Franchise System Financing in a Tight Credit Market

This is the 33rd in a series of brief articles that Moye White is sending to its clients and friends to provide practical insight about the opportunities & challenges in today's world.

The tightening credit market for traditional bank financing continues to have a severe impact on franchise systems, especially those systems committed to growth. Start-up capital is typically required for franchisees to initially open and operate their franchise locations. To meet these necessary costs, franchisees often turn to banks or third party financing to obtain a significant amount of their initial capital.

Most franchisees were able to tap traditional bank or third-party financing under the relaxed credit requirements that prevailed in the early 2000’s. With the financial crisis, however, a significant tightening of credit standards has resulted in many franchisees being unable to access traditional credit markets despite solid finances, good payment history and strong credit. Without these traditional sources of credit, franchisors face the prospect of limited growth potential for their franchise systems unless and until their franchisees can obtain credit.

To meet this challenge, franchisors are turning to a variety of new, creative practices to assist franchisees in obtaining necessary credit. Many franchisors are providing alternative programs to meet this new economic reality.

Although many of these programs are innovations for franchise systems, they include such options as:

  • Franchisors have established programs which reduce royalty fees or other fees to franchisees in order to improve franchisees’ financial statements.
  • Franchisors have formed separate financing companies to provide direct loans or leaseto-buy programs for franchisees.
  • Franchisors have provided partial guarantees for franchisees applying for bank or other third party credit.
  • Franchisors have created quasi-partnerships with franchisees which require minimal down payments followed by repayment through a percentage of future operating profits.

These options are only a few of the creative and innovative approaches used by franchisors to sustain system growth in a tight credit market.

The legal rights and obligations which attach to lending relationships can be complex and unfamiliar for franchisors who lack institutional experience with these arrangements. In addition to its franchise law expertise, Moye White attorneys have the necessary expertise in lending law to evaluate, suggest and implement creative financing solutions to help franchisors grow their systems and franchisees obtain the necessary capital to commence operations of their franchise businesses.

If you have questions or would like further information, contact: Billy Jones at (303) 292-2900.

Moye White LLP has prepared this bulletin to provide general information; however this bulletin does not provide legal advice and does not create an attorney-client relationship between the reader and Moye White. No legal or business decision should be based solely on the content of this bulletin.