In PART 1 of
this three-part series, we successfully navigated the perils of the business selection process. You’ve learned about the most novice mistakes and determined
that you can’t choose a business just because you love the product or service; have experience in the industry; or solely for passion. I am not saying
you cannot choose a business that meets some of these stated criteria, it just cannot be your only reason for selecting the business - more importantly
focus on your goals and your skill set.
Business ownership can be a risky proposition and requires a well thought out methodical plan to follow as well as solid research to minimize the risks. Frequently people believe that they can reduce or avoid the financial risks by going into business with a partner, relying on “what you hear” regarding earning potential, misjudging the working capital needed and borrowing too much.
Let's dive into the next set of common financial mistakes and how you can avoid them.
Mistake #4: Reduce your business ownership risk by going into business with a partner.
Partnerships are much like a business marriage. Make sure you know the person well; they will be your business spouse. And just as you have marriage vows, if you do not properly layout the guidelines and expectations in the beginning, things can go sour and may eventually create a lot of expense, hard feelings, and the loss of a friendship.
Success Strategy #4: Establish appropriate partnership documentation so that you have laid out the terms of the relationship and know what is expected of each person. It is recommended that you have a buy-sell agreement relating to death and disability, an agreement regarding funding the business, voting, how to handle future needs for additional capital, and an operating agreement.
Mistake #5: Relying on what you hear and think you know regarding the earning potential of a business.
For franchise ownership it is a big mistake to rely too heavily on the Item 19 in the FDD for earnings representations. Item 19 is the financial representation that the franchisor makes regarding the earning potential of the business. This information is expressed in many different ways. Although the information may be accurate, you need to properly investigate the numbers and understand what it "takes" and the time it takes to achieve to those earnings.
Success Strategy #5: Really review the numbers and create a pro forma to make sure you have an understanding of the earning potential of the business. When looking at a franchise, obtain a chart of accounts template from the franchisor if possible or create one on your own, use these financial documents to collect information when talking to many franchisees across the success curve.
Mistake #6: Misjudging how much working capital you really need.
It takes time to create a customer base when any new business is started, many business failures can be attributed to not having enough working capital.
Success Strategy #6: Based on the financial information that you completed and your franchisee validation interviews make sure you have enough reserves to cover business expenses until that business is generating income. You should also have adequate funds set aside to cover your personal living expenses until you can start drawing income from the business.
Mistake #7: Borrowing too much and suffocating in debt.
This is somewhat of a balancing act. You want to make sure that you have enough money so that you can fund the business and have enough working capital but not so much so that you are drowning in debt. Too much debt service delays when the business will be cash flow positive.
Success Strategy #7: Make sure you have the necessary capital on hand to fund the business and meet its obligations until you reach breakeven and positive cash flow. Focus on a business that is affordable based on your personal circumstances. Today 20-30% owner equity is necessary to secure a loan. Make sure you fully understand the terms of the loan if you borrow.
Business ownership can be a fantastic voyage. By avoiding some of the common financial pitfalls when selecting a business, you greatly improve your chances of sailing calmly into your future on the “Love Boat” instead of the Titanic.
In the final part of this series, I will be covering the shortsightedness; the choppy waters that follow when you are not looking far enough ahead.
Denise utilizes her 30 years in financial services now as an independent businesswoman and FranNet of Atlanta consultant. Since 2012 she has enjoyed
connecting people, guiding those in career transition and expertly assisting those that would like to explore business ownership through successful
A graduate of Northwestern University, Julie volunteers with Atlanta Jobseekers, RUMC Career Ministry, is a Chapter Leader for the Business Executives Networking Group (BENG) and is a certified SCORE mentor.
At FranNet, we help you understand if franchise business ownership is right for you as a path to self-employment or an investment, please take a look at our process and give Julie a call at 678.249.9867 to learn more.
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