Despite the well-publicized slips and falls his company has experienced, Shakey’s Pizza operator Chuck Wilburn is glad he chose to remain a franchisee rather than become an independent restaurateur.
Franchising, he says, “is the way to go because you have a solid concept, a proven product and in our case, a lot of value in a name.”
The growth of the restaurant industry, particularly within the last 50 years, has primarily been built on franchising. Without it, it’s likely the industry would not have expanded so quickly. Nevertheless, there are a number of ups and downs associated with franchising partnerships. Witness the plight of Shakey’s.
When Inno-Pacific Corp. acquired the chain in 1989, franchisee Wilburn hoped it would signal a turnaround for the struggling brand.
At its peak in 1976, Shakey’s boasted more than 450 units across the United States, but when the Singapore-based investment firm purchased the company 13 years later, the number was half that. Sold previously to multiple and inexperienced franchisors, the company was failing.
But the worst was yet to come.
“At the time I thought anything had to be better than how it was, but I was wrong,” Wilburn, a single-unit operator in Redlands, Calif., says.“You expect a franchisor to grow the company and improve it so everyone is profitable, but it didn’t turn out like that. It was all about Inno-Pacific’s greed.”
Years of acrimony followed. Some franchisees fled the system and others filed breach of contract lawsuits. In 2006, with just 63 stores remaining, a nine-unit Shakey’s franchisee group bought out Inno-Pacific in an attempt to end the chain’s skid.
Through it all, Wilburn never doubted he’d made the right choice by remaining with Shakey’s.
“A lot of people I’ve known who’ve given up the name and became independents have done alright, but they’ve not been as successful as they were,” he says.
Count David Karam as another franchising fan. Karam, president of Cedar Enterprises, a 134-unit Wendy’s franchisee in Columbus, Ohio, recently celebrated his company’s 35th anniversary.
“Dave [Thomas] never set out to have this huge company, but when someone is passionate about what he does, it’s easy to see how [the corporation] grew like it did.” Karam says. “So many people said the country didn’t need another hamburger chain back then.”
Yet in the face of stiff competition, Wendy’s rocketed to the No. 3 spot.
“Honestly, I don’t think it could’ve happened that fast without a franchise system,” Karam says.
The facts support his claim. Franchised operations have proven consistently successful business options in the most challenging markets. A 1999 U.S. Chamber of Commerce study found that 86 percent of franchises that opened within the previous five years remained under original ownership, while 97 percent overall stayed open.
By contrast, a U.S. Small Business Administration study conducted between 1978 and 1998 found 62 percent of independently operated businesses failed or went bankrupt within six years of opening.
Darrell Johnson, president of FRANdata Corp., says the franchise business model has succeeded more dramatically in restaurants than in any sector.
“The food industry has pioneered a lot of the changes and developments that have benefited the franchising business model overall,” he says. “In terms of franchise growth right now, there’s a lot more action in other segments than in the food industry. But it’s the food industry that has the greatest preponderance of franchised units.”
But as the Shakey’s story demonstrates, franchising is not without perils for franchisors and franchisees. The most successful partnerships, both parties say, are those in which each side is committed to the other’s profitability.
Michael Seid, managing director of Michael H. Seid & Associates, a franchise consulting group, points to the collapse of doughnut chain Krispy Kreme as an example of a largely one-sided franchise arrangement. Seeking to spike revenue, drive franchise royalties and inflate its skyrocketing stock price—all at the same time—the Winston-Salem, N.C.-based chain expanded too quickly and partnered with a host of ill-suited franchisees.
Seid says a great franchise system is well branded, has a profitable base of stores, tested systems and attracts well-capitalized franchise partners. Weaknesses in any part of this structure threaten to collapse the entire business, he adds.
“How many times have we seen somebody have one great operation and think they can franchise it?” asks Seid, who coauthored “Franchising for Dummies” with Dave Thomas. “Or just as bad, you see people or private-equity firms with a lot of cash, and they think franchising a restaurant chain is similar to expanding other businesses. It’s not that easy.”
Unlike independent operations, franchises do provide a deeper look into the business before a sale. By law, a Uniform Franchise Offering Circular, or UFOC, must detail the business, revealing not only all costs tied to its purchase and operation, but its legal history as well.
“If a client has a lot of litigation disclosed in the UFOC, a lawyer will see that as a red flag,” says Ellen Lokker, a franchise lawyer in Reston, Va. UFOCs, she adds, are helpful documents, but they’re also complicated to navigate without the help of experienced legal or franchise business professionals.
No matter how slick and refined, no franchise system can overcome a bad franchisee choice, says Craig Dunaway, president of 157-unit Penn Station Subs, based in Cincinnati. When he interviews candidates, he asks, “Why in the world do you want to get into this business?”
“If they tell me it’s because they’ve got some retirement money to invest and they heard franchising a restaurant was a good thing to do, we’ve got a problem,” he says.
Dunaway says Penn Station’s franchise model centers on five-store allotments, “which we think is a good number for growth, but not so large that the owner-operator isn’t far from the counter.”
Jack Butorac, president of Marco’s Franchising, the expansion arm of 170-unit Toledo, Ohio-based Marco’s Pizza, says franchising is attractive because it provides prospective franchisees with a near-turnkey package. With the detail work of recipes and production standards perfected, operators can concentrate on the big picture of growing the business.
But sometimes having the hard work done leads franchisees to forget the expertise of those who laid the groundwork earlier.
“It’s natural for people to think they’ve got a better way of doing it,” says Butorac, a veteran executive of Chi-Chi’s and Tumbleweed restaurants. “But when there’s doubt about how things should be done, they’ve got to follow our procedures until we decide to make changes, if at all. Sometimes those disagreements get ugly.”
Butorac credits franchisees with most of the best ideas developed for advancing the whole system, so he says he listens to their suggestions eagerly. But he notes he often has to remind them that part of the system’s stability is its uniformity. That means changes are made cautiously. “A lot have strong feelings about what the concept should be, and that’s often the root of where things have fallen apart,” Butorac says.
Cedar’s Karam says successful franchisees demonstrate their entrepreneurial strengths by adding value to an existing system rather than fretting over things they want to change. For example, his company, he says, pioneered Wendy’s late-night dining as well as its Hispanic-marketing program, and helped develop back-office systems widely used throughout the chain.
“There are many opportunities to exercise your entrepreneurial experience without tinkering with the business model in a good system,” he says.“When you marry that entrepreneurial spirit to a franchise system, it’s a magical, symbiotic relationship.”
