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ACKNOWLEDGEMENT
I feel immense pleasure in presenting my work on “Franchise Finance-An Overview”. I
would like to express my profound thanks and gratitude to Mr. Arvind Singhatiya (Head,
training, Content development and International Initiatives) Indian Franchise Association,
New Delhi, for providing me the opportunity to work on Summer Training report under his
supervision and his patience, diligence, encouragement and guidance throughout this entire
process.
I take this opportunity to thank Mr. Gaurav Marya (Chairman, Indian Franchise Association)
for mentorship throughout my project which enabled me to present the project with
innovative ideas.
I express my sincere gratitude to Professor Dr. Parvaiz Talib (Training Advisor) & Mr. Saad
Hameed who arranged my summer training in such a wonderful organization.
Finally I would like to extend my thanks to my family, friends and all those who directly or
indirectly helped me in completing this project successfully.
(Sultan Jawed)
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Franchise Finance-An Overview
TABLE OF CONTENTS
Acknowledgement 2
CHAPTER1: INTRODUCTION 5
1.4 Methodology 8
2.4Banking Industry 15
3.1 Introduction 31
3.2 Need of Finance 31
3.3 Franchise Finance 32
3.4 Franchise finance Options 32
3.4.1 Equity Based
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Franchise Finance-An Overview
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Franchise Finance-An Overview
Chapter 1:
Research
Objectives and
Methodology
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Franchise Finance-An Overview
EXECUTIVE SUMMARY
F ranchising is not only today’s growth vehicle for the successful companies but also
contributes towards the growth and development of a nation. A new breed of
entrepreneurs has emerged who rather starting a totally new business, believe in
risk minimization through starting a business whose concept has a consistent success
record. Specially developing nations are the target destination of companies expanding
their operations through franchising. India has seen exponential growth in franchise
sector. Surveys also indicate that the success rate of franchisees is above 90%, whereas
success rate in MSME sector is far below this. Efforts are made to direct the flow of fund
towards the MSME sector by the government. As it play a crucial role in employment
generation, economic empowerment of a vast section of population and inclusive
growth. Frantrepreneurs are also a part of MSME sector (But yet not declared officially
by the government). As most of the franchise owners require an investment of 10 lakh
to 2 crore.
Not only is wishful thinking enough for a willing to be entrepreneur. Arrangement of
finance is one of the crucial factors for the success. Lack of finance is cited as the most
important hurdle. Especially the MSME sector is worstly affected by the “finance gape”.
Keeping in view the virtues of MSME sector, smooth flow of funds towards this sector
should be ensured.
This study also aims at measuring the level of difficulty faced by the franchise owners in
arranging bank finance. Several studies have related the education level and the
behavior. This also relates the education level and perception about bank finance.
Factor analysis shows that each question is loaded heavily except the question no. 6.
Overall score of respondents on the scale is 4.346 with standard deviation of 0.89,
which indicates that they are slightly towards the agreement with the statements.
Survey indicates that majority of operators in the franchise sector is educated. Very
small proportion represents the high school or 12th class. Female have a good
representation in this sector (30%) as compared to other sectors. Education level of
franchisees affects their level of difficulty in getting finance from bank. More educated
franchisees face less difficulty as compared to less educated franchise owners. Age does
not play a role in determining the level of difficulty in arranging bank finance. The
questionnaire needs further tests. Further research may be done by administering the
BFQ on general business borrowers. The results may be compared with the franchise
business borrowers.
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Franchise Finance-An Overview
ABOUT COMPANY
IFA catalyses change by working closely with stakeholders and policymakers on policy
issues, enhancing efficiency, competitiveness and expanding business opportunities for
franchise sector through a range of specialized services and global linkages. IFA also
provides a platform for Franchise sector consensus building and networking.
Partnership with counterpart chambers across the world carry forward our initiatives
of inclusive development in franchise business, which encompasses entrepreneurship,
training, governance, skill development, etc. IFA serves as the first port of call for Indian
franchise sector and the international franchise business community.
INTRODUCTION
F ranchising is not only today’s growth vehicle for the successful companies but
also contributes towards the growth and development of a nation. A new breed of
entrepreneurs has emerged who rather starting a totally new business, believe in
risk minimization through starting a business whose concept has a consistent success
record. Specially developing nations are the target destination of companies expanding
their operations through franchising. India has seen exponential growth in franchise
sector. Surveys also indicate that the success rate of franchisees is above 90%, whereas
success rate in MSME sector is far below this. Efforts are made to direct the flow of fund
towards the MSME sector by the government. As it play a crucial role in employment
generation, economic empowerment of a vast section of population and inclusive
growth. Frantrepreneurs are also a part of MSME sector (But yet not declared officially
by the government). As most of the franchise owners require an investment of 10 lakh
to 2 crore.
Not only is wishful thinking enough for a willing to be entrepreneur. Arrangement of
finance is one of the crucial factors for the success. Lack of finance is cited as the most
important hurdle. Especially the MSME sector is worstly affected by the “finance gape”.
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Franchise Finance-An Overview
Keeping in view the virtues of MSME sector, smooth flow of funds towards this sector
should be ensured.
This study also aims at measuring the level of difficulty faced by the franchise owners in
arranging bank finance. Several studies have related the education level and the
behavior. This also relates the education level and perception about bank finance.
OBJECTIVES
The objective of our research is to get a complete and overall picture of the whole
situation in India that how franchise sector can grow and sustain by keeping in view the
threats and opportunities present in the market. Broad objectives of our study are as
follows:
HYPOTHESES
We developed and tested three hypotheses. Our first hypothesis was that both male and
female perceive same level of difficulty in arranging finance from financial institutions.
Second hypothesis was that there is no significant difference in the scores of the
respondents having different levels of education. The third hypothesis was that age
does not affect the perceived difficulty level of franchise borrowers.
H10: The mean level of perception about the level of difficulty faced by the male and
female franchisees is same
H20: The mean level of perception regarding arrangement of finance from financial
institutions, do not differ on the basis of level of education of the franchisees
H30: The mean level of perception do not differ on the basis of the age of the
respondents
METHODOLOGY
For answering our research questions, we used both primary and secondary data for
empirical and theoretical findings. We adopted an exploratory approach to our research
because the research question is such that need a qualitative approach and to which
there is no specific answer. We obtained the secondary data mainly from books, article,
published journals, internet, and considered some internal reports and findings of
different consultancies.
We conducted in depth interviews of four bank executives working in NCR region and
one official from National Small Industries Corporation (NSIC).
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Franchise Finance-An Overview
For primary data collection we designed a questionnaire containing 12 questions and other
demographic information. It was accompanied by a scale we developed to measure the
difficulty level perceived by the franchisees in arranging finance from financial institutions.
A scale was developed containing 9 questions pertaining to different aspects of the bank
finance. Respondents were requested to express their agreement or disagreement to the
statements on a likert type scale of 7 points. Initial 3 statements were negatively framed. We
tried to make the questionnaire compact because it was to be administered online. Lengthy
questionnaire means compromising with the response rate or the quality of responses. The
questionnaire was administered online among 70000 franchise owners or prospective
franchise buyers (those who were in the process of discussion with the Indian Franchise
Association) through an online survey website Surveygizmo.com. 215 responses were
collected, out of which 193 are included in analysis remaining 18 were rejected due to
incompleteness.
T-test was used to test the first hypothesis. ANOVA was used to test the second and third
hypothesis. And lastly factor analysis was conducted to test the validity of the instrument.
INSTRUMENT
ASSUMPTIONS
The research study was based on three assumptions. The first assumption was the
survey instrument, when validated, accurately measured the participants’ perceptions
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Franchise Finance-An Overview
on the dimensions of franchise finance. The second assumption was the participants
would truthfully answer all the questions on the survey. The third assumption was that
individuals in the sample had the requisite knowledge of business finance.
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Franchise Finance-An Overview
Chapter 2:
Indian
Financial Ø Banking Industry
System Ø
Ø
Insurance Sector
Capital Market
Ø RBI
Ø SEBI
Ø IRDA
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Franchise Finance-An Overview
INDIA AT A GLANCE
With a population of just over 1 billion (1.2billion), India is the largest democracy in the
world. In the past decade, the country has seen sustained high growth and has made
progress on most of the Millennium Development Goals. India is in now the midst of a
historic transformation. It has emerged as a global power and a leading player in
information technology, telecoms and business outsourcing, with the world’s fourth
largest economy in purchasing power parity terms.
However, beneath India’s impressive growth is a tale of ‘two Indias’. While one India is
on a rapid development trajectory, the other has 300 million people living below the
poverty line, and wide gender, caste, ethnic and regional disparities.
To address these disparities, the Government of India’s Eleventh Five Year Plan (2007-
12) outlines a development agenda that targets significant investments for generating
employment, providing quality education and health for all, improving the welfare of
women and children, developing infrastructure, and conserving the environment.
Resources generated from recent growth are now being invested into a set of very
ambitious programs to deliver services to the poor. These programs – to provide
elementary education, basic health care, health insurance, rural roads and rural
connectivity, and other services – aim at realizing the fundamental rights of the people.
The programs are achieving partial results on the ground. Between 2003 and 2009, the
number of out-of-school children declined from 25 million to 8 million (less than 5% of
the 6-14 age group). Leprosy, polio, and TB are almost under control and the spread of
AIDS has been kept in check. Large numbers of women have been mobilized into self-
help groups to generate new livelihood opportunities. Massive new initiatives are being
pioneered that are revolutionizing the way services are being delivered to low-income
groups.
The recent global financial crisis has, however, exacerbated the urgency of addressing
India’s development challenges. Although India’s economy grew at 6.1% in the last
quarter of 2009 – amongst the highest growth rates in the world – this still represents a
significant dip from the peak of 9.7% growth in fiscal year 2006/07. The slowdown is
likely to have a significant impact on employment creation and poverty reduction in
India.
As such, structural reforms are all the more important for a speedy recovery. The most
binding constraints to growth and inclusion need to be addressed more urgently:
improving infrastructure, developing the small and medium enterprises sector,
developing skills, and targeting social spending at the poor and vulnerable groups.
Moreover, systemic improvements in the design and governance of public programs,
which account for 8-10% of GDP, are becoming all the more crucial in order to improve
development effectiveness and value for money of public spending.
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Franchise Finance-An Overview
Growth
Source: worldbank.org
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Background
Major constituents of the Indian financial sector are banks, financial institutions, and
markets, which mobilize the resources from the surplus sector and channelize the same
to the different needy sectors in the economy. In fact, the Indian financial system is
categorized by its two major segments – an organized sector and a traditional sector
that is also known as informal credit market. Financial intermediation in the organized
sector is conducted by a large number of banks and financial institutions. Financial
institutions are further classified based on their mandate and activities, which may be
term lending, specialized, and investment institutions. Banks are further classified into
public and private sector banks, cooperative banks, and regional rural banks. Non-bank
financial institutions include hire purchase and leasing companies, and investment
institutions include LIC, GIC, and UTI. The banking system is, by far, the most dominant
segment of the financial sector, accounting for over 60% of the funds flowing through
the financial sector. The Government has also set up two separate regulatory bodies,
viz., Insurance Regulatory Development Authority (IRDA) of India for the insurance
sector, and the Securities and Exchange Board of India (SEBI) for the capital market.
The Indian financial sector today is significantly different from what it used to be in the
1970s and 1980s. The financial sector prior to the 1990s was characterized by
segmented and underdeveloped financial markets coupled with paucity of instruments.
For maintaining spreads of banking sector, regulation of both deposit and lending rates
resulted not only in distorting the interest rate mechanism, but also adversely affected
the viability and profitability of banks. The low level of recognition of the importance of
transparency, accountability and prudential norms in the operations of the banking
system also led to a rising burden of non-performing assets.
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BANKING INDUSTRY
As per the Reserve Bank of India Act, 1934, banks in India are classified into
• Scheduled and
• Non-scheduled banks.
