries
Every market, business sector and industry has its own set of risks and rewards, as Siebert deftly points out by stating, “market risks are different from concept risks in that they reflect things happening outside the franchise in question.” Siebert holds that it’s advisable to consider the risk vs. reward for both the brand and market simultaneously. Siebert cites numerous examples of brands that seemed like a lucrative lock, only to fade into obscurity due to evolving market conditions.
In determining the risk vs. reward of a particular franchise concept, it’s worth the additional time to review the brand’s overall health. But the author doesn’t just stop at mere financial performance – something you’ll delve into deeply in the franchise disclosure document (FDD), but also the current state of the brand’s management team. For instance, you can get a quick snapshot of the franchisor’s financial viability by looking into their financial ratios, such as liquidity and their debt-to-equity position. Siebert highlights the importance of running a credit check on the brand, the same way one will be run on you during the investigative process. Two of the keys are the brand’s net worth and profitability – both of which can be found within the franchisor’s balance sheet and income statements.
It’s been said that there’s a perfect franchise match for every entrepreneur looking to go into business for themselves. How to tell? Each side must evaluate the other and determine whether the risk vs. reward is an equation that works out, destined to become a mutually beneficial partnership between the two entities.