Day 6: Never Buy a Franchise

Wish 6: Honesty

My wife was crying when she hugged our employees. It was the last day of our fast food restaurant franchise. We tried to make it work for two years. But four situations made it impossible to stay afloat. Lucky for our five part-time employees, they had other jobs to focus on. My wife and I, well, we know what a foreclosed family in the USA feels like.

There is a big secret in food franchising and the restaurant industry within British Columbia.

The restaurants are suffering, but few admit that they are. You see, if they do admit, consumers are even less likely to visit their restaurants - speeding up their demise. Their franchisors do little to help them, because they don't have to worry about risk.

"How are things here?" we ask any restauranteur we visit. They always answer, "Good." But the empty tables at lunchtime tell a different story. Then, we see well-known restaurants close down. Ironically, another wannabe franchise takes over a few months later.

Four situations make this economic environment toxic for food franchises and restaurants.

First, the economic downturn in the USA of October 2008. Even though we are in Canada, the USA is our largest trading partner. It was just a matter of time before we felt the pinch. Consumers became cautious. Eating out is 'consumer discretionary spending', meaning consumers don't have to buy. In the Christmas seasons of 2008 and 2009, restaurant sales dropped as consumers focused their spending on gifts.

The second part of this perfect storm is the franchisors' response to the downturn. Since the eating-out industry is a smaller pie, they had to get a bigger piece of the pie to stay afloat. They responded with 'price points'. A price point is a price that appeals to the next price-sensitive consumer. For example, a typical meal would cost $6.99. The larger franchises started to offer meals at $5, $4, $3, $2, or even $1. If you had a choice of a full meal at $7 or a less filling meal at $2, I think you would go for the latter. Once that consumer is satisfied, he/she will not buy from the other restaurants for that meal, further contracting the restaurant industry.

The third condition was the most unlikely one. The Vancouver 2010 Olympics. This event pulled hundreds of thousands of people from all over BC into a small area in downtown Vancouver. There, consumers discovered the price points that their local restaurants were not offering. People were lining up for hotdogs and drinks at Costco for just $2. For the entire month of February 2010, sales in these few downtown fast foods and restaurants soured. To the detriment of restaurants outside that area. People got used to price points. They liked spending less for each meal.

At this point, there is an oversupply of restaurants. We don't need new restaurants.

The final death blow was the Harmonized Sales Tax or HST in July 1, 2010. The provincial government started collecting an extra 7% taxes from businesses, and restaurants had to pass it on to the consumer. Already reeling from the downturn, price points and Olympics phenomenon, smaller franchises raised their prices with the introduction of the HST, to hide the price increases. Consumers are not dumb. They noticed, and goodwill was lost.

By the time the HST was implemented, restaurants were already operating at about 50% their 2008 capacity. Many restaurant employees had already lost their jobs. The HST dropped sales a further 10-20%. The carnage continues.

Yet, every time we ask the owner of an empty restaurant how they are doing, the answer is always, "fine." To tell the truth could mean losing their life savings invested in the business. To tell the truth would also mean they could not sell the business to the next person who thinks he can do a better job at running a restaurant. I blame the Food Network for glamorizing the ownership of a restaurant.

For those who owned a franchise like ours, losing it is not a loss for the franchisor. The franchise agreements are so strong that franchisors always win. Franchisors are there to make money out of franchisees. Agreements are geared for that; all risk is transferred the franchisee. That is why I say, never buy a franchise.

If you are thinking of starting a business, plan well for it. Don't think a franchise is the easy way to get started. Go the tougher route: start it yourself. And for the moment, stay away from the food industry.

My wish today is for honesty. There is a lot of untruth in this industry because a lot of investment is at stake. The untruth is making more people fall into the trap of owning a business that is destined to failure.