FGPCL Executive Insight


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Insights into the past and future of Franchise leasing and the Executives Leadership roles.

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FGPCL Executive Insight

  1. 1. Franchise Executive Insight The Executive’s Role in Real Estate Transactions Founders, CEOs, Presidents, COOs, Franchise Sales Executives, Real Estate Directors Volume I, No. 1 - Introduction Table of Contents INTERNATIONAL FRANCHISE ASSOCIATION ® A Reality Check for Real Estate Services 2 Redefining the Franchisor’s Role 3 Looking Closely at Legal Strategy 4 More Involvement Doesn’t Have to Come With More Risk 5 Higher-Quality Locations With a Controlled Sales Process 6 Beware the Local Leasing Agent 7 The Right Answer: A Strategic Partner 8 Protecting Yourself While Promoting Franchisee Success 9 Building a Successful Real Estate Strategy 10 The Cost of Do-it-Yourself Site Selection 11 The Financial Impact of a Poorly Negotiated Lease 12 Finding the Hidden Profits During Legal Review 13 FGP - Your Strategic Real Estate Partner in Commercial Leasing 14
  2. 2. As a Franchise Executive, your ongoing success relies on the success of your franchisees. To support and maximize that success, you provide your franchisees with the tools and access to expertise they need to launch and grow a profitable business. That includes finding the most strategic location for your franchisee to maximize their revenue and profitability. Typically, franchisors have taken a passive and limited role in the real estate process, relying instead on quick-and-easy methods of identifying and securing locations. Understandably, new and emerging franchisors often fall into a more self-preservationist approach, often perpetuated by inadequate consulting, operational, or legal strategies. This approach pushes the burden of key real estate decisions — site selection, lease negotia- tion, and legal review — onto the shoulders of inexperienced franchisees. These franchisees, in turn, rely on outsourced, untrained, and inexperienced real estate agents and brokers identified state by state through regional, national, and network organizations — hardly qualifying them as experts in your Franchise Business Model. This recipe for disaster is also a reflection of a franchisor’s missing core value: to provide high-quality and standardized real estate services that protect a franchisee’s success. In this report, we take a closer look at why these common practices are far from best practices, and why it’s important for Franchise Executives to take a more proactive role in franchisees’ real estate decisions as part of their core values. The old real estate adage is true, particularly for franchise operations: Location really is everything. As a Franchise Executive, your philosophy and approach to the real estate services you provide have a significant impact on your franchisees’ performance and survival. Real estate plays a central role in the overall success of a franchise system. How visible is the location, how convenient is it to access, does it offer the right tenant mix, how advantageous are the lease terms — all these factors drive a store’s volume and profitability. Your franchisees may follow your operating system to the letter, but without the right location and lease, revenue and profitability will not be maximized to their fullest potential. A Reality Check for Real Estate Services LOCATION,LOCATION,LOCATION The Importance of Making Real Estate a Core Value of Your Franchise System If CEOs visited and audited each location in their system, they would discover that there is up to a 30% error factor in visibility, convenience, tenant mix, economics, and lease terms. This is the single largest contributor to a franchisor’s annual turnover rate. 2
  3. 3. Franchise Executive Insight Utilizing a multitude of different outsourced real estate agents, brokers, and firms denies your franchisees a consistent level of quality and expertise that is required to identify and negotiate high-performing locations. So what should a Franchise Executive be offering franchisees in the way of real estate services? Best practices tell us that franchisors should be providing each franchisee with a standardized all-in-one site selection, lease negotiation, and legal review service on par with the services provided for a corporate store. In other words, treat your franchisees to the same level of expertise and scrutiny you would a corporate store you’re preparing to open. Currently, that’s not the way things are done. A huge gap exists between the way real estate services are provided for franchisees vs. corporate stores. The reason for this gap goes back to the aforementioned self-preservationist approach adopted by most franchisors — an approach which is only reinforced by the Franchise Disclosure Documents (FDD) and Franchise Agreements. Among these documents you’ll find site selection and final location waivers designed to legally release franchisors of any responsibility in the event poor site selection and unfavorable lease terms contribute to the franchisee’s failure. But how can a Franchise Executive, in good faith, ask a franchisee to assume all the responsibility for poor real estate choices while at the same time offering substandard real estate services provided by untrained and outsourced leasing agents state by state with little vested in the success of the franchise operation? It doesn’t seem quite fair. Nor does it sound like good business practices. To maximize the revenue potential of each franchisee location, the Franchise Executive must develop a standardized approach to the real estate process, from site selection to lease negotiation and legal review. This standardization ensures that each franchisee has been offered an equal opportunity to succeed. Redefining the Franchisor’s Role STANDARDIZATION The Key to Securing the Highest-Performing Locations for Franchisees Is Standardization 3
