Just Do It: Entrepreneurs Show Why Now is a Great Time to Start a Business

I saw today another example of people using entrepreneurship to overcome the struggling economy.  In addition to the 9.6% of Americans that are officially unemployed, there are many, many more who are underemployed or stuck in a job they don't want just for the security of a paycheck.  But in reality, they don't feel very secure. This article highlights people who are taking control of their situations by starting their own businesses.  Whether it is buying an existing business, purchasing a franchise, or bootstrapping a new small business, I hear similar stories from my clients all the time, and I am constantly surprised by their resourcefulness.  There is a real buzz from the entrepreneurs out there that are creating business for themselves, many of them without quitting their day jobs. Perhaps it is your turn to give it a try.

To learn more about starting a business, franchising, or entrepreneurship in general, take a look through the categories on the right for some additional posts on these topics.

Have you already started a new business?  What has been your biggest challenge?

Turning up the (Flame-Broiled) Heat: How an effective franchise organization should NOT be run

I have commented previously on the ongoing feud between Burger King management and its franchisee association, which represents most of the franchisees in the Burger King system.  It appears they have not learned their lesson and are still going at it. According to a report in the Wall Street Journal, the leaders of the franchisee association sent a blistering rebuke to BK management over $1 double cheeseburgers, soda revenue sharing, and other things. The relationship is sour enough that management retorted not to the association itself, but directly to the franchisees in the system.  In fact, it seems that the only communication that is occurring between the company and the association is through a number of law suits that are currently being traded back and forth.

Franchisee associations are designed to be powerful allies in growing a brand and strengthening the system.  They serve as the common voice of the franchisees, collaborate on national advertising funds, and help guide effective franchise policy, which overall encourages more franchisees and adds to a stronger bottom line for all of its independent owners.

But in the Burger King example, their ongoing disputes have actually had the opposite effect and are now harming the business.  The WSJ noted that Credit Suisse and Oppenheimer & Co. have both downgraded BK stock over these squabbles. And the company had better hope that prospective franchisees are not turned off by the dispute since franchisees account for 90% of the Burger King restaurants.

Clearly this is a topic that stresses the terms of a franchise contract as others have noted.

So much for havin' it your way.

More Burger King Innovation Potentially Rolling Out to Franchisees

I have written before about the feud between Burger King and its franchisees over the $1 double cheeseburgers, a feud which is still generating headlines as a test for pushing prices through a franchise system. But something even more insidious to America's waistline may be rolling out if the flame-broiled franchisor finds success with the launch of its newest innovation - beer.  That's right.  As tantalizingly stated in a CNN.com report:

To keep up with Miami's night life, Burger King (BKC)'s new Whopper bar will offer American beer and Whopper sandwiches around the clock, staying open 24 hours a day, seven days a week.

Nothing says 'America' like being able to drink a brewski in the middle of the night with a meal out of a Michael Pollan nightmare.  Better yet, the beer will come in aluminum cans from the "formerly-American-beer-companies-but-now-part-of-international-conglomerates-in-other-countries" Anheuser-Busch and MillerCoors.  For now the chain is wisely eschewing the drive-thru window for a "walk-up window for orders on the go" in addition to outdoor seating and delivery service, though according to another report, beer is not available as part of the delivery service.  Boo.

What will they think of next?

Do Franchisee Associations Have the Power to Block Franchisor Actions? Cheap Burgers Hang in the Balance.

Interesting situation flaring up with the flame broiled king.  Burger King franchisees are revolting against the franchisor with a lawsuit over the company's new promotion to sell $1.00 double cheeseburgers.  This situation raises a few issues and provides a glimpse into how a large franchise organization operates. First, the legal issue in the suit is whether Burger King has a right to force its franchisees to sell double cheeseburgers at $1.00.  Franchisors must be cognizant of anti-trust laws which exist to prevent companies from using their size and power and collusion to set artificial prices - aka "price fixing" - in an effort to restrain trade.  This includes an absolute bar against setting minimum prices, but allows franchisors a bit of latitude in setting maximum prices for products.  The Supreme Court requires these pricing mechanisms to be evaluated with a "rule of reason" test, and only prevents those schemes that unreasonably restrain trade.  (Is it reasonable to sell double cheeseburgers at $1.00? I can't get the image of the kid in Fast Food Nation out of my head: "there's a reason they only cost 99 cents".) This effectively gives franchisors the right to set promotional pricing as Burger King has done here.

But even if it is legal for franchisors to set promotional pricing, is it good for the system?  In large franchise systems, franchisees often form associations - independent organizations designed to allow collective action - to work with the franchisor on a number of issues relevant to the franchisees.  Here the National Franchisee Association of BK franchisees is pushing back against the franchisor on the pricing promotion:

While costs vary by location, the $1 double cheeseburger typically costs franchisees at least $1.10, said Dan Fitzpatrick, a Burger King franchisee from South Bend, Ind. who is a spokesman for the association. That includes about 55 cents for the cost of the meat, bun, cheese and toppings. The remainder typically covers expenses such as rent, royalties and worker wages.