Scheduled banks
Scheduled banks are those which are entered into the second schedule of the RBI Act,
1934. It includes those banks which have a paid-up capital and reserves of an aggregate
value of not less than Rs.5 Lakhs and which satisfy RBI that their affairs are being
carried out in the interests of the depositors.
The scheduled banks comprise scheduled commercial banks and scheduled cooperative
banks.
Other set of banks are Regional Rural Banks (RRBs). They have been set up in the
country on the sponsorship of individual nationalized commercial banks. These banks
aim at taking the banking facilities to the doorsteps of rural masses especially in the
remote areas. The objective was to provide credit to small and marginal farmers,
agricultural labourers, artisans and small entrepreneurs so as to develop productive
activities in the rural areas.
Non-scheduled banks
Non-scheduled banks are those which have not been included in the second schedule of
the Act.
Foreign Banks
Foreign banks which are incorporated in foreign countries. Most of them perform
essentially the same range of services as local banks, except that their focus in terms of
product and customers may be different due to their limited branch network. They
bring in new technology and facilitate in the introduction as well as assimilation of
international products into the domestic markets. In India Banks like Citibank, HSBC,
Standard Chartered Bank, etc. are the branches of those banks
Given this set up, with liberalization, banks in India are venturing into non-traditional
and diversified areas other than the core banking activities. They are facing increased
competition both domestically and abroad. Hence, in order to make a benchmark in the
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Franchise Finance-An Overview
FDI and Portfolio Investment in nationalized Banks are subject to overall statutory limit
of 20% under Government route as per section 3(2D) of the Banking Companies
(Acquisition & Transfer of Undertakings) Acts 1970/80. The same ceiling is also
applicable to the State Bank of India and its associate Banks.
Reserve Bank of India is India’s central bank and regulatory body of banking sector. It
was, established through the Reserve Bank of India Act, 1934 commenced its operations
in 1935. It draws its powers and responsibilities through other legislations also such as
the Banking Regulation Act, 1949. The RBI has over the years been responding to
changing economic circumstances.
Compared with several countries which introduced rapid reforms in central banking
law and governance in the last about two decades, the Indian experience reflects an
evolution or adaptation of central banking to new economic realities. These changes
were brought about both through some legislative measures and changes in operating
procedures.
The RBI was established under the Reserve Bank of India Act, 1934 on April 1, 1935 as a
private shareholders' bank, but since its nationalisation in 1949, is fully owned by the
Government of India. The RBI is placed under the Entry 38 of List 1 of Schedule VII of
the Constitution of India, which is the Union List.
The Preamble to the RBI Act describes the basic objective as "to regulate the issue of
Bank notes and keeping of reserves with a view to securing monetary stability in India and
generally, to operate the currency and credit system of the country to its advantage".
Thus, there is no explicit mandate for price-stability or formal inflation targeting. The
twin objectives of monetary policy in India have evolved over the years as those of
maintaining price stability and ensuring adequate flow of credit to facilitate the growth
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Franchise Finance-An Overview
process. The relative emphasis between the twin objectives is modulated as per the
prevailing circumstances and is articulated in the policy statements. Consideration of
macroeconomic and financial stability is also subsumed in the articulation of policy.
The RBI is also entrusted with the management of foreign exchange reserves, which are
reflected in its balance sheet. While RBI is essentially a monetary authority, its founding
statute mandates it to be the manager of public debt of the Government of India and
banker to the Government. In terms of Section 20 of the RBI Act 1934, RBI has the
obligation to undertake the receipts and payments of the Central Government and to
carry out the exchange, remittance and other banking operations, including the
management of the public debt of the Union. In the recent past, a functional separation
of monetary and debt management was debated and the Union Budget for 2007-08 has
announced a proposal to setting up of an autonomous Debt Management Office to keep
the debt management distinct from monetary management. Further, as per Section 21
of the said Act, RBI has the right to transact Government business of the Union in India.
While, as per statute, RBI is the monetary authority of the country, the RBI has also been
entrusted with the work relating to Banking and Supervision by an enactment in 1949.
The RBI exercised a tight regime of exchange control particularly under the Foreign
Exchange Regulation Act (FERA), 1973; but, a qualitative change was brought about in
the legal framework to enable liberalization by the enactment of the Foreign Exchange
Management Act (FEMA) in June 2000 replacing the earlier FERA. With this, the
objectives of regulation have been redefined as facilitating trade and payments as well
as orderly development and functioning of foreign exchange market in India.
The role of RBI has been redefined through gradual evolution and adaptation, along
with some statutory changes, and not through any radical restructuring. Further, while
assessing the autonomy of the RBI, one should recognise that RBI is not a pure
monetary authority but is responsible for several other functions also, as a central bank.
The developments in the recent past lead one to the conclusion that, de facto, there has
been enhancement of the autonomy of the RBI.
As regards monetary policy framework, the objectives remained the same but the
framework has been changed from time to time in a gradual fashion in response to the
evolving circumstances. Contextually, there are three important issues in the conduct of
monetary policy viz., the assessment of potential output, the measurement of
unemployment and appropriate measure of inflation.
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Franchise Finance-An Overview
While the policy tries to cope with these issues, a combination of instruments is
necessarily used in a flexible manner to meet these complexities. Every effort has been
made to improve the transmission channels especially through the financial markets,
and through regulatory and institutional reforms. In addition, there are some
constraints in the conduct of monetary policy, in particular, the fiscal impact,
predominant public ownership, prevalence of administered interest rate, etc. While
these challenges and dilemmas persist in the Indian context, every effort is made by the
RBI to meet the broader objectives set forth, from time to time.
INSURANCE SECTOR
The Insurance industry in India has been progressing at a rapid pace since opening up
of the industry in 2000. The US$ 41-billion Indian insurance industry is the fifth largest
life insurance market in the emerging insurance economies globally, growing at 32-34%
annually. With the increasing popularity of insurance plans that are linked to the stock
market, insurance companies are emerging as a major force on the bourses. According
to data made available by the Life Council of India and the Life Insurance Corporation
(LIC), currently, the insurance industry manages equity assets to the tune of US$ 58.01
billion.
The momentum in equity investments by insurers picked up from 2004 when private
insurance companies began marketing ULIPs (market-linked products) to investors.
With collections increasing under such plans, insurance companies have raised their
investments in the Indian stock market to US$ 10.96 billion in 2008-09.
The assets held by the insurance industry currently stand higher than the US$ 44.05
billion managed by mutual funds till the end of November 2009 and are one- third of
that managed by foreign institutional investors, which stands at US$ 162.23 billion. In
the insurance sector, LIC alone manages US$ 34.8 billion worth of equity assets, while
private players manage US$ 23.2 billion worth of equity assets.
Currently, there are 22 life insurance firms operating in India and as per industry
estimates, the life insurance business constitutes about 4% of the total GDP in the
country; the contribution by non-life business has been at 0.6%. The investment (FDI)
limit in the insurance space for foreign players is capped at 26%—permissible under
the automatic route subject to obtaining a licence from the regulator, Insurance
Regulatory and Development Authority (IRDA).
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Franchise Finance-An Overview
FDI Policy
FDI up to 26% in the Insurance sector, as prescribed in the Insurance Act, 1999, is
allowed under the automatic route. This will be subject to the condition that Companies
bringing in FDI shall obtain necessary license from the Insurance Regulatory &
Development Authority for undertaking insurance activities.
Role of IRDA
Section 14 of IRDA Act, 1999 laysdown the duties, powers and functions of IRDA
1. Subject to the provisions of this Act and any other law for the time being in force,
the Authority shall have the duty to regulate, promote and ensure orderly
growth of the insurance business and re-insurance business.
2. Without prejudice to the generality of the provisions contained in sub-section
(1), the powers and functions of the Authority shall include,
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Franchise Finance-An Overview
CAPITAL MARKET
Capital market is one of the most important segments of the Indian financial system. It
is the market available to the companies for meeting their requirements of the long-
term funds. It refers to all the facilities and the institutional arrangements for borrowing
and lending funds. In other words, it is concerned with the raising of money for
purposes of making long-term investments. The market consists of a number of
individuals and institutions (including the Government) that canalize the supply and
demand for long -term capital and claims on it. The demand for long term capital comes
predominantly from private sector manufacturing industries, agriculture sector, trade
and the Government agencies. The supply of funds for the capital market comes largely
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Franchise Finance-An Overview
Dematerialization of shares
According to the Depositories Act, 1996, an investor has the option to hold shares either
in physical or electronic form .The process of converting the physical form of shares into
electronic form is called dematerialisation or in short demats. The converted electronic
data is stored with the depository from where they can be traded. It is similar to a bank
where an investor opens an account with any of the depository participants. Depository
participant is a representative of the depository .The DP maintains the investors
securities account balances and intimates him about the status of holdings.
Advantages of dematerialisation
Problems of Dematerialisation.
Prior to dematerialization there was almost a gap of three months between application
date and listing of shares .Dematerialisation has reduced this gap to a great extent. But
quick money brings with itself a host of problems. Current regulations prohibit multiple
bids or applications by a single person. But the investors open multiple demat accounts
and make multiple applications to subscribe to IPO's in the hope of getting allotment.
The recent IPO allotment scam proves that even a highly automated system is not the
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solution to prevent malpractices, if there is laxity. The scam of Yes bank and IDFC reveal
that the investor banker has failed to weed out multiple applications either direct or
benami. Not only the investor banker the DP and the depository failed to detect the
large number of demat accounts opened with the same address but different names.
Lack of coordination between banks, DP's, brokers depositories, registrars and
investment bankers and clarity of their roles has given rise to such problems erted into
physical form which is called as rematerialisation.
NSDL
The enactment of Depositories Act in August 1996 paved the way for establishment of
National Securities Depository Limited (NSDL), the first depository in India. This
depository promoted by institutions of national stature responsible for economic
development of the country has since established a national infrastructure of
international standards that handles most of the securities held and settled in
dematerialised form in the Indian capital market.
Using innovative and flexible technology systems, NSDL works to support the investors
and brokers in the capital market of the country. NSDL aims at ensuring the safety and
soundness of Indian marketplaces by developing settlement solutions that increase
efficiency, minimise risk and reduce costs. NSDL plays a quiet but central role in
developing products and services that will continue to nurture the growing needs of the
financial services industry.
In the depository system, securities are held in depository accounts, which is more or
less similar to holding funds in bank accounts. Transfer of ownership of securities is
done through simple account transfers. This method does away with all the risks and
hassles normally associated with paperwork. Consequently, the cost of transacting in a
depository environment is considerably lower as compared to transacting in
certificates.
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Franchise Finance-An Overview
CDSL
STOCK EXCHANGE
India’s market capitalisation positions the country as ninth largest in the world. India’s
share in the total world M-Cap has risen to 2.79% currently. In fact, the Indian market
has become the third biggest after China and Hong Kong in the Asian region. As of
March 2009, the market capitalization was around US$ 598.3 billion, which is one-tenth
of the combined valuation of the Asia region. The market was slow since early 2008 and
continued till the first quarter of 2009. The Indian stock market has currently
responded to the optimism of reforms by the stable government and its continuity in
policies.
Primary Market
The primary market is that part of the capital markets that deals with the issue of
new securities. Companies, governments or public sector institutions can obtain funding
through the sale of a new stock or bond issue. This is typically done through a syndicate
of securities dealers. In the case of a new stock issue, this sale is an initial public
offering (IPO). Dealers earn a commission that is built into the price of the security
offering, though it can be found in the prospectus. Primary markets creates long term
instruments through which corporate entities borrow from capital market.
Features
• This is the market for new long term equity capital. The primary market is
the market where the securities are sold for the first time. Therefore it is also
called the new issue market (NIM).
• In a primary issue, the securities are issued by the company directly to
investors.
• The company receives the money and issues new security certificates to the
investors.