  4. 4. To identify the root of this hands-off real estate approach motivated by self-preservation, we must take a closer look at the current legal strategy in play. Franchise agreements are consistently drafted so that franchisees have the right to select and choose their final choice of location. These agreements also provide the franchisor the right to approve or disapprove of the location based on any criteria with the purpose of protecting the franchisee or other franchisees within the system. Look even further into the document and you’ll find other strategies meant to release the franchisor from responsibility. These include requiring the franchisee to agree to hold the franchisor harmless in the event a poor location contributes to the closure of the business. The majority of FDDs and franchise agreements also refrain from listing an “approved” real estate service provider — not because doing so is illegal, but because it is simply not advised. Misinterpreting this legal advice as a legal must, franchisors refrain from taking an active and committed role in the real estate process. They take limited steps to innovate or improve their current real estate system, or to assume more operational responsibility in providing a higher quality of real estate services. But keep in mind: Just because you’re not actively involved in the real estate decisions made by your franchisee doesn’t mean you’re excused from your legal responsibilities. Looking Closely at Legal Strategy LEGALSTRATEGY Don’t Let Legal Language Limit Your Real Estate Services 4
  5. 5. Yes, your consultant or attorney may advise you not to list an approved real estate provider within your FDD. Chances are, you’ve been told that crossing this legal line might result in a lawsuit. But as part of your legal strategy and your real estate process, you should articulate your responsibility as a franchisor to identify an approved and exclusive real estate provider who is trained on your location specifications and guidelines. You must have the freedom and flexibility to continually improve your real estate process aimed at boosting store revenues and profitability while reducing franchisee failures. By under- standing the difference between legal mandates and legal strategies within your FDD, you’ll feel more confident about becoming actively involved in your franchisees’ real estate decision. The unavoidable fact is, all parties involved in a franchise agreement are exposed to vicarious liability. Regardless of how well your attorney drafts the agreement, a franchisee can still initiate a meritless lawsuit. But keep this in mind: Franchise lawsuits are rarely triggered by the written legality of a contract, but rather the mismanagement of the franchisor-franchisee relationship. Bottom line: Don’t let your fears of a potential lawsuit prevent you from requiring the use of an approved real estate service provider as part of your franchise agreement. And by all means, don’t let it prevent you from supporting the success of your franchisees. While you’re perusing your FDD, ask yourself this: Is it more advisable to let an inexperienced franchisee select his or her own location? Or would it be smarter for the franchisor to require the use of an approved real estate service provider trained to find the most strategic location for that franchisee? Before you answer, remember that you will have the right to contractually approve the location once it’s selected. We think the answer is clear. The more experienced the real estate professional, the more informed your franchisee, the better the chance of that franchise store succeeding in that location. More Involvement Doesn’t Have to Come With More Risk INVOLVEMENT 5 The right process with the wrong agent and the wrong agent with the right process will both yield negative results. Your real estate agent or broker should understand your business model as well as the CEO. Franchise Executive Insight
  6. 6. Chances are, you’ve heard it before. When it comes time to discuss site location, a new franchisee candidate tells you, “I have a friend/family member in real estate.” Or perhaps, “I have a real estate background.” This comment reflects a desire common among new franchisees to be in control of the real estate process, even while possessing limited experience with your franchise system’s customer, concept, demographics, or economics. As a franchisor, you have the responsibility to speak up and request that your franchisees follow the real estate process you have carefully developed and put in place. Thus limiting the franchisee’s exposure to unknown risks when opening their first location. It’s tempting, especially when the need for a franchise sale is high, to simply agree with the franchisee who insists on taking control of their own real estate process. But resist the urge to give in. The franchise sale you make will be canceled out if the franchisee fails, resulting in decreased royalty revenue and a higher risk of a lawsuit. Instead, take the time and effort to firmly explain the real estate system you’ve put in place for the benefit of your franchisees. Make sure your franchisees understand that this system is proven and tested, and undergoes continual improvement based on best practices you’ve gleaned with each new location you open. Higher-Quality Locations With a Controlled Sales Process HIGHER-QUALITYLOCATIONS 6