After testing the $1 deal in markets across the country, the discounted burger went on sale nationwide last month even though franchise owners, who operate 90 percent of the company's 12,000 locations, twice rejected the product because of its expense. (emphasis added)

First of all, 55 cents for all of the ingredients in a double cheeseburger?  Yup.  Secondly, the franchisees are simply arguing that they don't want to lose money with every double cheeseburger sold.  However the courts come down on whether the lawsuit has any merit, the bottom line is that the franchisees just want more say in what the chain requires of them, and are using this collective action by the franchisee association to get it.

We'll have to watch and see whether BK will respect the wishes of its franchisees to "have it their way", but this episode at least provides a good example of the what can happen when a franchisor goes against the wishes of its franchisees.  In the mean time, enjoy your cheap burgers.

What do you think?  Is BK being unreasonable to its franchisees?

When Does Your License Become a Franchise and What Can You Do About It?

In response to my earlier post about franchising as a business model came the following:  "but my business is not a franchise, it is just a licensing arrangement where I use distributors to sell my product".  This is where bells start ringing, red flags are raised, and whatever other metaphorical warnings you like pop up. Many successful businesses license the right to use software, technology, a trademark or name, copyrighted information, or other intellectual property to other businesses or individuals.  However, when it becomes tied to a business model or you use dealers, distributors, or other licensees to sell your product, you face an increased risk of liability.  Here's why.

That three-pronged franchise test is definitional, not chosen - once you meet each of the three criteria, you are deemed a franchise under federal law and under certain state laws.  That automatically subjects the company to an entire scheme of regulatory requirements for which there are penalties for failing to comply (ignorance of your status is not a defense).  Here's a common example:  a business (1) contracts with distributors to sell products using its trademark to create a brand awareness, (2) takes payments from the distributor in the form of a fee or royalties, and (3) exerts control over where the the distributor located and how it operates its business and sells the product.  That business just became a franchise regardless of what it calls its arrangement.

Can you Avoid Being a Franchise?

So what can companies do to grow their businesses while avoiding the cost and expense of the franchise regulations?  Some companies will try to contract around the franchise laws.  Since the test is a definitional one, you can eliminate one of the criteria to remove yourself from the franchise model.  Some will complain (WARNING: more metaphors ahead) that lawyers - particularly franchise lawyers - see everything through franchise-colored glasses, or that when holding a franchise hammer, everything looks like a nail.  But there are practical steps that you can take to reduce the risk of falling into the franchise scheme.  For example:

1. Remove the trademark.  If you don't license a trademark and allow your distributors to sell product with your assistance but without using your name, you might be able to avoid the franchise regulatory scheme.  However, you still have to be mindful of the related business opportunity laws that play a similar but more flexible role.  These are often associated with the vending machine business and similar systems of product placement, but can be triggered in elsewhere.
2. Don't charge a fee.  Eliminating the fee is not as easy as it sounds because most licenses include some form of payment.  Not charging an upfront fee is not enough here; the fee component can be satisfied by a variety of payments made to your business in the first six months, including royalties and the like.
3. Don't exert control or provide assistance.  Licensors can often maintain their contracted relationships, even with the use of a trademark and payment of a fee, if they do not control how the distributors operate.  The licensor is always able to control, for example, how a trademark is utilized.  Control over the use and image associated with a mark is important not only from a business branding perspective but also from a legal perspective in that trademark owners have a responsibility to control its use.  So a license agreement can impose quality control standards over use of the mark, such as submitting products bearing the mark for testing and monitoring or inspections.  But there is a hazy line across which a licensor steps into the franchise world.  The more that quality control extends to the business operations of the licensee, the closer it comes to franchising.

Do You Need to Avoid Being a Franchise? (or, can't I learn to embrace the system?)

As I mentioned before, franchising can be a very successful business model and is responsible for a sizable percentage of this country's economy.  The vast majority of the people in the United States (if not everyone) has purchased products or services at some point from a franchised business.  But creating and maintaining a franchise system is an expensive and time consuming endeavor.  I always tell business owners who are thinking of franchising that starting a franchise system is not an extension of their business, it is a new business that requires a full-time effort.

Franchise regulation is a creature of consumer protection.  The excesses and fraud of franchise schemes in the early to mid-20th century led the FTC to enact regulations in the late 1970s that treat franchises like the sale of securities.  Each franchisor is required to provide a detailed disclosure document called the Federal Disclosure Document (NOTE: until 2007, this document was called the Uniform Franchise Offering Circular or UFOC) which provides prospective franchisees with information about the system and the people involved in it to make an educated decision on purchasing the franchise rights.  I will save the details of the FDD and the other requirements for a subsequent post, but very generally speaking, you are looking at spending somewhere between $20,000 and $50,000 in legal costs for the first year alone to meet your regulatory obligations.

Risks of Noncompliance

The risk of failing to register a deemed franchise does not necessarily come from government.  While the federal government can enforce through the FTC Rule and some states have specific powers to penalize through their own state laws, the real risk of liability comes when your distributors become dissatisfied for whatever reason and decide to sue you for selling illegal franchises.  You could be subject to fines and other penalties (in addition to exorbitant legal fees and court costs), including offering rescission to each of your licensees.  So businesses that try to take the relatively inexpensive route of trying to contract around franchise laws may end up spending much more money in the end.

So what is the moral of this story?  Licensing can be an effective method for rapidly building your brand awareness and product sales.  However, exercise caution before you jump in and consult a qualified attorney who can counsel you on the specifics of your model to help you avoid major headaches and costs down the road.