The influx of private equity into the world of franchising is expected to continue in 2023 as many franchisors seek to differentiate and win in their respective segments, while also navigating through the investments needed to scale.
As the involvement of PE groups in the franchise industry increases, it can be hard for companies to identify whether or not an outside investment is the right next step for them.
For franchisors, it’s important to clearly understand the goals in partnering with private equity. Is it just a quest for capital, or is there a need for specific expertise? Evaluation criteria allow the brand to select a relationship that will be a good fit for the brand.
At 10 Point Capital, we want to spend significant time getting to know the founder (and their management team where relevant) before any investment conversations. We seek to understand the founder’s goal for their brand and what they would regard as a successful outcome for the brand and the investment. Other areas we like to explore are the length of the investment, what success looks like, how key decisions will be made, and who specifically will be working on the deal post-close. Simultaneously, we want them to have the opportunity to learn what it’s like to work with us and encourage founders to talk to our other portfolio companies.
When looking to secure interest from a private equity investor, a franchisor needs to have a clear understanding of their company culture, as well as the core values that drive the brand. It’s important to understand if the private equity team will share and embrace these values.
One of the most important aspects of taking on an equity partner as a founder-led concept is recognizing that you will give up a significant amount of control. This can be hard for entrepreneurs who are used to being the sole decision makers. Typically, equity investors will want a say in important decisions.
Another aspect to consider is how involved the private equity firm likes to be with their investments. Some firms make multiple investments and predominately interact with the company via periodic reporting and quarterly board meetings. Other firms, like 10 Point Capital, work with fewer companies at a time – but are closer in terms of providing expertise or guidance on operating decisions e.g., vendor selection or leadership team hiring.
Our goal with all of the companies within our portfolio is to find partners with whom we can build a long-term relationship and work to achieve new milestones together over time. For example, two of our concepts, Walk-On’s Sports Bistreaux and Slim Chickens are celebrating their 20th anniversary in business in 2023! For our team, it’s incredibly rewarding to be able to be a part of the brand’s journey, knowing that it has required an immense amount of trust, collaboration and appreciation of the value that both parties brought to the table along the way.
Measures of Success
Once a franchisor has determined if a PE group is a fit for the brand, they must align on how they will measure progress towards goals, and ultimately the success of the investment.
Oftentimes, these measures of success will come up as part of the initial discussions between the PE firm and the franchisor. From private equity’s perspective, strong unit economics are critical to the growth outlook. Metrics such as same-store sales growth, store level margins and the payback period for investment are all indicators of how attractive an investment is to current and potential franchisees.
To achieve the goals set for our portfolio concepts, we work with key leadership at brands on accelerating the concept’s development through the implementation of what we call the “Franchise Acceleration Plan.” The three-pronged plan considers strategic planning of where the brand wants to grow and how the brand will share its story with potential franchisees, as well as what is needed to ensure operators can open locations quickly and effectively.
Timing of the Investment
For franchisors, pinpointing the right time in a brand’s lifecycle to bring on private equity partners can also make or break the relationship. There are several aspects of the business that we see as underdeveloped when we start looking at a franchise concept, including legal and accounting counsel, unit economics, brand differentiation and the franchisee to franchisor dynamic.
Before taking on outside capital, it is crucial that franchisors cultivate strong relationships with their franchisees. The influx of new capital into a business, along with the existing relationships PE firms may have with outside vendors, can be beneficial to streamlining and improving the customer experience for a franchise business. However, this transitional period may appear daunting to existing owners within the system who are focused on providing an exceptional experience for their consumers. Franchisors who foster open and transparent dialogue with their franchise owners before, during and after the private equity investment are better able to address challenges and anxieties as they arise.
Assuming that the unit economics mentioned above work, private equity groups are looking for brands that have a passionate customer base and are uniquely differentiated from other companies in their segments. For example, our investments in the restaurant industry typically have strong consumer tailwinds, a perspective on the role of technology and deliver clear guest value. Our most recent investment, Smalls Sliders, fits this criterion by tapping into the limited-menu trend in the QSR category and a cult-like following among key consumers such as Millennials and Gen Z.
Motivation for Partnership
Finally, franchisors must ask themselves, “What am I looking to get out of a private equity investment?”
Oftentimes, the founder or management team of the franchise firmly believe in the prospects for their brand and want to be an integral part of its growth. In this case, a private equity partnership allows the franchisor to gain access to needed capital, as well as expertise and guidance from PE partners who have experience growing multiple concepts.
10 Point Capital’s deal discipline includes a comprehensive due diligence process that ensures we are only working with a small number of the most promising emergent franchise brands. Given our small portfolio and experienced team, we are able to offer a focused, individualized approach that allows us to provide extensive time and support both to franchisors and franchisees.
In other instances, the founders are ready to retire or there is already private equity investment and a need to formulate an exit plan. The capital firm is brought in to infuse new resources into the business and, ultimately, to prepare it to be sold to new ownership.
Private equity involvement is not for every business, but creating and sticking to a criterion that works for a specific franchisor’s business can help them to choose the right fit when the opportunity arises.
If you do plan to move forward with an investment, it’s crucial to ensure that your franchise and your franchise network is on board and ready for these changes.
Morven Groves has spent over 15 years investing and advising in travel and hospitality businesses, with 10 years focused on franchising. She is passionate about growing brands, in the right markets, with the right partners. She works closely with the management teams of 10 Point Capital’s portfolio companies, to help them set strategy, and execute on growth goals.