  7. 7. In an attempt to make a quick sale, franchisors often fall into the pattern of telling potential franchisees what they want to hear, namely: “We have someone in your area who does our real estate.” The franchisee may be happy and relieved to hear this, even though using that particular provider may not be in the franchisee’s best interests. And here’s why: The majority of local commercial leasing firms represent landlords and tenants. This dual representation lacks a fiduciary responsibility and is a conflict of interest. Thus, these agents have more loyalty to local landlords who provide the listings, and who will continue to do so. This long-term landlord relationship is more valuable to the agent than the handful of leasing assignments they’ll see for franchise locations. Which means that local leasing agent is less interested in finding the best location and negotiating the best terms for your franchisee, especially in mid-sized markets where franchise locations are limited, than in pleasing the landlord who fuels the agent’s long-term income. New and emerging franchisors do not have the time nor the resources to train geographically dispersed, outsourced real estate firms and leasing agents on their customers, concepts, demographics, unit-level economics, and any unique aspects of high-volume locations — particularly when the location of their next franchise sale is unknown. Franchise Executives have a high moral obligation to ensure a franchisee’s monthly rent is negotiated to be in the range of 5% to 10% of the average systemwide store revenue. Failing to implement a controlled and standardized lease negotiation process can cause franchisees to pay up to 20% in monthly occupancy costs and devastate your franchisee’s potential profitability. A leading cause of franchisee attrition is turning a blind eye or blaming reduced store revenue, rather than poor lease negotiation, for high occupancy costs. Lease negotiation must be calculated and performed on the lowest common denominator that represents the average store revenue of 60% of your franchisees. This strategy protects the profitability of 20% of your lowest-performing stores, and maximizes the profitability of 20% of your highest-performing stores. This standard of operational excellence can only be achieved by recognizing the importance of utilizing one strategic partner who has mastered your site selection and lease negotiation processes, and can execute immediately in all 50 states once the franchise agreement is executed. So, given the nature of leasing agent-landlord relationships and the barriers to training outsourced real estate agents, how should you approach the real estate process with your potential new franchisee? “We have someone in your area who does our real estate,” isn’t the right answer. Beware the Local Leasing Agent BEWARE 7 Franchise Executive Insight
  8. 8. Instead, let your franchisee know that you have developed a standardized real estate process based on years of experience as a franchisor. Tell them that this proven process includes proprietary methods for selecting the most strategic site, negotiating favorable lease terms, and performing a thorough legal review to ensure the best location and economics for your franchisee. Explain that your company collaborates closely with a single real estate firm that supports your real estate specifications and guidelines. This strategic partner in commercial leasing understands the unique nuances of finding locations and negotiating leases that work to the franchisee’s advantage. What’s more, this firm has equal access to all vacancies and pocket listings within your local market. Let your franchisees know that this partnering real estate firm will fly into their market, at no cost to the franchisee, to identify the highest-quality location, then work on the franchisee’s behalf and in their best interests to negotiate a lease that adheres to your high operating standards (the same standards you’d apply to a corporate store). Once the franchisee has indicated their preferred final site selection and has executed a Letter of Intent, you as the franchisor will approve or disapprove the location. If approved, your strategic partner’s legal team or a local attorney will then review the landlord lease. The Right Answer: A Strategic Partner STRATEGICPARTNER 8 Each Rural, Medium, Metro, and Major Metropolitan Market IS Different, but the Real Estate PROCESS Is the Same
  9. 9. By adopting this process, and sharing it with your franchisees, you are offering the highest quality of real estate services to your franchisees to support their success in their new location. At the same time, you also secure legal protection for yourself by requesting the following: 1. Franchisee agrees to a waiver within the Franchise Agreement acknowledging that you as the franchisor are not responsible for the operating results of the final location. 2. Franchisee signs a Tenant Representation Agreement with your third-party, strategic real estate partner executing your franchisee’s all-in-one site selection, lease negotiation, and legal review services. 3. The franchisee makes a final decision on what location they have decided upon and executes a Letter of Intent with the landlord. 4. The franchisee will sign a separate Legal Engagement Letter with an attorney to gain further legal advice and counsel on the final Landlord Lease Contract. 5. The franchisee executes a Landlord Lease accepting their own liability within a corporate signature and/or personal guaranty on the location. While liability cannot be eliminated entirely, regardless of how well your attorney drafts your FDD, maintaining an involved, committed, and proactive relationship with your franchisees can go a long way toward avoiding franchise lawsuits. The quality of your real estate process is a key part of building this relationship. Protecting Yourself While Promoting Franchisee Success PROTECTINGYOURSELF 9 Franchise Executive Insight