• Primary issues are used by companies for the purpose of setting up new
business or for expanding or modernizing the existing business.
• The primary market performs the crucial function of facilitating capital
formation in the economy.
• The new issue market does not include certain other sources of new long
term external finance, such as loans from financial institutions. Borrowers in
the new issue market may be raising capital for converting private capital
into public capital; this is known as "going public."
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Franchise Finance-An Overview
• The financial assets sold can only be redeemed by the original holder.
Methods of issuing securities in the prmary market are:
Secondary market
§ The secondary market, also known as the aftermarket, is the financial
market where previously issued securities and financial instruments such
as stock, bonds, options, and futures are bought and sold. The term "secondary
market" is also used to refer to the market for any used goods or assets, or an
alternative use for an existing product or asset where the customer base is the
second market. Another commonly referred to usage of secondary market term
is to refer to loans which are sold by a mortgage bank to investors such as Fannie
Mae and Freddie Mac.
§ With primary issuances of securities or financial instruments, or the primary
market, investors purchase these securities directly from issuers. After the initial
issuance, investors can purchase from other investors in the secondary market.
§ The major stock exchanges are the most visible example of liquid secondary
markets - in this case, for stocks of publicly traded companies. Exchanges such as
the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE) provide a
centralized, liquid secondary market for the investors who own stocks that trade
on those exchanges. Most bonds and structured products trade “over the
counter,” or by phoning the bond desk of one’s broker-dealer.
FUNCTION
§ Secondary marketing is vital to an efficient and modern capital market. In
the secondary market, securities are sold by and transferred from
one investor or speculator to another. It is therefore important that the
secondary market be highly liquid (originally, the only way to create this
liquidity was for investors and speculators to meet at a fixed place regularly; this
is how stock exchanges originated). As a general rule, the greater the number of
investors that participate in a given marketplace, and the greater the
centralization of that marketplace, the more liquid the market.
§ Fundamentally, secondary markets mesh the investor's preference for liquidity
(i.e., the investor's desire not to tie up his or her money for a long period of time,
in case the investor needs it to deal with unforeseen circumstances) with the
capital user's preference to be able to use the capital for an extended period of
time.
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Franchise Finance-An Overview
§ Accurate share price allocates scarce capital more efficiently when new projects
are financed through a new primary market offering, but accuracy may also
matter in the secondary market because: 1) price accuracy can reduce the agency
costs of management, and make hostile takeover a less risky proposition and
thus move capital into the hands of better managers, and 2) accurate share price
aids the efficient allocation of debt finance whether debt offerings or
institutional borrowing.
MAJOR PLAYERS
There are 23 stock marketare operating in India. However the market is dominated by
the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE). These two stock
exchanges contribute around 90% of the transaction of the market. List of stock
exchanges is:
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Franchise Finance-An Overview
independent powers have been set up. Paradoxically this is a positive outcome of the
Securities Scam of 1990-91.
Since its inception SEBI has been working targetting the securities and is attending to
the fulfillment of its objectives with commendable zeal and dexterity. The
improvements in the securities markets like capitalization requirements, margining,
establishment of clearing corporations etc. reduced the risk of credit and also reduced
the market.
Another significant event is the approval of trading in stock indices (like S&P CNX Nifty
& Sensex) in 2000. A market Index is a convenient and effective product because of the
following reasons:
Two broad approaches of SEBI is to integrate the securities market at the national level,
and also to diversify the trading products, so that there is an increase in number of
traders including banks, financial institutions, insurance companies, mutual funds,
primary dealers etc. to transact through the Exchanges. In this context the introduction
of derivatives trading through Indian Stock Exchanges permitted by SEBI in 2000 AD is
a real landmark.
Derivatives have been accorded the status of `Securities'. The ban imposed on trading in
derivatives in 1969 under a notification issued by the Central Government was revoked.
Thereafter SEBI formulated the necessary regulations/bye-laws and intimated the Stock
Exchanges in the year 2000. The derivative trading started in India at NSE in 2000 and
BSE started trading in the year 2001.
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(Sources: SEBI, and Department of Industrial Policy and Promotion, Government of India)
Financial sector reforms have long been regarded as an integral part of the overall
policy reforms in India. India has recognized that these reforms are imperative for
increasing the efficiency of resource mobilization and allocation in the real economy
and for the overall macroeconomic stability. The reforms have been driven by a thrust
towards liberalization and several initiatives such as liberalization in the interest rate
and reserve requirements have been taken on these fronts. During the last fifteen years,
the Indian financial system has been incrementally deregulated and exposed to
international financial markets along with the introduction of new instruments and
products. At the same time, the Government has also been emphasizing stronger
regulation aimed at strengthening prudential norms, transparency and supervision to
mitigate the prospects of systemic risks. Due to such measures, the Indian financial
structure is increasingly becoming strong, functionally diverse, efficient and globally
competitive.
The success of stronger regulations and prudential norms became evident when the
impact of global financial crisis, which showed repercussions on many financial sector
markets across the world, on this sector was minimal.
Financial sector is the backbone of any economy and plays a crucial role in the
mobilization and allocation of resources. Though India was not hit as badly by the
financial contagion of 2008-09, as has been in the West, where it emerged, it becomes
imperative for India to have an inherently strong and functionally diverse financial
system displaying efficiency and flexibility, which are quintessential for creating a
market-driven, productive and competitive economy. A mature financial system seeks
to support higher levels of investment and promote growth in the economy with its
depth and coverage.
The Indian financial system has been relatively in good health as compared to its
counterparts in the other parts of the globe. Balance sheets of the banks appear healthy
and were little affected by the unsettled conditions in financial markets. Despite not
being part of the financial sector challenges, India has been affected by the crisis
through the feedback loops between external shocks and domestic vulnerabilities by
way of the financial, real and confidence channels. In this context it is important to
remember that although the origins of the crisis are common around the world, the
crisis has impacted different economies differently. Importantly, in advanced economies
where it originated, the crisis spread from the financial sector to the real sector. In
emerging economies, the transmission of external shocks to domestic vulnerabilities
has typically been from the real sector to the financial sector. Countries have
accordingly responded to the crisis depending on their specific country circumstances.
Thus, even as policy responses across countries are broadly similar, their precise
design, quantum, sequencing and timing have varied. In particular, while policy
responses in advanced economies have had to contend with both the unfolding financial
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Franchise Finance-An Overview
crisis and deepening recession, in India, the policy response has been predominantly
driven by the need to arrest moderation in economic growth.
FUTURE PROSPECTS
The growth of the Indian economy will bring in new requirements which may be quite
contrary to the traditional ones. Seed capital may become the need of the hour. In such a
scenario the progress and the growth of venture capitalism in the country is quite
eminent. In developed countries like USA, venture funding is an integral part of the
financial sector and plays a very critical role in the growth of the economy. With India
aspiring for a double digit growth, India will become a prime target for venture capital
and private equity, owing to various factors such as fast growing knowledge based
industries, favourable investment opportunities, cost competitive workforce, booming
stock markets and supportive regulatory environment among others.
With a chunk of the Indian population being below the age of 35 years, the demands
from the financial sector is expected to be huge. At the same time, it is to be noted that
this generation is having a huge propensity to consume with an ever increasing
purchasing power. This will provide the entire financial sector with a gamut of
opportunities. Banking is expected to flourish and insurance penetration is expected to
increase by leaps and bounds. With cash at their disposal the number of people
investing in the stock market is expected to grow.
The technology revolution across the globe is poised to change the entire financial
sector. Technology per se does not drive innovation, but it does enable it. Aggressive
innovation is expected to address customers’ requirements better and quicker. Retail
banking distribution in India is also expected to see unprecedented growth. Technology
will enable to cut the costs of accessing information by customers. For traditional
branch based banks, both the increased use of online banking and their own back-office
improvements will allow branch formats to become less like transaction centers and
more oriented towards customer needs. Another prospective area is the growth of
electronic payments that has occurred over the past few years and may be accelerated
by the combination of customers’ increasing acceptance of alternative payment systems
and digitalization of micro-payments. The insurance industry would also be able to use
technology to lower their transaction costs and increase the penetration of insurance;
besides making it affordable to the vast sections of the society who are still out of the
insurance ambit. Increase in the usage of mobile based platform would increase the
accessibility for the consumers with premium payment reminder alerts, and other
policy transactions would become much simpler in the days to come.
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Franchise Finance-An Overview
Low levels of financial literacy have hampered the adoption of financial savings in the
past. The insurance industry has played a stellar role in improving awareness of long
term financial planning amongst potential customers. This has taken place through
innovative use of various media, internet and on the ground initiatives. The need to plan
for various life stage events – education, marriage, housing, retirement – and the role
that life insurance can play in meeting that eventuality, is certainly far better than what
was the case ten years ago. The “age dividend” that India benefits from should be tapped
in order to ensure a secure financial future for its citizens.
Today, financial markets are turbulent, globally. Traditional business models, when
businesses were clearly differentiated (Banks conducted banking, insurance companies
offered risk covers and securities companies offered investment opportunities), are
slowly becoming blurred. Today, insurance companies are exploring values in the
banking and investment products and vice versa. It is no more a bank competing with
another bank and insurance company competing with another insurance company, but
an insurance company competing with banks. Hence, there is a “convergence” of
opportunity in financial markets where every entity is prepared to undertake enter a
new territory, if it senses profits.
CONCLUSION
The various steps taken by the Government to meet the challenges of a complex
financial architecture have ensured that a new face of the Indian financial sector is
emerging to culminate into a strong, transparent and resilient system. It is likely that
the financial sector players of the future will emerge larger in size, technologically
better equipped and with stronger in capital base. The regulatory as well as the self-
regulatory mechanisms will match up to the best in the world, thereby ensuring that the
health of the Indian financial system is not only preserved but improved upon and its
ability to withstand shocks, which are inevitable with global integration.
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Franchise Finance-An Overview
Chapter 3:
Franchise
Finance:
Sources
and
Options
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Franchise Finance-An Overview
INTRODUCTION:
The aspiration for this research is derived from a simple observation that a lot has been
written about MSMEs and that they should be able to access all available sources of
finance to contribute towards wealth creation by expanding the size of the economy,
enhancing productivity, and providing employment and opportunities for
entrepreneurs to innovate. But a little has been discussed about the franchise finance
which is the major driver of entrepreneurship today.
Frantrepreneurs are the new breed of entrepreneurs who avoid some of the dangers
facing a new enterprise by adopting a proven formula. But, equally, franchising is not
necessarily a sure-fire guarantee of business success. A franchise occurs when a
business (the franchisor) licenses its trade name (the brand) and its operating methods
(its system of doing business) to a person or group (the franchisee) to operate according
to the terms of a contract (the franchise agreement). The franchisor provides the
franchisee with support and, in some cases, exercises some control over the way the
franchisee operates under the brand. In exchange, the franchisee usually pays the
franchisor an initial fee (called a franchise fee) and a continuing fee (known as a royalty)
for the use of the trade name and operating methods.
NEED OF FINANCE
Let's face it money makes the world go round and in the case of a burgeoning
entrepreneur it is everything. Thousands of potential business owners never realize
their dream of owning a franchise, because they weren't able to find the financial
resources to open. However, with research and persistence there are a number of
different places to obtain financing from private third parties to traditional banks.
Before starting the process of finding financing it is important to know how much
money will be needed and where that money will be allocated. . Having this information
will help put together a business plan to get through the qualification process.
Finance is also needed for expansion of the existing business. Franchisor whose current
business is performing well up to their expectation didn’t want to come out from their
“comfort zone”. They didn’t want to start any new expansion plan because either they
didn’t know from where to raise additional fund or they try to avert risk.
Frantrepreneurs often prioritize the source of financing from internal (cash flow or
their own capital) to external, according to relative availability and opportunity cost.
