The attractions and pitfalls of multi-unit franchising

The number of franchise systems that have franchisees controlling multiple units has increased in recent years. Although United Kingdom franchisees operate on a relatively small scale compared with the blockbuster multi-unit franchises in the USA, the model is gaining popularity

It has been suggested that the rise of multi-unit franchising in the UK may be linked to the strength of the country's economy. But are there any other explanations for its recent success as a business model?

Franchisees usually operate in their own locality, meaning they bring knowledge of geographic locations and labour markets to the franchise, as well as their own managerial skills and financial capital. Through multi-unit franchising this local market knowledge can be fully exploited. A network of single unit operators is likely to exhibit a wider variation in performance than a group of units operating under the same administrative structure.

For the franchisor looking to expand, the multi-unit approach can be a cheaper alternative to the one-by-one approach of recruiting individual franchisees. It can sometimes mean a saving on the cost of recruiting, screening and training franchisees.

Having one franchisee in charge of several units can also relieve the franchisor of some responsibilities. The franchisee will take charge of monitoring and controlling manager behaviour within their outlets, where it may ordinarily be down to the franchisor. Another possible explanation why multi-unit franchising is an increasingly popular option among franchisors is that it is not easy to recruit individual franchisees. Having one franchisee in charge of several units means a smaller number of positions to fill.

There are two routes to expansion under the multi-unit approach. The first of these is area development agreements, where the franchisee has an obligation to open a specified number of outlets in a defined area over an agreed period of time. The other method is sequential multi-unit franchising, where the franchisor grants an existing franchisee the right to operate a new unit, with each subsequent unit being governed by a separate agreement.

For franchise systems using area development agreements the challenges of recruiting suitable franchisees can be huge, not least as the risk to the system, if the area developer proves unsuitable, is much greater. The skills required to run two units are not that different from those required to operate a single unit, however as the number of units rises different competencies may be required. It's important to consider whether the fact that a franchisee has successfully operated one unit means they would be able to operate additional units. Undoubtedly multiple unit franchisees should benefit from the local market knowledge, experience and skills they developed when operating other units, however the extent to which these will be useful in the management of several units is open to question.

The financial strength of a multi-unit franchisee is another vital factor to consider. Franchisors need to establish that the franchisee has sufficient resources or access to adequate finance before taking them on. Banks will want to financially assess the individual and establish that they have the right skills to operate multiple sites. It is possible that the franchisee's assets may have been fully used after setting up the first one or two units, so it is important to understand how the required finance can be structured once traditional security has been fully utilised.

It's often said that management of the franchisee relationship is the greatest challenge that franchisors face and it would appear for franchisors of multi-unit systems such challenges are only likely to be magnified. Equally the potential damage to the system if relations are not managed successfully is far greater. Litigation between multi-unit franchisee holders and franchisors in the USA is common place.

There are several issues that a franchisor needs to consider when allowing multi-unit franchises. Some franchisees may enter into multi-unit agreements in order to have a greater influence over their franchisors. It could be argued that over time franchisors without company-owned outlets may find themselves in a weakened position, due to the relative size and power of franchisees owning multiple outlets. It is essential that the franchisor closely monitors the ongoing performance of the franchisee's management team, financial performance and compliance to the business operating system.

Franchisors should carefully consider the implications of multi-unit franchising on their network before proceeding. Research suggests that development strategies are not always franchisor-led, but rather franchisors react to opportunities as they arise. Multi-unit franchising may arise after approaches from franchisees and are, therefore, an opportunistic method of growth, rather than a considered response to unit performance. Multi-unit franchising may be more challenging than either the franchisor or franchisee realise.

Multi-unit franchising is a specialist field and thorough research is required to ensure that this route is strategically right for the franchisor's business. Franchisees also need to carefully consider their expansion plans before committing to running multiple outlets.

Text: Lloyds TSB Franchise Manager Richard Holden