Franchise financing: The Filipino way
By Christine Casanova
It is widely recognized in developed countries that a franchisor can increase the salability of their franchise by assisting qualified franchisees to generate start-up capital. How the franchise buyer finances his or her business is obviously an interesting question especially in the Philippines where franchise financing schemes come in dime and a dozen.
In the Philippines, the initial investment for a typical franchise averages about P1 Million but the investment largely depend on the format and concept of the business. By far the most commonly financed item is equipment and site development; land is the least frequent, either because most franchises do not require free-standing buildings or because land is often secured on a lease basis.
The trend in franchise financing in the Philippines is relatively different from other countries such as the US where almost three-quarters of franchisees secure their loans with personal assets and half of them use home equity -- indicating that the traditional picture of franchisees mortgaging their houses to buy franchises is still very much a reality.
In the Philippines, the most common sources of financing which franchisees traditionally consider include: the business owners or franchisor; friends, family and relatives, who normally are the business partners; banks and other non-traditional sources such as "loan sharks" or "5-6" and the neighborhood or community. Franchises, however, have began to look at equity; venture capitalists; angel investors, and public listing as alternative sources of financing.
Certainly, the need for financing of enterprises particularly, those with a franchise system, is one of the most pressing issues today especially with the overwhelming focus on Information Technology (IT), Small and Medium Enterprise (SME) development and the liberalization of various industries and sectors.
The SME sector, is particularly interesting since it provided many franchised businesses a means to expand and develop. By definition, SMEs are those which have an asset size of P60 million or less and/or employ less than 200 workers. SMEs account for 99.5% of all local enterprises, 66% of total employment in the country, and makes 32% value added contribution to the economy.
For many years, SMEs including franchised ones, have benefitted from the various financing facilities available in government and private banks but many financing gaps still exists.
One such gap is financing that is specifically focussed and dedicated to franchising. Several years ago, such was unheard of until recently, when the Philippine Franchise Association (PFA) -- the largest association of franchisors in the country, in cooperation with the Small Business Guarantee and Finance Corporation (SBGFC), the Development Bank of the Philippines (DBP) and the Export Industry Bank (EIB), initiateds franchise financing facility windows specifically for franchisors and franchise owners/franchisees. Soon enough, other banks and funding agencies followed suit.
In partnership with the PFA, SBGFC -- signed last year a Memorandum of Agreement to embark on a program that would open a financing window for potential Filipino franchisors as well as their franchisees. This facility grants support to qualified entrepreneurs who wish to expand their business through franchising or engage in a business as a franchisee. Under this arrangement, PFA cooperates with the SBGFC in setting up the implementing guidelines for the loan facility; identify, refer and evaluate loan applicants (mainly from its membership), and project monitoring. SBGFC is mandated to adopt development initiatives towards the global competitiveness of SMEs in terms of finance, technology, production, management and business.
Quite recently, under its Small Enterprise Financing Facility (SEFF) program, a P100 Million seed fund has been set aside by SBGFC and the National Development Company for small (SME) franchises. The SEFF is a financing facility aimed at supplementing the financial sector's resources for small enterprise development scheme.
Under this scheme, SBGFC provides credit through the banking system to finance the requirements of SMEs, including franchises, in various productive sectors such as manufacturing, agribusiness (food), and service. With SEFF, SBGFC finances up to a maximum of 90% of the project cost, with an accredited financial institution co-financing at least the remaining 10%.
Qualified to this program are micro, small or medium enterprises defined as any business activity or enterprise engaged in industry, trading, agribusiness (including food), and/or services, whose total assets, inclusive of those arising from loans but exclusive of the land on which the particular business' office, plant or equipment are situated, are valued as follows: Micro -P1,500,000 and below; Small - P1,500,001 to P15,000,000; and Medium -P15,000,001 to P60,000,000.
The Development Bank of the Philippines (DBP) also partnered with PFA last year with a special lending facility program for the franchise industry, making it the first bank in the country to implement a credit program for franchisors and franchisees. Their program enables existing and prospective franchisors and their franchisees to meet their requirements for capital expenditures including construction of facilities, acquisition of equipment and machineries, as well as for working capital. The term of the loan depends on the needs of the borrower up to a maximum of 5 years.
This PFA-DBP joint agreement is part of their goals to nurture and support the new breed of entrepreneurs. Both PFA and DBP have committed to promote and sustain the growth of franchising as a tool for national development, and support the entrepreneurs in the franchising industry, particularly the SME franchises.
At present, there are over 550 franchises in the Philippines, about 40 of which are in the food business while roughly 60% are in non-food (such as service and retail). Homegrown franchises have likewise gained strength through the years with over 200 operating today. The financial performance of franchises have been noteworthy since 1996 were about 20 franchises were among the Top 1000 corporations.
Other Sources of Financing
Of course, there are other wide ranging financing facilities that may be available to franchisors and franchisees but which a franchisor can consider and choose to avail depending on the quality and maturity of your business. These include venture capitalists, angel investors or having your franchise publicly listed via the SME Capital Market.
Venture Capitalists especially those that cater to SMEs is an equity financing scheme which intends to assist SMEs with a promising position in their markets and a dynamic management committed to sustained growth. Venture capitalists offer a "wholistic investment approach" that endeavors to provide a risk and sharing mechanism (profit sharing) in which the assisted SME/franchise will provide active management support while the venture capitalist helps the company raise additional venture capital from other sources.
Compared to traditional financing, additional resources through venture capital undertaking does not impose fixed charges which may restrict strategic or operating decisions, thus fully supporting the development of the entrepreneurial process.
Generally speaking, because of the high return they require, professional investors including venture capitalists are the most expensive source of capital and thus, should be treated as a last resort -- and then, only if the investment has a high likelihood of being funded.
Another franchise financing option would be going public through the SME Capital Market, which is a separate listing board established within the Philippine Stock Exchange that allows SMEs and young companies, including franchises with high growth potential to raise capital by selling (offering) their shares to the public. Top franchise companies such as Jollibee, 7-11, and quite recently Pancake House are among the franchises that have entered this milieu. Besides being an inexpensive alternative source of capital, getting publicly listed at the SME Capital Market, enhances the visibility and public profile of your franchise business and normally provides you ready market valuation.
Franchise financing indeed challenges our franchise entrepreneurs to become more creative and resourceful -- and in many ways, street smart! It is does empower and frees our franchise entrepreneurs from the common dilemma of where to get capital. Looking at the various financing options available today, it is now up to the franchisor to carefully study these choices, weigh the pros and cons -- without missing out on the essential opportunities that could spell the difference for next-step expansions.