This is because for most firms, the internal funds are always insufficient to undertake
the required level of transactions for profitable projects hence the call for external
finance to fill the finance gap. Theoretically, a number of analytical paradigms have
attempted to explain the complexities and practicalities involved in small-firm
financing. Small firms suffer from what is termed the “finance gap”.
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Franchise Finance-An Overview
FRANCHISE FINANCE:
Financing is the act or process of providing funds for a business venture. The most
important hurdle for entrepreneurs is the arrangement of finance for their start-up.
MSMEs are very significant to the economic success for most countries and their
citizens and in recent times have been observed to employ an increasing proportion of
the workforce of most countries .There is a fast growth in the number of privately
owned small and medium-sized companies worldwide, however, this category of
business is plagued by several issues that deter this growth. A key challenge for most
MSMEs is the problem of financing, all small firms live under tight liquidity constraints,
therefore making finance a major problem for them. Most of the franchisees belong to
MSMEs or as per the MSMED Act 2006 definition fall under the micro, small or medium
enterprises.
There are an estimated 133.67 lakh registered and unregistered micro and small enterprises
(MSEs) in the country at the end of March 2008[Provisional], providing employment to an
estimated 322.28 lakh persons*. The MSE sector contributes about 39% of the manufacturing
sector output and 33% of the nation's exports. Of all the problems faced by the MSEs, non-
availability of timely and adequate credit at reasonable interest rate is one of the most important.
One of the major causes for low availability of bank finance to this sector is the high-risk perception
of the banks in lending to MSEs and consequent insistence on collaterals, which are not easily
available with these enterprises.
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Franchise Finance-An Overview
EQUITY
It is generally known that there is a gap in risk capital requirement in India vis-à-vis its availability for technology start-ups, in
particular for early stage start-ups. The gap is for both: Equity and Debt capital. Though pure debt capital is not included in our
ambit the constraints on obtaining adequate debt capital further enhances the importance of the risk capital mechanisms
considered here. It is extremely difficult to avail debts from banking channels for small and medium enterprises, both due to
regulatory and other institutional requirements. Even Government agencies that have programs for commercial lending tend to
depend on collateral. This reduces the ability of the MSME entrepreneur to access debt and, therefore, makes it more difficult
for him to efficiently leverage debt-equity. Similar issues affect his ability to access working capital requirements. The
dependence on risk-capital mechanisms such as equity therefore is further enhanced.
Equity Capital
There is a positive trend for availability of early stage equity funding in India, with some institutional VCs having entered in this
space. However, the availability is not in ample while the demand for venture capital is growing very fast. Also, current focus of
early stage investors is limited in proven areas such as IT, communication (mobile, internet etc.) and software areas. Whereas
new ventures are coming up in other engineering branches, including technology hardware which require larger amount of
investment, and some cases for longer duration. Risk capital is also needed for creation of early stage firms which becomes a
competitive pipeline for later stage VCs.
Following are some of the examples which justify need of the risk capital in the form of equity on various fronts:
1. By and large, there is no equity capital available for pre-revenue companies even in proven technology domains, let alone
other technology areas. Angel network is almost non-existent in this space.
2. For IP and product base companies, time duration of idea-to-product and product-to-market is relatively longer. This
requires early stage equity for their survival. Further, for hardware companies, amount of investment is also relatively larger,
which is generally not available at an idea level.
3. For the sectors which do not have a history of VC investment in India (e.g. auto components or similar other traditional
engineering branches), there is a lesser understanding of these sectors. These sectors do not attract VC funds. On the other side,
entrepreneurial ventures are coming up in these sectors that call for need of early stage funding in these sectors.
4. Sometimes, VCs are willing to take risk in lesser explored domains or at a very early stage provided that there is another
funding agency which is willing to share the risk. Also there is a need to involve large corporates investing in MSME. So is the
case for global VCs who do not invest in early stage. Government resources can be effectively utilised for encouraging global
institutional VCs and corporates.
5. In some cases, debt capital is available. However, there is also a requirement of margin money in equity form. Government resources
can contribute to meeting this requirement.
6. Risk capital from Government resources can also be utilised to fund R&D activities to technically competent team even if such team
operates independent of academic & research institutes.
7. Specific funds for successful incubators to cater to at a very early stage or at the point of the graduation of the companies
Source: SIDBI
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Franchise Finance-An Overview
Venture capitalists are often prepared to take on projects that might be seen as high risk
which some banks might not want to get involved in. The advantages of this might be
outweighed by the possibility of the business losing some of its independence in
decision making.
Examples of venture capitalists (who are also called private equity firms) are
WestBridge, Sequoia, Barings PE, Clearstone, SIDBI VC, SBI VC, Matrix Partners,
Citigroup, Intel Capital, GE Capital etc.
Some firms might be eligible to get funds from the government. This could be the state
or central government. These grants are often linked to incentives to firms to set up in
areas that are in need of economic development.
One of the disadvantages of this type of funding is that it involves large amounts of
paperwork and administration. This can add to costs and in some cases might not make
the project worthwhile.
Venture funds provide equity and may or may not also provide credit. Good quality
venture funding can improve the credit rating of the company allowing it to access
commercial loans or other forms of finance.
In the equity based approach, a critical issue is the exit route for the finance provider.
The most successful investments will be the subject of a trade sale, or an IPO. It is likely,
however, that the fund will be left with a number of small equity stakes in MSMEs which
cannot be disposed of in this way. Some funds make arrangements for these
investments to be transferred into a separate entity at the end of the life of the fund and
for the investments to be managed by another entity. However, expected problems with
exit have serious impact of funds' entry into these areas.
Venture capitalists are typically very selective in deciding what to invest in; as a rule of
thumb, a fund may invest in one in four hundred opportunities presented to it. Funds
are most interested in ventures with exceptionally high growth potential, as only such
opportunities are likely capable of providing the financial returns and successful exit
event within the required timeframe (typically 3–7 years) that venture capitalists
expect.
Because investments are illiquid and require 3–7 years to harvest, venture capitalists
are expected to carry out detailed due diligence prior to investment. Venture capitalists
also are expected to nurture the companies in which they invest, in order to increase the
likelihood of reaching an IPO stage when valuations are favourable. Venture capitalists
typically assist at four stages in the company's development:
• Idea generation;
• Start-up;
• Exit
There are typically six stages of financing offered in Venture Capital, that roughly
correspond to these stages of a company's development.
• Seed Money: Low level financing needed to prove a new idea (Often provided by
"angel investors")
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Franchise Finance-An Overview
• Start-up: Early stage firms that need funding for expenses associated with
marketing and product development
• Fourth-Round: Also called bridge financing, 4th round is intended to finance the
"going public" process
This need for high returns makes venture funding an expensive capital source for
companies, and most suitable for businesses having large up-front capital requirements
which cannot be financed by cheaper alternatives such as debt. That is most commonly
the case for intangible assets such as software, and other intellectual property, whose
value is unproven. In turn this explains why venture capital is most prevalent in the
fast-growing technology and life sciences or biotechnology fields.
If a company does have the qualities venture capitalists seek including a solid business
plan, a good management team, investment and passion from the founders, a good
potential to exit the investment before the end of their funding cycle, and target
minimum returns in excess of 40% per year, it will find it easier to raise venture capital.
Advantages Disadvantages
• For MSMEs, a source of risk capital • For MSMEs, the sale of a part of the
which will improve the balance business will both dilute the
sheet structure and may enable the proprietor's interest and bring in a
company to access further finance minority owner whose interest
through loans etc. must be respected.
• For the investment fund, a high risk • Reporting to and getting permission
investment which may offer the from the finance provider reduces
possibility of high returns. operational flexibilities.
• For the investment fund, a minority
stake in a business that may be
difficult to sell when the fund is
looking to exit its investment.
This section draws extensively from (I) Guide to Risk Capital Financing in Regional
Policy, 2002, Centre for Strategy and Evaluation Services, European Commission
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Franchise Finance-An Overview
2005 146
2200
2004 71
1650
2003 56
470
2002 78
591
2001 110
937
2000 280
1160
Source: http://indiavca.org
ANGEL INVESTORS
Angels are high net worth individuals who wish to invest some of their surplus funds in
new ventures. Often, the individuals concerned are highly motivated entrepreneurs who
have considerable experience of running their own companies. In many cases they also
are networked with the entrepreneur either through family or friends' networks.
Advantages Disadvantages
• A source of capital and advice at an • Some companies are unwilling to
early stage in the development of bring in an external investor.
the company. The right advice can • For the investor, there is a high
also help in strengthening the level of risk. Research suggests that
company. only one investment in five
• For the investor, the opportunity to provides significant profits
make high returns from investing at internationally. And a minority
an early stage in an MSME. stake in an MSME provides little
• For public authorities, angel control and may be difficult to sell.
schemes can increase the supply of • For both the investor and the
risk capital and advice at little
li cost MSME, there is a risk that the
to public funds. relationship between the investor
and the MSME manager might
break down and formal arbitration
is rarely feasible in such cases.
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Franchise Finance-An Overview
Angel investors and venture capital providers are similar in that they invest in growth
businesses in return for an ownership stake in the company and a degree of involvement and
control. They do, however, differ in certain respects, which a company must understand in
order to maximize chances of success and minimize time and resources invested in raising
capital.
* Source of Funds: Angel investors, acting alone or in organized groups, are usually wealthy
individuals, often with a successful entrepreneurial record, who invest their own money.
Venture capital funds are corporate entities that pool money from a range of institutional and
individual investors.
* Deal Size: The range of angel investor transactions is typically US$25,000 to US$100,000 for
an individual, and up to US$1 million, or more, when acting in a group. The range of venture
capital transactions is large, from around US$500,000 to US$10 million, or above. Venture
capital may provide second round financing after angel investors.
* Stage of Development: The focus of angel investors is typically earlier stage businesses.
Different venture capital firms focus on different stages of business development, but the
unifying criteria is that they seek high growth companies capable of achieving exit strategies
that meet the fund’s return criteria within a specified time frame.
* Industry and Geographic Focus: There is no set of industry or geographic markets that
dominate in terms of attracting funding. However, venture capital providers frequently
concentrate on high-growth sectors, often associated with technology or innovation. Angel
investors may allocate funds to a range of ventures, frequently tied with their areas of expertise.
In both cases they often prefer to invest within the vicinity of their offices to add management
value and monitor portfolio companies.
* Ease of Obtaining Financing: Through local resources, networking, internet searches, and
references from existing contacts, angel investors may be relatively easy to identify. The
difficulty may arise at the negotiation stage if the business requires funding from several
investors who demand different terms. Obtaining venture capital funding is a highly rigorous
process and a firm must first meet all the investment criteria of a firm before consideration. A
firm must then be prepared for a lengthy due diligence, valuation and negotiation process.
* Cost: Early-stage and growth businesses generally involve higher levels of risk and investors
will seek a commensurate return. The cost of capital for private equity is high, translating into a
high level of equity required in return for the invested funds. There is no consensus difference
between angel investors and venture capital, although stereotypically, a venture capital
provider may have higher return expectations and more defined criteria.
The key message for a company is to be realistic in its goals. If a business is at an earlier stage,
or growth prospects are currently modest, then angel financing may be the best option. If,
however, the business has an established record, or is at an early stage but offers an
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Franchise Finance-An Overview
The objective is 'to create disproportionate value' by bringing together those with expertise in
India and internationally and from a range of sectors. This allows the network to access high
quality and wide ranging expertise, information and advice form its own members; and in turn
allows the network to provide constant access to high quality mentoring, vast networks and
inputs on strategy as well as execution to the entrepreneur. The network, therefore, considers
proposals over a range of sectors, activities, and cities.
Source: http://www.indianangelnetwork.com
PUBLIC LISTING
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Franchise Finance-An Overview
prospective investors, people or institutions who might want to buy the shares, can get
information about the company before committing to buying shares.