  10. 10. Up to this point, we’ve focused on the importance of having a standardized real estate process in place to support franchisee success. Now let’s take a look at the central components of this process — as well as the potential costs of not having a process in place. Franchisors spend much of their time and resources developing strategies and systems for marketing, sales, training, operations, distribution, and supply chains. What they often neglect to develop is a standardized approach to location, leasing, and legal processes. Franchisors should absolutely have a highly detailed real estate operations manual that clearly defines the specifications and guidelines for each of these areas: site selection, lease negotiation, and legal review. Sharing this manual with the key participants in the lease transaction (the franchisee, area representative, site selection specialist, franchisee’s leasing agent, landlord’s asset manager, landlord’s listing agent, and two attorneys) will help prevent inconsistencies, frustration, loss of time, and a guaranteed sharp increase in start-up costs that cripple working capital. Building a Successful Real Estate Strategy SUCCESSFULSTRATEGY 10 Site Selection, Lease Negotiation, & Legal Review
  11. 11. Let’s take a look at a sample franchisee lease assignment in which the absence of a standard- ized process directly and substantially impacts the profitability of your franchisee’s business. Presented with the option to rent a 2200 sq. ft. space, a franchisee opted instead for a 3000 sq. ft. space based on the leasing agent’s recommendation (after seeing the franchisee’s excited reaction to the extra square footage). The additional 800 sq. ft. will have minimum effect on the franchisee’s gross sales, and falls outside the low and high allowable (1700 sq. ft.–2500 sq. ft.) for the business to maximize profitability. What’s more, the franchisee must now pay an extra $2.00 at 800 sq. ft., or $1,600 per month, for a total of $19,200 per year. Over a five-year lease term, the franchisee stands to lose $96,000 of profitability. All this could have been avoided by having a trusted and trained professional, handpicked by the franchisor who is experienced and has mastered the franchisor’s site selection process, there to guide the franchisee to the right location and square footage. The Pros of Using an Approved Professional This handpicked professional will know the common mistakes in selecting a site — and how to avoid them. They’ll know if a potential location is one intersection too far, on the wrong side of the street, or in the wrong location within the shopping center. They’ll know that intangible factors such as visibility, convenience, traffic patterns, and tenant mix — not just demographics and lifestyle behaviors — are the key factors that make or break a franchisee’s store volume. Only an experienced, approved, trained professional — one who exclusively represents the franchisor — understands these intangibles on behalf of the franchisee. And only by repeatedly representing the same franchise concept in each new market will that professional know the right questions to ask, and the right time to ask them. Your franchisee deserves to have a professional with this knowledge, experience, and insight gleaned through previous location and site selection experiences working to protect their best interests. The Cost of Do-it-Yourself Site Selection APPROVEDPROFESSIONALS 11 Franchise Executive Insight
  12. 12. Let’s take another look at what a lack of a standardized process can cost your franchisee, particularly when it comes to lease negotiation. In this scenario, the franchisor outsources a real estate agent to provide services for a franchisee in the agent’s local market (the old, “We have someone in your area who does our real estate” tactic). This agent has not been expertly trained on your lease negotiation strategy or unit-level economics, and will be used on a limited basis only when a franchise is sold in that area. This agent has a low vested interest in, and little loyalty to, either the franchisor or the franchisee; his main interest lies in closing the transaction and collecting his commission as quickly as possible. With no expert guidance from a professional vested in the franchisee’s success, the franchisee should expect to: • Pay $1,600 per month in additional rent with $2.00 at 800 sq. ft. • Pay $2,000-$10,000 in demolition costs to return the property to a vanilla shell • Pay the entire cost of converting a raw or gray space to a clean vanilla shell (four walls, drop ceiling/standard lighting, HVAC, and ADA bathroom) • Lose up to 50% of the available/potential landlord-tenant improvement allowance • See a significant reduction in savings related to rent abatement To offset these kinds of costs generated by inadequate lease negotiation enacted by an untrained, inexperienced outsourced agent, franchisees end up investing a significantly larger amount of their allocated start-up budget and this substantially reduces their available working capital. This could represent $50,000 to $100,000 of unnecessary expenditures before the doors even open. Add to that these excess monthly rental costs, and you’re looking at $19,200 less per year in the franchisee’s net profit. The Financial Impact of a Poorly Negotiated Lease FINANCIALIMPACT 12 A standardized all-in-one site selection, lease negotiation, and legal review real estate process will reduce the start-up costs and protect the working capital of your franchisees.
