Venture Capital and Private Equity continue to play a major role in the franchise industry and it seems to be increasing since 2012. What’s driving this trend?
- Scalable Investment – franchise growth allows for substantial, fast and efficient growth when compared to traditional organic growth. Franchises can be opened quickly and the franchisor has significantly less operating overhead to manage the system.
- Franchisees typically outperform company owned locations. With “skin in the game”, an owner operator mentality and an onsite owner, franchised businesses have a much higher likelihood of success, profitability and customer experience.
- Good franchise owners bring solid local market knowledge which is difficult to obtain through company owned growth.
- Franchisees will have a longer tenure with a brand than an employee in most cases allowing for better unit economics resulting from time in the business and a better understanding for the culture of the brand.
- Franchise system growth is on the rise in the U.S. and globally. Consumers prefer established brands, familiarity with a business model and more investors are putting capital towards franchise investments since the market recovery in 2012.
All of these factors create an obvious investment opportunity in growing franchise brands and have pushed valuations for quality franchise systems higher. In 2014, several franchise system acquisitions were valued as high as 19 X EBITDA.
In the last year, private equity continued to play an important role in franchising. Private equity offers a franchisor with a growing franchise system a promising pathway to rapid growth. An investment group can assist a franchise company strategically, tactically and with economies of scale.
Private equity sees value in the ongoing royalty stream of a franchise system. Franchised restaurants, hotels and retailers also typically have higher valuations than non-franchised businesses. This point was brought home to me at the Capital Roundtable “Private Equity & Franchising” event in New York City in October 2014. Using numbers from Capital IQ, Matt Kelly, of North Point Advisors in San Francisco, demonstrated that publicly traded restaurant, hotel and retail companies headquartered in the U.S. with a high percentage of franchised outlets tended to trade at higher valuations than those with just a few franchises. In the group of companies he identified, the multiple of enterprise value to EBITDA averaged 9.7 in the companies less than 30% franchised. Those 30% to 60% franchised had an average multiple of 12.2x. Those more than 60% franchised had an average multiple of 15.0x.
Here is a quick rundown of private equity acquisitions of franchise systems in 2014:
2013 saw the following notable private equity franchisor purchases:
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