What Do Picking Stocks and Buying a Franchise Have in Common?

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This past summer I came across an article in AARP magazine (yep, the publication for those over 50) called “The Wisdom of Warren”. In the article, Warren Buffett, a legendary investor ranked as world’s third wealthiest person, puts forth some advice for building a retirement portfolio.

Buffett stated 10 lessons in choosing investments.

What struck me is that many of the admonitions could be applied to buying into a franchise business.

One. If you’re leaving a job or changing careers, try hard to stockpile cash for emergencies and opportunities. Let’s assume you have the financial wherewithal to buy your chosen franchise business. You still need to have enough cash to weather any financial situations, such as higher than expected build-out costs, higher operating costs than anticipated, and so on. On the positive side, you might have an opportunity to purchase another franchise unit in your area to add to your holdings.

Two. Warren Buffet advised to “embrace the boring” in investments. He and others have found that often companies in not very exciting industries produce excellent long-term returns. The same can be said of franchised companies that deal in everyday services and products that consumers will never stop using and that show little chance of being short-circuited by a totally new technological advance.

Three. Buffet loves companies with top brands and the ability to control prices. Think, for example, his investment in Coca-Cola. This idea also works for you when choosing a franchise. Brand loyalty is a powerful business asset and the scenario of attracting ready-made customers to your new business is a major attribute. The best franchise names have customers that will not flinch at small price increases. In addition, strong brands usually yield better profit margins.

 Four. “Never overpay” is a strong axiom in selecting your stock and other investments. Can we apply this to a franchise investment? The answer is yes and the way to find out if you are in danger of overpaying for a franchise business is to do a complete financial work-up of the business, including calculating potential sales, cash flow and profit. Of course, you have to also filter in the total investment cost which most franchisors provide in their Franchise Disclosure Documents (FDD’s). Caution: the estimated investment cost is often understated by 20% or more. Sometimes you have to walk away from what looked like a good business investment after you do all your financial homework.

Five. Lastly, this sounds like a reversal of the second piece of advice, to embrace the boring in investments, but it’s not. It’s just another option. It is: Don’t be afraid of the newest franchise opportunities which haven’t been proven to be successful in a big way yet. We’re in the age where innovations and technological advances resulting in new products and services are cropping up on a regular basis. After your careful consideration and analysis, an investment of this kind can result in windfall returns.

 

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