What Costs Can Franchise Finance Cover?

Franchise finance can potentially cover the purchase of an existing franchise, franchise fees, fit-out, equipment, vehicles, stock and working capital. It may also support lease-related requirements and future refurbishment or expansion costs.

However, lenders do not necessarily finance every cost through one loan. A franchise purchase may require a combination of business acquisition finance, equipment finance, a working-capital facility, a bank guarantee and the buyer’s own contribution.

The structure will depend on whether the franchise is an existing business or a new greenfield location.

What Costs Can Franchise Finance Cover When Acquiring an Existing Franchise?

For an existing franchise business, a term loan may be used to fund part of the purchase price.

The purchase price may include:

• business goodwill;

• plant and equipment;

• stock;

• licences or operating rights;

• work in progress, where relevant; and

• the value of an established customer base and trading history.

The lender will generally assess whether the business’s sustainable earnings can service the proposed debt and whether the purchase price is commercially supportable.

Finance may also be affected by the remaining term of the franchise agreement and lease. A lender may be reluctant to provide a loan term that extends materially beyond the period during which the buyer has the right to operate the franchise or occupy the premises.

Can Finance Cover the Initial Franchise Fee?

The initial franchise fee may form part of the total project cost for a new franchise.

However, lenders may treat franchise fees differently from assets such as vehicles or equipment. The fee does not usually provide tangible security that can be sold if the business fails.

Whether it can be financed will depend on:

• the franchise system;

• the lender’s policy;

• the buyer contribution;

• available security;

• total project cost; and

• the expected cash flow of the business.

For an accredited franchise system, the lender may have an established approach to assessing the franchise fee as part of the overall funding requirement.

Can Fit-Out and Refurbishment Costs Be Financed?

Fit-out costs can represent a substantial part of establishing a retail, hospitality, fitness or service-based franchise.

These costs may include:

• building works;

• electrical and plumbing work;

• counters and cabinetry;

• signage;

• flooring and lighting;

• kitchen or service areas;

• technology installation; and

• franchisor-required design elements.

Fit-out finance may be included in a business term loan, funded through a dedicated facility or supported by property security.

Lenders will usually require detailed quotations and may release funds progressively as work is completed. They may also include a contingency allowance because construction and fit-out costs can exceed the original budget.

Buyers should also identify any refurbishment obligations that may arise during the franchise or lease term.

Can Vehicles and Equipment Be Financed Separately?

Vehicles and identifiable business equipment may often be financed separately from the main franchise loan.

This could include:

• commercial vehicles;

• kitchen equipment;

• coffee machines;

• point-of-sale systems;

• medical or fitness equipment;

• machinery;

• computers; and

• other operational assets.

Separating equipment finance from the business acquisition loan can reduce the amount required under the primary facility and align the loan term with the useful life of the asset.

The lender will consider the equipment’s value, age, use and ability to be resold. Customised or heavily installed equipment may be treated differently from standard vehicles or portable assets.

Can Franchise Finance Include Stock?

Opening stock or the stock transferred with an existing franchise may form part of the overall funding requirement.

However, lenders may not finance stock dollar-for-dollar. Stock can fluctuate in value, become obsolete or be difficult to recover and sell.

The buyer may therefore need to fund some stock from their own contribution or working capital.

For an existing franchise, the sale agreement should clearly explain:

• whether stock is included in the purchase price;

• whether it is valued separately at settlement;

• how the stocktake will be conducted; and

• whether there is a maximum stock adjustment.

Why Is Working Capital Important?

Working capital is the cash required to operate the franchise after settlement or opening.

It may be needed for:

• wages;

• rent;

• utilities;

• stock purchases;

• royalties and marketing levies;

• insurance;

• initial marketing;

• supplier payments; and

• unexpected operating expenses.

Working capital is particularly important for a greenfield franchise because sales may take time to reach the forecast level.

A lender may provide an overdraft or other working-capital facility, but buyers should not assume that all start-up losses will be financed. The lender will generally expect a realistic cash-flow forecast and an appropriate financial buffer.

Can Finance Help With Lease Requirements?

A franchise operating from leased premises may require:

• a rental bond;

• a bank guarantee;

• rent paid in advance;

• legal and lease costs; and

• make-good or refurbishment obligations.

A bank guarantee may support the landlord’s security requirement without the buyer paying the full amount directly to the landlord. However, the lender may still require cash or other security to support the guarantee.

The guarantee also uses part of the buyer’s overall borrowing capacity and should be included in the finance assessment from the beginning.

Are Professional and Establishment Costs Financed?

Professional and establishment costs may include:

• legal advice;

• accounting and due diligence;

• valuation fees;

• lender and documentation costs;

• insurance;

• business registrations; and

• franchise training and travel.

Some lenders may allow certain costs within the overall finance structure, while others expect the buyer to pay them from their own funds.

These costs should still be included in the project budget. Excluding them can leave the buyer short of cash before the business starts trading.

Why Might a Franchise Need Several Finance Facilities?

Different costs carry different risks and may be best funded through separate facilities.

A franchise finance structure could include:

• a term loan for the business purchase or establishment costs;

• equipment finance for vehicles and operational assets;

• an overdraft or working-capital facility;

• a bank guarantee for the landlord;

• property-supported lending;

• buyer equity; and

• vendor finance for an existing franchise acquisition.

The important question is not simply what costs can franchise finance cover. It is also whether the complete finance structure leaves the franchise with enough cash to open, operate and meet its repayments.

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General information only. Seek professional advice for your circumstances.