MERCHANT BANKING
Merchant Banking is an important service provided by a number of financial institutions
that helps in the growth of the corporate sector which ultimately reflects into the
overall economic development of the country. Merchant banks were expected to
perform several functions like issue management, underwriting, portfolio management,
loan syndication, consultant, advisor and host of other activities. SEBI was also made all
powerful to regulate the activities of merchant banks in the best interest of investors
and economy. Apart, merchant banking was the necessity of banks themselves which
were in need of non-fund based income so as to improve their profitability margins by
all means in the changed economic scenario.
Often a business will employ the services of a merchant bank to help with a share issue.
These institutions specialise in arranging large financial deals of this sort. Major
merchant bankers in India are ICICI Securities, IDBI, SBI Caps, DPS, IFCI, Bank of
Baroda, Jardine Fleming, JM Finance, ENAM and PNB Caps. These institutions may agree
to underwrite the share issue. What this means is that if all the shares are not sold, the
institution will still provide all the money to the firm issuing the shares.
Once the shares are sold, share owners can buy and sell their shares through the stock
exchange. Such buying and selling does not affect the business concerned directly and is
one of the main advantages of the stock exchange.
There may be times in the development of a public limited company when it needs to
raise more funds. In this case it can issue more shares. Many firms will do this through
what is called a 'rights issue'. This occurs where new shares are issued but existing
shareholders get the right to purchase new additional shares at a reduced price. If the
business is doing well and the new finance is needed for expansion, this can be an
attractive proposition for existing shareholders. For the business it is a relatively quick
and cheap way of raising new funds.
MSMEs with a good track record should also be able to access funding from the public
through the public listing process first through the initial public offer (IPO). However,
the IPO route is limited in that it is only possible for those who have established a strong
record of past performance and reputation in the market. Most importantly, however,
having a functioning IPO regime for MSMEs is essential as it enables the entry of other
types of risk capital (for instance VC or Angel investors) in the earlier stage and makes
an exit in their investment through listing gains. Since most of the franchisees are
beginners and don’t have a performance record it is not feasible for them to raise fund
through IPO. Those franchisees who want to expand their business after having
established successful franchised business can easily use this route.
OTCEI is Indian Stock exchange for small and medium companies. Innovative companies
are critical to developing economies like India, which is undergoing a major
technological revolution. With their abilities to generate employment opportunities and
contribute to the economy, it is essential that these companies not only expand existing
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Franchise Finance-An Overview
operations but also set up new units. The key issue for these companies is raising
timely, cost effective and long term capital to sustain their operations and enhance
growth. Such companies, particularly those that have been in operation for a short time,
are unable to raise funds through the traditional financing methods, because they have
not yet been evaluated by the financial world.
If the franchisee has expansion plans, it can also raise money through IPO. OTCEI (over
the counter exchange of India) facilitates this process. OTCEI is setup by the
Government of India for Small and Medium enterprises, so that they can raise money
through IPO and Public offer. The following types of small and medium firms are eligible
to raise fund through this route:-
-High-technology enterprises
-Companies with high growth potential
-Companies focussed on new product development
-Entrepreneurs seeking finance for specific business projects
OTCEI, with its entry guidelines and eligibility requirements tailored for such innovative
and growth oriented companies, is ideally positioned as the preferred route for raising
funds through Initial Public Offer (IPOs) or primary issues, in this country.
Eligilibity Criteria:
A. A company should have a minimum paid-up capital of Rs. 30 lakhs and the minimum
offer to the public should be 25% of the issued capital or Rs. 20 lakhs worth of shares in
face value, whichever is higher. SEBI Guidelines on Disclosure and Investor Protection
will be applicable to all OTCEI issues.
B. Every company that intends to get listed has to be sponsored by a merchant banker
(Member/ Sponsor) of the Exchange. The Sponsor of the issue must arrange for Market
Makers to give Buy & Sell quotes in the securities for an initial period of 18 months
Companies that do not fulfil the following conditions are also eligible for listing on
OTCEI:
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Franchise Finance-An Overview
Along with the above norms, all Public Limited Companies fulfilling the following
criteria are eligible to get themselves listed on the OTC Exchange of India
QUALIFYING NORMS
1) COMPANY VALUATION
2) SHAREHOLDING
3) MARKET MAKING
Obligation Mandatory
Note:
- Net Tangible Assets means Tangible Fixed Assets minus Liabilities for financing
these Fixed Assets
- If the operating history of the company is less than 1 year then the minimum
market capitalisation will be Rs.5 crores. The other options mentioned in 1 above
will not be available.
- It is also desirable for the company to have a website
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Franchise Finance-An Overview
The trading in the equity shares of the company will commence 3 days after the
company is listed. Post-listing, the company is required to provide a Bank Guarantee of
1% of the issue amount in favour of OTCEI, for complying with continuous
requirements. Bank Guarantee to be valid for a period of 3 years and to be provided
prior to refund of security deposit. Submitted earlier this Bank Guarantee is kept for
continuous compliance and investor grievance. Once listed the company would have to
continuously fulfil the following criteria after a period of 18 months.
1) COMPANY VALUATION
2) SHAREHOLDING
- After listing of the securities of the company, if the company defaults in meeting
with the continuous listing requirements for a period of 3 months, the scrip will
be transferred to a "Watch-list" category
- Transfer to "Watch-list" category will be taken by an OTCEI Committee.
Procedure
- Appointment of a Sponsor
- Sponsor to appoint Market Makers
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Franchise Finance-An Overview
Appointment of Sponser
Choosing a Sponsor:
While choosing a sponsor the company would have to bear the following points in mind
A prospective issuer approaches a sponsor along with the project report for sponsoring
the issue on OTCEI. On selection of a sponsor the company enters into a Sponsorship
Agreement in the prescribed format
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Franchise Finance-An Overview
A Sponsor:
OWNER'S CAPITAL
Some people are in a fortunate position of having some money which they can use to
help set up their business. The money may be the result of savings, money left to them
by a relative in a will or money received as the result of a redundancy payment. This has
the advantage that it does not carry with it any interest. It might not, however, be a
large enough sum to finance the business fully but will be one of the contributions to the
overall finance of the business.
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Franchise Finance-An Overview
This is a source of finance that would only be available to a business that was already in
existence. Profits from a business can be used by the owners for their own personal use
(shareholders in plcs receive a share of the company profits in the form of a dividend)
or can be used to put back into the business. This is often called 'ploughing back the
profits'.
The owners of a business will have to decide what the best option for their particular
business is. In the early stages of business growth, it may be necessary to put back a lot
of the profits into the business. This finance can be used to buy new equipment and
machinery as well as more stock or raw materials and hopefully make the business
more efficient and profitable in the future.
DEBT FINANCING
LOAN FUNDS
As with short term finance, banks are an important source of longer term finance. Banks
may lend sums over long periods of time - possibly up to 25 years or even more in some
cases. The loans have a rate of interest attached to them. This can vary according to the
way in which the Reserve Bank of India sets interest rates. For businesses, using bank
loans might be relatively easy but the cost of servicing the loan (paying the money and
interest back) can be high. If interest rates rise then it can add to a business’s costs and
this has to be taken into account in the planning stage before the loan is taken out.
Like venture capital funds (which also often provide loan finance), a pure loan fund
supported by the Structural Funds can be leveraged by using private capital to create a
greater impact. A loan fund will typically seek to avoid displacing the commercial
provision of loans – if an MSME borrower can obtain funding from a commercial source,
it should do so. Accordingly, MSMEs with the lowest credit risks (including those
offering adequate collateral) are likely to be excluded. The objective for the fund is to
find the most appropriate borrowers from the remaining group.
Advantages Disadvantages
• Maintained ownership – allows • High rates – interest rates vary
the founders to retain ownership with macro economic conditions,
and control of the company (in the borrower´s history with banks,
contrast to equity financing) business credit rating, personal
• Greater degree of financial credit history
freedom – provides business with • Impacts borrower´s credit rating
a greater degree of financial – debt increases leverage, failure to
freedom than equity financing as make payments adversely affects
debt obligations are limited to the business credit rating and its ability
loan repayment period, after which to obtain further financing
the lender has no further claim on • Cash and collateral – necessary to
the business make sure the business will be
• Easy to administer – lacks the generating sufficient CF, it is asked
complex reporting requirements to put up collateral on the loan
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Franchise Finance-An Overview
A commercial bank may be unable to provide finance to a viable MSME because of:
• Lack of a track record
• Inadequate security;
• Breach of a threshold limit;
• A credit rating outside an acceptable range.
Note that to meet the needs of MSMEs, funding sources supported by public authorities
often offer a range of financing solutions and do not just concentrate on one instrument.
Similarly, funding organizations often concentrate on assisting particular types of
MSMEs (e.g. firms at different stages of development or in priority sectors as the case
may be).
Instruments and Sources Internationally
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Franchise Finance-An Overview
Capital
Markets, Public Large Business
Equity
Term Loans of
banks/FIs
“Private Equity”
SME's
Venture Capital is one of the most appropriate ways of financing start-ups (Ajay Kumar Kapur,
CEO SIDBI Venture Capital Ltd.)
OTHER FINANCING
LEASING/HIRE-PURCHASE
Leasing and renting refers to a form of financing whereby premises, equipment, vehicles
etc. are made available against a regular, usually monthly, payment. In agriculture and
construction, such arrangements are quite common. In recent years, computers have
been leased out too. In leasing, there is no transfer of ownership, but usually the lessee
is entitled to buy the goods at a low price after the termination of the lease contract –
usually after around 5 or 6 years. The monthly fee on leasing is usually quite high since
it has to cover the depreciation, maintenance, insurance and, possibly, an allowance for
financing or inflation, as the case may be. In general, goods that are leased, particularly
factory equipment, are of a fairly general nature as they have to be easy to sell if the
client business fails or falls into arrears in the payment of the monthly leasing fee.
The advantage of leasing to small scale entrepreneurs is that it can reduce the need for
collateral to obtain a loan. It can also help the business to react more flexibly to
47
Franchise Finance-An Overview
GUARANTEE ASSOCIATIONS
Credit guarantee schemes aim to share risks with lending institutions so that the lender
will be compensated for all or part of the loss on a loan default. Such schemes are
intended to help those entrepreneurs who have sound viable projects but cannot offer
satisfactory collateral to meet the requirements of a lending bank to obtain credits.
Experience has shown that such guarantee systems must be designed and implemented
so that claims can be made and settled against default without undue delay or
bureaucratic problems. For a guarantee scheme to be attractive to a bank, it should not
increase the costs of loan processing for the lender. Usually, credit guarantee schemes
create a special fund to be used to meet claims, although there are some successful
schemes in developed countries where no specific funds exist, but only a commitment
by the government that the loss guaranteed will be paid if there is a default.
The creation of a guarantee fund has the added advantage that it can be invested in
some relatively liquid form and so earns income for the organisation managing the
scheme.
Furthermore, a guarantee fund need only be at a level to cover the anticipated default of
loans and so can be leveraged, possibly five or ten times. This means that for each
US$1m in the fund, a volume of US$5m or US$10m in credits to SMEs can be guaranteed,
or possibly higher, depending on inter alia financial discipline in repayment.
Guarantee Funds or Guarantee Associations issue guarantees to MSMEs in order to
facilitate access to external finance (mainly loan-based, but also equity) in return for a
fee to cover both the risk and administrative and processing costs. Guarantees are an
appropriate financial instrument in cases where MSMEs are unable to provide the
lender – typically a bank/FI or a leasing company with the necessary collateral to gain
access to finance on reasonable terms. The guarantee instrument is typically used by
new business start-ups and fast-growing, innovation-oriented companies. Franchisees
can also use the services of guarantee associations. There are two main types of
guarantee schemes, with some similarities between the two: Guarantee Funds – these
are usually publicly funded by regional or national authorities. They provide guarantees
either directly to MSMEs, or indirectly by counter-guaranteeing loan commitments
made by mutual guarantee associations. Some guarantee funds also offer loans targeted
at MSMEs/ micro-enterprises. Mutual Guarantee Associations - established by MSMEs,
business federations or Chambers of Commerce, sometimes in partnership with banks.
