Franchising's Credit Crunch

Published in CSP Daily News

Bridging the "giant disconnect between lender and borrower"

WASHINGTON -- Franchisees would not have to scrounge for capital if franchisors provided lenders with detailed information about the brands' performance and plans, according to findings presented at a recent event focusing on franchising's credit crunch. The revelation seemed to stun some on the 200-plus attendees, who were drawn from the "C" suites of all franchised businesses, including convenience store chains. Research presented at the Small Business Lending Summit confirmed what many franchisees have been complaining about for years: They can't get the financing needed to [image-nocss] expand or refurbish.

The researcher, Frandata, said franchisees across all industries would fall about 20% short of their capital targets for 2011, a gap of some $2 billion. The ripple effect will impede the recovery of both franchising and the economy in general, said Frandata CEO Darrell Johnson.

Other speakers at the summit, which was held earlier this month and was hosted by the International Franchise Association (IFA), cited the possibility that franchising would become largely an overseas activity for U.S.-based franchisors. Commented franchising lawyer Phil Zeidman: "Wouldn't it be ironic if franchising inside the United States, this most American of innovations, found itself outstripped by what's happening outside the United States because it was preoccupied" with the credit situation?

Yet lenders participating in the program said they are frustrated because small business is not absorbing the loan dollars financial institutions need to pump into the market for their own growth. One lamented that her boss is constantly hounding her to find more borrowers of the money sitting in depositors' accounts.

The problem, in their estimation, is insufficient demand from franchisees. "We're seeing a lot of hesitancy," said Mary Navarro, a senior executive vice president for Huntington National Bank. "A low sales volume might be part of that hesitancy, and [franchisees] have learned to do more with less."

Her comment, aired during a panel presentation by lenders and echoed by other presenters, prompted moderator and celebrity business writer Geoff Colvin to note the "giant disconnect between lender and borrower."

Colvin was not the only one who seemed perplexed. "I'm totally confused by that," said Bob Dorfman, head of the second-largest franchise in the Five Guys Burger & Fries quick-serve restaurant chain. "Fact is, someone is not telling the truth."

As the conversation wound on, more of the credit gap's underlying causes came to light, providing insights into the "disconnect."

Lenders stuck with their assertion that demand has diminished, not grown. But they acknowledged that they are far pickier in the wake of the Great Recession about whom they will grant a loan. In particular, they want a longer and deeper track record from prospective borrowers, since their prime directive at present is to avoid risk. That means collecting as much operational data as they can, and there is not any for first-time franchisees or veterans entering unfamiliar markets.

Yet they noted that franchisors could readily fill that information gap with data from stores in similar situations. They could provide basic unit-level economic data--real results, not projections--and could give the info a forward spin by talking about marketing and promotional plans.

The lenders noted how they would welcome such insights as what human resources and training support they routinely provide franchisees, and what characteristics tend to make stores successful. Several mentioned that they would welcome information about store closings and what prices the stores fetch when they have to be sold.

The conversation prompted one member of the audience to propose that franchisors develop standard processes for getting that sort of information to prospective lenders. He also suggested that the data be standardized for purposes of comparison.

Lynette Tipton Steed, executive vice president and a community banking specialist for Regions Financial Corp., offered a suggestion that franchisors choose a dozen banks coast to coast and work at building a relationship with each. That arrangement would give the lending institutions an opportunity to learn a concept inside and out. Franchisees could skip the usual missionary work, and the banks could make a more informed decision on licensee's loan application.

Others recommended that franchisors handle the application process so they can provide the needed information, a setup already used by a healthcare franchise called BrightStar.

"It's not enough that the borrower meets the credit standards of the bank. It's really a matter of showing the system itself is creditworthy," said Frandata's Johnson. "It's showing we have improved credit systems and showing that franchise systems as a whole are less of a credit risk. That is where we will solve the $2 billion credit gap."

(Restaurant Business, a companion magazine to CSP and CSP Daily News, was a media partner of the Small Business Lending Summit.)