  13. 13. Last but certainly not least, it’s critical to make sure your legal review process is as standardized as your site selection and lease negotiation processes. Once a Letter of Intent has been fully negotiated between the leasing agent and the listing agent, franchisors typically offer inexperienced franchisees several options: review the lease themselves, hire a local attorney to review the lease, or ask their leasing agent or broker to review the lease. We argue that none of these options are preferable. Instead, as part of your high-quality real estate services, use your approved real estate attorney — ideally, a professional who is trained in all aspects of your real estate process — to carefully review the lease. Your attorney will be able to identify opportunities to improve the contractual terms and flexibility of the final lease. While there are no guarantees, landlords will often agree to more flexible terms related to: • Corporate Signatures • Early Termination or Kick-Out Clauses • Good Guy Clause • Expiring Personal Guaranty • Refundable Deposits • Improved Signage Provisions • Negotiated CAM/NNN Costs • Sublease, Assignment, and Relocation Clauses Without this expert legal resource available, your franchisees will often feel forced to accept the lease as is, unfavorable terms and all. Plus, consider this: If you were investing in a corporate location, you can be certain you would ask your attorney to thoroughly review the lease for missed opportunities. Your franchisees deserve this same scrutiny from a legal expert familiar with your legal strategy. Finding the Hidden Profits During Legal Review LANDLORDLEASES 13 Franchise Executive Insight
  14. 14. By now we hope you’re convinced of the need to adopt a standardized real estate process that encompasses a clearly defined all-in-one strategy for site selection, lease negotiation, and legal review. We also realize that as a Franchise Executive, you may not have the time, resources, or capabilities to put this process in place. We recommend that before you develop a process, you identify the right partner with your values to help you build and implement your franchise real estate strategy so that you can remain focused on your core business. As your strategic partner, we strive to embrace your core values and commit to learning your business model as well as the CEO, which ultimately protects you and your franchisees. At FGP Commercial Leasing, we bring a corporate eye coupled with decades of franchise and real estate experience to the table. Collaborating closely with you, we will leverage our expertise and resources to: • Develop a comprehensive real estate operations manual • Define your standardized real estate process • Communicate this process and its value to your franchisee • Travel to your franchisee’s market to identify the most strategic locations and assist with site selection at no cost to you or your franchisee • Assess and evaluate potential locations in person with your franchisee • Negotiate the most advantageous lease terms on behalf of your franchisee • Provide your franchisee expert legal review of the landlord lease for a fixed fee • Issue ongoing recommendations to improve your real estate process Results are what count It is not the name or size of a real estate firm that creates results, it is the experience of the individuals of one team who are performing your standardized site selection, lease negotiation, and legal review services for your franchisees. FGP - Your Strategic Real Estate Partner in Commercial Leasing STRATEGICPARTNER 14
  15. 15. MutualCommittment 15 Your Strategic Real Estate Partner in Commercial Leasing... At No Cost to You Franchise Executive Insight Take advantage of our complimentary 5-week program. Call 1.800.471.1682 today. Upon a mutual commitment to a strategic partnership, we will assist in the develop- ment of standardizing your real estate process. We will learn your industry, concept, customer, unit-level economics, and overall location and leasing strategy. Once we complete our 5-week program, at no charge to you, we will have earned your trust and have become your strategic partner in commercial leasing. Week 1: FGP Commercial Leasing will ask your executive team to complete our Preliminary Leasing Questionnaire. This questionnaire will assist us in the development of the Real Estate Operations Manual. Week 2: FGP Commercial Leasing will interview select members of your corporate team to learn your overall leasing and location strategy and identify areas for process improvement. We will identify gaps and exclusions in your current leasing process that you may not know exist. Week 3: FGP Commercial Leasing will submit a Summary Report of our findings and recommended process improvements. Week 4: FGP Commercial Leasing will prepare a complimentary, private-labeled Real Estate Operations Manual that will include: site selection, site criteria, building requirements, floor plan specifications, site package, lease process, sample LOI, franchisor addendum, signage, and lease renegotiation strategy. Week 5: FGP Commercial Leasing will conduct teleconferences to consult and train your team on how FGP Commercial Leasing’s services will enhance your current real estate process. RESULT: A long-term strategic partnership between our management teams. The culmination of this 5-week program ensures a commitment to process improvement and offers the highest level of trust, professionalism, and experience, all the while expanding a culture of healthy and connected franchisees.