By grouping together as a cooperative, mutual guarantee associations are able to
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Franchise Finance-An Overview
negotiate bank loans on preferential financial terms and are often also able to provide
professional business support services to clients, drawing on their in-depth specialized
knowledge of the business sectors in which they operate.
Guarantees work on the principle of shared risk between the lending institution and the
guarantee association, which typically covers between 40 and 80% of the loan value,
significantly reducing the degree of risk for the lending institution.
Micro and Small Enterprises, particularly the first generation of entrepreneurs, face
difficulties in accessing bank credit because of their inability to provide adequate
collateral security for loans. Considering this, the Government of India launched the
Credit Guarantee Fund Scheme for Small Industries on 30th August, 2000 with a view to
alleviating the problem of collateral security and impediment to flow of credit to Micro
and Small Scale Industries (SSI) sector.
The Government approved the Credit Guarantee Fund Scheme for Small Industries on
19th May, 2000 with the objective of making available credit to SSI units, particularly
tiny units, for loans up to Rs. 10 lakhs without collateral/third party guarantees. The
Ministry of Micro, Small and Medium Enterprises and Small Industries Development
Bank of India (SIDBI), established a Trust named Credit Guarantee Fund Trust for Micro
and Small Enterprises (CGTMSE) to implement the Credit Guarantee Fund Scheme for
Micro and Small Enterprises. The corpus of CGTMSE is being contributed by the
Government and SIDBI in the ratio of 4:1 respectively. The Settlors have contributed
Rs.1736.68 crore to the corpus of the Trust (as on November 30, 2008). [GoI's share –
Rs. 1389.34 crore and SIDBI's share – Rs. 347.34 crore]. The scheme was formally
launched on August 30, 2000 and is operational with effect from 1st January, 2001.
Subsequently, the Government decided to increase the eligibility limit of loans to be
guaranteed from Rs. 10 lakhs to Rs. 25 lakhs and Rs 50 lakh thereafter. Both the existing
and the new enterprises are eligible to be covered under the scheme. Eligible
institutions include all scheduled commercial banks and Regional Rural Banks
(categorized under “sustainable viability”) or such of those institutions as may be
directed by GOI.
As on November 30, 2008, 122888 proposals from micro and small enterprises have
been approved for guarantee cover for aggregate credit of Rs. 3717.51 crore. As a result
of increased awareness campaigns of CGTMSE and active support of all the
stakeholders, the pace of proposals being accepted for guarantee cover has gone up
significantly. A year-wise growth position is indicated in the table below:
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Franchise Finance-An Overview
50
Franchise Finance-An Overview
ROLE OF GOVERNMENT
Government can support the star ups in the following forms:
Ü By Directly Advancing loans
Ü By formulating rules and regulations favourable for star ups
The government of India has initiated various schemes to assist the entrepreneurs in
different ways.
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Franchise Finance-An Overview
52
Franchise Finance-An Overview
53
Franchise Finance-An Overview
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Franchise Finance-An Overview
CHAPTER 4 :
SOME
DECISION
AREAS FOR Ø Buy a Franchise or Go it alone?
A Ø What forms of business are relevant to
me?
FRANCHISE Ø I have enough money then should I go
for external borrowing?
INVESTOR Ø What should be the ratio between own
AND GUIDING funds and interest bearing loans?
PRINCIPLES TO
OPTIMIZE THE
DECISION
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Franchise Finance-An Overview
Buying a Franchise
Advantages Disadvantages
Ø “Owning a franchise allows you to Ø franchisee is not completely
go into business for yourself, but independent. Franchisees are
not by yourself.” required to operate their
Ø A franchise provides franchisees businesses according to the
with a certain level of procedures and restrictions set
independence where they can forth by the franchisor in the
operate their business. franchise agreement. These
Ø A franchise provides an established restrictions usually include the
product or service which already products or services which can be
enjoys widespread brand name offered, pricing and geographic
recognition. This gives the territory. For some people, this is
franchisee the benefits of customer the most serious disadvantage to
awareness which would ordinarily becoming a franchisee.
take years to establish. Ø In addition to the initial franchise
Ø A franchise increases your chances fee, franchisees must pay ongoing
of business success because you are royalties and advertising fees.
associating with proven products Ø Franchisees must be careful to
and methods. balance restrictions and support
Ø Franchises may offer consumers provided by the franchisor with
the attraction of a certain level of their own ability to manage their
quality and consistency because it business.
is mandated by the franchise Ø A damaged, system-wide image can
agreement. result if other franchisees are
Ø Franchises offer important pre- performing poorly or the franchisor
opening support: runs into an unforeseen problem.
• site selection Ø The term (duration) of a franchise
• design and construction agreement is usually limited and
• financing (in some cases) the franchisee may have little or no
• training say about the terms of a
• grand-opening program termination.
Ø Franchises offer ongoing support
• training
• national and regional advertising
• operating procedures and operational
assistance
• ongoing supervision and management
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Franchise Finance-An Overview
support
• increased spending power and access to
bulk purchasing (in some cases)
Merits Demerits
• Usually lower start-up cost – • Requires more time and energy
requires more time and energy • Independence and creative
• Independence and creative freedom – high risk of failure
freedom – high risk of failure • Freedom with location and
• Freedom with location and procedures – takes longer to
procedures – takes longer to become profitable
become profitable • No inherited problems from an
• No inherited problems from an existing business – financing may
existing business be more difficult to obtain
Owning a business is one of the fastest ways to wealth, but the decision of whether to
invest in a successful existing franchise or start a solo enterprise from scratch can be a
daunting one. Would-be entrepreneurs need to carefully weigh the advantages and
disadvantages before launching into business – and putting precious investment capital
on the line – to help ensure the best possible outcome.
One of the most critical components of this decision involves the cost, or return on
investment, to create a customer base, brand recognition, and demand for products or
services offered. Franchising solves those fundamental problems by offering a business
structure or model that is already successful, established, and recognized.
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Franchise Finance-An Overview
It takes time to connect with an audience, gather fans, grow a brand, or build a customer
base. Time is money – and capital expenditures are also money – so most new
businesses face a double-barreled challenge that few can survive.
Automatic Goodwill from Day One
A smarter and less risky approach is to pay a little more in exchange for buying into a
proven and established franchise with its own loyal clients, valuable goodwill, and finely
tuned organizational structure. The kinks have been already worked out, the fruits of
advertising efforts have ripened and are ready for harvest, and a track record that can
be scrutinized is already documented.
Rather than buying a vacant lot with a long, expensive, labor-intensive building project
ahead, franchise buyers purchase completed assets that hold the bankable promise of
already accumulated, built-in goodwill.
Most small business owners and corporate CEOs readily acknowledge that the most
important lessons they learned were not taught in the classroom but rather in the “real
world” they graduated into by opening their first business.
Purchasing an existing franchise ensures that those lessons learned are totally relevant,
distilled into their practical essence, and do not involve the same school of hard knocks
that those who came before had to endure. The waters have been tested, the challenges
have been identified and met, and the lesson plan can be put to work right away in not
just a theoretical way but in a realistic fashion that produces immediate income and a
sense of personal accomplishment.
Shopping for Verifiable Value
America’s wealthiest individual and Wall Street’s most successful investor, business
wizard Warren Buffett, points out that “Price is what you pay. Value is what you get.” He
explains that it is “far better to buy a wonderful company at a fair price than a fair
company at a wonderful price.” His experienced philosophical insights apply especially
well to those shopping for a franchise opportunity, because evaluating a franchise is
often the most difficult part of the whole franchise purchase process.
Everything from a business plan and mission statement to management practices and
dynamic computer systems contributes to the overall value of a franchise. Buy into not
just the concept of a business but also the practical and graceful execution of that vision,
and ambition will translate into a flawlessly manifested desirable outcome. One way to
examine a franchise – or any business model – is to study the number of customer leads.
How easily or effectively those can be converted into actual paying customers – and
how many transactions that base of customers represents – helps to calculate the
number of sales. Next it is important to know how much money is made (or lost) on
each sales transaction – in other words, the profit margins and net income per sale.
Knowing those things and understanding the rate of turnover – or the number of times
each customer returns to buy again – can reveal a great deal about a company and its
current and future value as well as potential.
While there is no specific formula or equation for appraising the potential worth of a
franchise, each can be scrutinized on its own individual merits. Just as when buying a
house there is no way to anticipate exactly what the property is worth or what surprises
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Franchise Finance-An Overview
the homeowner may encounter after moving in, it can be difficult to get an accurate
reading on a franchise. But when buying real estate home inspectors, lawyers, bankers,
Realtors, and other homeowners can be consulted and relied on to help guide the
process and eliminate problems.
Similarly, when shopping for a franchise it is a good idea to interview a typical cross
section f other franchise operators, to run the franchise agreement past an attorney as
well as a financial advisor, and to study the agreement from every possible angle.
Ultimately the decision rests on the shoulders of the buyer, and that is why one needs to
also listen carefully to personal intuition, gut instinct, and one’s own trusted friends and
family members.
Franchise Relationship Dynamics
Franchises are rooted in the relationship between the franchisor and the franchisee.
Just as in other kinds of relationships each has its own characteristics, patterns, traits,
and shared dynamics. Not all franchises are created equal, and in order to make a smart
investment it is critical to understand this and avoid the common pitfall and
misconception that franchises all work the same. They don’t; and how they operate and
do business defines their worth and separates the losers from the winners.
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Franchise Finance-An Overview
revenue. By buying into the franchise one gets a completely turnkey operation that is
ready to go in every respect – including both major and minor aspects. The franchisor
typically earns money from an up-front fee plus an ongoing share of the business
profits, and maintains strict control over policies, procedures, and business conduct.
Not adhering to the system laid out in the franchise agreement may violate the
arrangement. But compliance ensures high standards, strong, consistent brand
recognition, and the many benefits and customers that come from owning that kind of
franchise.
While these are the two most fundamental business models for franchises, practically
unlimited variations exist in the global marketplace. Depending upon the creativity of
those who buy and sell franchises, a wide range of agreements and structures may come
into play. Some behave more like joint ventures, others like independent
distributorships, and still others may operate like commissioned agencies. Study the
fine print, evaluate each agreement individually, and ask as many questions as
necessary to gain a thorough understanding of the business and the respective roles and
responsibilities of the franchisor and franchisee.
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Franchise Finance-An Overview
Purchasing a quality franchise offers the best of both worlds by minimizing the time,
effort, and expense of launching a business while simultaneously offering a successful
entry into the self-employed business ownership experience.
Franchises offer training, so even if one is new to the business or to a particular field, it
doesn’t matter. In fact, many experts believe that those who enter into a franchise with
products and services that are unfamiliar do better, because they learn with an open
mind - as a clean slate. Others who may have owned their own business in exactly the
same industry niche, for example, tend to try to continue to do things their own way –
even when those methods or procedures are proven to be less efficient and more costly.
As franchises evolve, so does the training and continuing education, so that franchisees
and their employees can rely upon learning the new skills required to grow and expand
both as professionals and as a business team.
A franchise also comes with organizational support, experience, and expertise. Rather
than trying to fend for oneself or reinvent the wheel, a franchisee can rely upon others –
who share a vested interest in the success of the business – for guidance, assistance, and
insight. An umbrella of brand recognition, goodwill, and existing customer interest is
also conveyed if the franchise is established. A franchisee should pay less for a new and
experimental franchise, while a reasonable premium paid for coming aboard an already
proven venture is easily justified.
When participating in a franchise, such things as site selection, permits for operation,
insurance, and other necessities are often taken care of by the franchisor. Systems are in
place, equipment and technology has already been chosen and can be acquired through
bulk purchasing or leasing power, and trade secrets and market research are available,
eliminating many of the most critical steps in setting up a business. If financing is
required, bankers and other lenders will offer loans specifically tailored to franchises.
These usually offer more competitive rates and terms based on the decreased risk of
lending to an established, profitable company’s franchise as opposed to taking a gamble
on a new and untested solo venture.
So not only does a franchise offer ease of opening and operation, but it also helps to
ensure longevity and overall success – without which the odds may be seriously stacked
against an individual entrepreneur. A single fragile twig may be easily broken, but a
bundle of such twigs can be impossible to even bend because of the inherent strength in
numbers and solidarity. The advantages of franchise ownership help to offset the
disadvantages faced by self-employment by providing the kind of resources and
empowerment that promote dynamic success and sustainable profitability.
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Franchise Finance-An Overview
• Talking to other franchise owners is one way to find out how they like theirs. Kicking
the tires by walking into a franchise and buying something is a wonderful way to see
how they treat customers as well as the quality of their products, services, and
presentation.
• Paying close attention to how the idea of ownership and affiliation with a brand or
company feels is also extremely important. Becoming a franchise owner means
becoming a representative of what the franchise stands for and does, so it becomes a
new identity and a defining role without the community.
Some buy franchises with a view of growing them and then selling them for a profit;
others buy because they want to own their own business and pass it on to their
children. Whatever the reasons and motives for getting involved in a franchise, should
be clarified, well thought out, and if possible written down so that they can be shared
with others.
One of the best approaches is to create a business plan, just like those submitted to
venture capitalists, banks, or potential investment partners when launching a new
business by oneself. Articulating a vision on paper in this structured format helps to
illuminate strengths and weaknesses, communicate tangible and intangible concepts
and ideas, and solidify goals, criteria, and specific needs and requirements.
Keep in mind that all of these explanations of benefits gained from going the franchise
route refer to quality franchises that are worth their price. Many inferior businesses
offer franchises and franchise programs that are also inferior, and it is up to the
franchise investor to avoid these and concentrate only on high-quality, value-laden
franchise investment opportunities worthy of examination.
CONCLUDING NOTE
Once a choice has been made regarding whether or not to go it alone or invest in a
franchise and the preliminary steps have been taken to ascertain business value and
personal compatibility, most of the heavy lifting has already been accomplished.
The time comes to start finalizing the process; otherwise one can become a professional
shopper – rather than a professional business owner – by procrastinating out of fear or
indecision. But emotions or mental doubts are not to be neglected or minimized,
because those are messages from the heart or telegrams from the gut. When instinct
interferes, it often means that the initial phase is still unfinished. More research needs
to be done, more questions need to be answered, or more time needs to be taken to
identify goals. Sometimes it is necessary to retrace one’s steps and go the various
phases of selection and inquiry again, until everything crystallizes and one feels
confident about the decision.
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Franchise Finance-An Overview
Sole proprietorship – though it is the simplest form of ownership, a sole proprietor risk
his or her personal assets for any liability in connection with the operation of the
franchised business;
Partnership – in a partnership, the partners are jointly and individually liable for the
liabilities of the partnership and for the actions of the other partners acting within the
scope of the partnership;
Company – the shareholder generally will not be liable for the liabilities of the
corporation except to the extent of the shareholder’s capital contribution.
The options range between a sole proprietary concern, partnership or a limited liability
company. India does not have limited liability partnership yet and is still being debated
as a concept. There are many other forms like the Hindu Joint Family business,
registered society too.
In order to decide on which legal form to choose, here’s a feature comparison between
the Sole proprietorship, LLP, Partnership firm and a Company:
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Franchise Finance-An Overview
s/ *Minimum of
Partners two and
maximum of
50 persons can
form a private
company
Registration None Register the Incorporate the Compulsory
s required to Partnership Deed company with registration
start with the Registrar of required
Registrar of Companies with the ROC
Firms.
Minimum Not specified Not specified *500000 Not
Capital Rupees for specified
Public limited
co.
*100000
Rupees for
Private limited
Co.
Separate No separate No separate Has a corporate Separate Legal
legal Entity legal entity Legal entity personality Entity
distinct from the
individuals who
are its members.
Charter None Partnership Deed Memorandum and LLP
Document Articles of agreement
Association
Termination Dissolved on Dissolved on the Perpetual.
the death of death of a Terminated
the sole partner, unless through
proprietor. there is a prescribed
contract to the winding up
contrary. Can be processes.
terminated by
voluntary action
of dissolving the
partnership.
Audit Not required Compulsory Compulsory Required, if
the
contribution is
above Rs.25
lakhs
or if annual
turnover is
above Rs. 40
lakhs.
How do Low Creditworthiness High Perception is
bankers creditworthine depends on creditworthiness, higher
view ss goodwill and due to stringent compared to
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Franchise Finance-An Overview
The key differentiator between private limited and public limited company to consider
while starting up, are the numerous legal compliances applicable to a public limited
company even though the company may be closely held among just 7 members.
Limited Liability Partnerships (LLPs) are commercial vehicles which combine the
features of partnership and company form of business .The concept of Limited Liability
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Franchise Finance-An Overview
Partnership (LLP) has been introduced in India by way of Limited Liability Partnership
Act, 2008 (notified on 31st March 2008).
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Franchise Finance-An Overview
Accounts
• Less Cost of formation (Compared
to a company
FORMATION OF COMPANY
Formation of company is the most difficult of the three forms. Seven or more persons
are required to apply for the registration of the company. The memorandum and
articles of association are the charter documents required to be filed with registrar of
companies (ROC) along with other prescribed documents. The memorandum of
association is a document that sets out the constitution of the company and should
mention:
A company must hold an annual general meeting of the shareholders every year within
six months of the end of the financial year and at least one board meeting every three
months, subject to at least four meetings in a year. Further, the company is required to
file every year its annual returns, tax returns and its financial statements with the
government.
IMPLICATIONS
It is not easy to decide in favor of any one form of business entity, because the franchise
business requirement ranges widely from industry to industry. For example according
to FranData total initial investment ranges from $ 4331 for sports and recreation
category to $ 6,485,250 for lodging category industry.
However following general comment can be made, regarding the business form:
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Franchise Finance-An Overview
DEBT FINANCING
WHETHER TO GO FOR EXTERNAL BORROWINGS OR Example of Business Risk
RELY ON OWN FUNDS?
• Suppose 10 people
Even if the franchisee has enough funds to finance his decide to form a
project, He should employ debt to increase the return on corporation to
equity. This phenomenon is termed as leverage. A firm manufacture disk
using debt is called levered firm and which does not use drives. If the firm is
capitalized only with
debt is called unlevered firm. A levered firm has more
common stock – and if
potential of earning, and carries more risk than unlevered each person buys 10%
firm. This has been demonstrated using a simple example: -- each investor shares
equally in business
Items Firm A Firm B risk
Equity (own funds) 1000000 500000
Debt (loan@ 15%) - 500000 • If the same firm is now
capitalized with 50%
Return on Investment(ROI) 25% 25% debt and 50% equity –
Interest - 75000 with five people
Earnings 250000 250000 investing in debt and
Earnings after interest 250000 175000 five investing in equity
Rate of return to 25% 35%
• The 5 who put up the
equityholdres equity will have to
bear all the business
risk, so the common
Firm B is able to earn a 35% rate of return because of stock will be twice as
leverage. This is possible only if the return on investment is risky as it would have
more than the interest rate. If the case is opposite negative been had the firm
effect of leverage will creep in. If a franchisee is required to been all-equity
invest 10 lakh, and he has sufficient savings to invest, he (unlevered).
should not rely entirely on his own money. In the above
example by using 1:1 Debt-Equity ratio (taking half
requirement as a loan) will be more beneficial to him, the
remaining 500000 can be invested in some other profitable
business.
Business Risk: Standard measure is beta (controlling for financial risk).Factors which
affect the business risk are:
– Demand variability
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Franchise Finance-An Overview
Financial Risk: The additional risk placed on the common stockholders as a result of
the decision to finance with debt
Is there a way of dividing a company’s capital base between debt and equity that can be
expected to maximize firm value? And, if so, what are the critical factors in determining
the target leverage ratio for a given company?
There are several theories with conflicting results. What makes the capital structure
debate especially intriguing is that the theories lead to such different, and in some ways
diametrically opposed, decisions and outcomes. For example, some finance scholars
have followed Miller and Modigliani in arguing that both capital structure and dividend
policy are largely “irrelevant” in the sense that they have no predictable material
effects on corporate market values. Another school of continuous testing and
refinement, have turned out to be remarkably accurate and useful to practitioners in a
wide range of applications, from thought holds that corporate financing choices reflect
an attempt by corporate managers to balance the tax shields of greater debt against
potentially large costs of financial distress, including those arising from corporate
underinvestment. But if too much debt can destroy value by causing financial distress
and underinvestment, others have argued that too little debt—especially in large,
mature companies—can lead to overinvestment and low returns on capital.
Here are some guiding theories of capital structure. Although we can’t say with
certainty that these theories will lead to company’s value-maximizing capital structure.
The problem with this analysis, however, is that it overstates the tax advantage of debt
by considering only corporate taxes. Many investors who receive interest income must
pay taxes on that income. But those same investors who receive equity income in the
form of dividends and capital gains are taxed at a lower rate, and they can defer any tax
on capital gains just by not realizing the gains. Thus, although higher leverage lowers
the firm’s corporate taxes, it increases the taxes paid by its investors.
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Franchise Finance-An Overview
The extent to which a company benefits from interest tax shields also depends on
whether it has other tax shields. For example, holding all else equal, companies with
more investment tax credits or tax loss carry forwards should have lower leverage
ratios to reflect the lower value of their debt tax shields.
Company X Company Y
Debt $ - $ 5,000
Rate 12.0% 12.0% Financial Risk - Risk to
Tax Rate 40.0% 40.0% shareholders resulting
from the use of debt.
EBIT $ 2,000 $ 2,000
Financial Leverage -
Interest $ - $ 600 Increase in the variability
Profit Before $ 2,000 $ 1,400 of shareholder returns
taxes that comes from the use
Taxes $ 800 $ 560 of debt.
Available to $ 1,200 $ 840
SH Interest Tax Shield- Tax
Available to $ 1,200 $ 1,440 savings resulting from
SH + DH deductibility of interest
payments.
CONTRACTING COST
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Franchise Finance-An Overview
having trouble servicing its debt. Since the value of such a firm will depend heavily on
its ability to carry out its long-term investment plan, what this company needs is an
infusion of equity. But there is a problem the investors who would be asked to provide
the new equity in such cases recognize that much of the value created (or preserved) by
their investment would go to restoring the creditors’ position. In this situation, the cost
of the new equity could be so high that managers might rationally forgo both the capital
and the investment opportunities. This is also termed as “underinvestment problem”.
It’s also important to keep in mind, however, that it’s not just growth companies that
are prone to this underinvestment problem. Most old-line manufacturing companies
need to invest heavily to maintain their existing capital stock (that is, gross investment
is often substantial even if net investment is near zero). And, like growth companies,
many manufacturers also need to invest in their relationships with non-investor
“stakeholders”—customers, suppliers, and employees—to maintain their competitive
advantage.
OVERINVESTMENT PROBLEM
But if too much debt can lead to underinvestment (and more demanding stakeholders),
too little can lead to overinvestment. The natural inclination of corporate managers is to
use excess cash to sustain growth at the expense of profitability, either by overinvesting
in their core businesses or, perhaps worse, diversifying through acquisition into
unfamiliar ones. And unless management finds another way to assure investors that it
will resist this tendency, companies that aim to maximize firm value should distribute
their free cash flow to investors.
INFORMATION COST
Corporate executives often have better information about the value of their companies
than outside investors. Recognition of this information “gap” between managers and
investors has led to the formulation of three distinct, but related, theories of financing
decisions—one known as market timing, a second as signaling, and the last as the
pecking order.
Signaling. Adding more debt to the company’s capital structure can serve as a credible
signal of higher expected future cash flows.
Market Timing. If management has favorable information that is not yet reflected in
market prices, the release of such information will cause an increase in stock prices, and
so the current stock price will appear undervalued to managers
The Pecking Order. This theory states that, companies maximize value by choosing to
finance new investments with the “cheapest available” source of funds. Managers prefer
internally generated funds (retained earnings) to external funding and, if outside funds
are necessary, they prefer debt to equity because of the lower information costs
associated with debt issues. Companies issue equity only as a last resort when their
debt capacity has been exhausted.
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Franchise Finance-An Overview
Some Implications:
In a nutshell
• Ideal debt equity ratio depends upon the risk bearing capacity of the investor.
Inclusion of debt increases the risk of equity holders and the reward for risk is
also achieved through increased rate of return.
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Franchise Finance-An Overview
Chapter 5:
• Issues in Franchise
finance
Bank Financing
• How to prepare a
to franchisees winning business proposal?
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Franchise Finance-An Overview
Over discussion with executives in banking industry we sorted out some issues in
franchise financing. Since we are treating franchisees as small borrowers so SME’s
should be read as franchise borrowers in the following pages:
Information Asymmetry: Accurate information about the borrower is a critical input
for decision-making by banks in the lending process. Where information asymmetry a
situation where business owners or managers know more about the prospects for, and
risks facing their business than their lenders exists, lenders may respond by increasing
lending margins to levels in excess of that which the inherent risks would require.
However, the sheer ticket size of SME lending makes it inviable for banks to invest in
development of information systems about SME borrowers. In such situations, banks
may also curtail the extent of lending even when SMEs are willing to pay a fair risk
adjusted cost of capital. The implication of raising interest rates and/or curtailing
lending is that banks will not be able to finance as many projects as otherwise would
have been the case. In case of franchise finance banks may compromise on this
depending upon the brand for which loan is sought.
(b) Granularity: This refers to a situation where the risk grading system at banks does
not have the requisite capability to discriminate between good and bad risks. The
consequence is tightening of credit terms, or an increase in prices, or both. From the
borrower’s perspective, this leads to an outcome where the bank is over-pricing good
risks and under-pricing bad risks. The fact that most banks in India have not developed
adequate expertise in SME lending risk assessment exercises leads to the problem of
granularity when it comes to SME lending.
(c) Pecking Order Theory:
Pecking order theory flows from the above two issues, which makes SME’s lending
highly difficult for banks. Under this hypothesis, SMEs, which face a cost of lending that
is above the true risk-adjusted cost, will have incentives to seek out alternative sources
of funding. Evidence suggests that in such situations SMEs prefer to utilise retained
earnings instead of raising loans from banks.
(d) Moral Hazard: Even when loans are made to SMEs, it may so happen that the
owners of these SMEs take higher risks than they otherwise would without lending
support from the banks. One reason for this situation is that the owner of the firm
benefits fully from any additional returns but does not suffer disproportionately if the
firm is liquidated. This is referred to as the moral hazard problem, which can be viewed
as creating a situation of over-investment. The moral hazard problem may, thus, result
in SME lending turning bad in a short period of time, a situation that all banks would
like to avoid.
(e) Switching Costs: SMEs may find it harder to switch banks, when countered with any
issue. It is a known fact that the smaller the business, the more significant the switching
costs are likely to be and, therefore, it is less likely that the benefits of switching
outweigh the costs involved. This situation results in SME lending becoming a sellers
market, which may not be attractive to franchise borrowers.
In order to ensure that the above issues do not stand between franchise borrowers and
Bank Finance, the following steps could be taken as remedial measures:
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Franchise Finance-An Overview
After discussions with executives and going through the application process of loan we
came to the following concrete conclusions
However many bankers claim that lending competition has forced them to focus more
on a business's ability to repay the debt as it comes due, rather than the collateral
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Franchise Finance-An Overview
securing the loan. The reality is, due to banking regulations they have to take a belt and
suspenders approach. The banks focus on a combination of both collateral and ability to
repay. Typically, banks do not want to enforce their rights to foreclosure or repossess
collateral, and such actions merely highlight a poor lending decision.
While applying to a bank for a line of credit for business working capital line, a
commercial short-term loan, an equipment loan, real estate financing, or some other
type of commercial or consumer loan, many of the same basic lending principles apply.
The most fundamental characteristics a prospective lender will want to examine are:
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Franchise Finance-An Overview
repayment? Is the loan to be repaid from cash generated by the operations of your
business, or from trade debtors? If it is trade debtors, the bank will want to be sure that
the collection of debtors will complete.
When evaluating the business’s accounts, a bank makes an assessment of the borrowing
risk. This is achieved using the Gearing Ratio, which measures the proportion of the
business’s total capital that is borrowed. It is calculated as follows:
Gearing Ratio=
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Franchise Finance-An Overview
In the current interest rate climate, assumptions around the cost of borrowing could
potentially make the difference between a project being viable or otherwise.
Understanding the strategy for interest rate management is therefore vitally important.
(g) Insurance
Most lenders will look for protection against the possibility of your business not
repaying the loan. In most cases this will be in the form of security, whether that is
property, a letter of comfort or some other form of security. They will also want to see
that the business is sufficiently insured against external factors which may impact
repayment.
PRESENTING THE BUSINESS PLAN
In a tight credit environment, a good business plan can go a long way towards securing
funding. A good business plan helps lenders understand your vision and goals, explains
how you will use the investment and sets out the benefits both for your business and for
the lender.
Management records, forecasts, sensitivity analysis and published records going back
for three years or more will give a bank much more information to work with to prove
your business is sustainable and creditworthy.
• Manage the business – While this may seem obvious, a lender will be looking for
evidence of a well managed business. Management teams that are able to demonstrate
actions already undertaken to mitigate the risks associated with the current
environment are likely to be viewed positively by the bank. An example would include
reviewing operational efficiencies in order to remove any unnecessary costs which may
have previously crept into the business.
• Prepare thoroughly for any discussions with a lender – Go through the questions a
lender will be asking you for a credit decision and provide as much of the information
upfront as possible. At Barclays we have found that businesses who present this
information in a well laid-out business plan are in a better position to get a quick credit
decision.
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Franchise Finance-An Overview
Banks will need to build up a detailed knowledge of the business, which also serves as a
useful platform for understanding its plans and the underlying assumptions behind
them. Once this is understood, it is important that the bank makes an early assessment
on the most suitable form of finance, as neither party benefits if a facility is provided
which doesn’t serve the best interests of the business.
Bankers are often overly cautious in making loans to small businesses. If one does not
anticipate the tough questions and have specific answers, the bank will decline the loan
request. If the loan application is denied, one should find out as much as he can about
the review of his loan, how he can improve his chances for obtaining a loan in the future,
The cash flow statement and projected income and balance sheets will be most relevant.
The institution will want to know what the funds are being used for and whether the
business's cash flow will be sufficient to monthly/quarterly payments and repay the
loan. Some banks will require that your financial statements be prepared or reviewed
by a CPA. Lenders sometimes contact the applicant’s accountants and financial advisors
directly to discuss a business plan or a financial statement. These conversations can
have a powerful influence on the outcome of a loan application. Some lenders rely
heavily upon financial ratios in assessing the creditworthiness of a prospective
borrower. With many small businesses these ratios may misrepresent the overall value
of the enterprise. The most important assets of a small business are often the owner’s
experience, the potential value of existing and prospective customers, “goodwill” and
other non-balance sheet items. Further, due to tax or strategic business purposes,
companies may report of a cash basis, and therefore their financial statements will not
reflect their accounts receivable, deferred income, and accrued expenses. In these and
other situations, the financial ratios of the borrowing company may be understated. You
should point out these situations to your banker.
Bankers will look at your commitment to the business, your customers and your
creditors. You must demonstrate it with facts, revenues, customer loyalty and/or
testimonials not rhetoric.
EXAMPLE-STRUCTURE OF A BUSINESS PLAN
Outline of a Business Plan- Prologue:
• Name of the business
• Official address of the business
• Ownership pattern of the business
• Names and addresses of the owners
• Nature of the business
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Franchise Finance-An Overview
Vision statement
A vision statement gives the direction of the business and is intended to evoke
emotional feeling among the members of the business.
Mission statement
A mission statement defines the purpose of the business. This outlines the future course
of action for the business.
Business goals
Business goals are targets set by the business team for a future time duration.
Outline of a Business Plan
Industry Analysis
Structure of Industry
Intensity of Competition
Market capacity
Industry Forecasts
Structure of industry
Industry segmentation
Product differentiation in the industry
Number of participants in the industry
Intensity of competition
Major players in the industry
Number of players in the industry in the same size category as the proposed business
Market share of competitors
Market capacity
Trend of new products introduction in the industry
Trend of product modification in the industry
Industry forecasts
Historical industry turnover
Forecasted industry growth rate
Details on competitor turnover and profits
Outline of a Business Plan-Business Description:
Product / service portfolio
Proposed size of operation
Entrepreneurial creative outcome explicit in the business
Background of the entrepreneur and others associated with the business
Product / service portfolio
Quality of materials
Product style
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Franchise Finance-An Overview
Product features
Product options
Brand name
Packaging
Warranty and product support service
Production / operation plan
Description of plant and equipment required
Description of production / operation process
Required inputs for the business
Raw material
Skilled personnel
Sources of the inputs for the business
Environmental assessment
Environmental assessment
Economy
Culture
Technology
Legal concerns
Outline of a Business Plan-Marketing Plan
Forecast of market for the business
Marketing zones for the business
Product / service pricing Methodology
Product / service promotion policies
Selection of distribution channels
Forecast of market for the business
Market segments
Description of major product / service users
Quantitative measures of market potential
Number of potential customers
Volume of business in terms of monetary value
Trend analysis of historical data
Product / service pricing methodology
Quality image
Cost plus / margin pricing etc.
Discounts
Promotional quantity and price concessions
Credit terms and collection period
Product / service promotion policies
Media choice
Media message
Media budget
Publicity measures
Propagation measures (coupons, displays, freebees)
Distribution channels
Type of Wholesaler
Choice of Retailer
Geographic boundary
Logistics
Outline of a Business Plan-Personnel Plan
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Franchise Finance-An Overview
Risk Assessment
• Performance of SWOT (Strengths, Weaknesses, Opportunities and Threats) analysis for
the business
• Presentation of contingency plans
SWOT
External SWOT
Environment Analysis
Internal Environment
Appendices
• Market research details
• Details of specific item categories in the Financial Statements
• Resumes of key personnel in the business
• Patents, Permits, Licenses, Audits, Lab Reports, Maps, and similar documentary evidence
• Any Reference Material, especially those used in industry forecasts
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Franchise Finance-An Overview
CHAPTER6:
FRANCHISE
FINANCE
SURVEY
Findings and
Suggestions
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Franchise Finance-An Overview
FEMALE REPRESENTATION
Quiet satisfactorily our
ur survey shows females representation at 29.5%.
Sex of respondent
Cumulative
Frequency Percent Valid Percent Percent
Valid Male 136 70.5 70.5 70.5
Female 57 29.5 29.5 100.0
Total 193 100.0 100.0
Gender Of Respondents
30%
Male
70%
Female
QUALIFICATION OF RESPONDENTS
ESPONDENTS
Interestingly the franchise sector is more inhibited by educated entrepreneurs. 77.1%
are having either bachelor’s degree or more. Franchising has attracted more educated
people than less educated people.
Qualification
Cumulative
Frequency Percent Valid Percent Percent
Valid High School 14 7.3 7.3 7.3
Senior Secondary 14 7.3 7.3 14.5
Diploma 18 9.3 9.3 23.8
Bachelor's Degree 67 34.7 34.7 58.5
Post Graduate Degree 68 35.2 35.2 93.8
Doctoral Degree 12 6.2 6.2 100.0
Total 193 100.0 100.0
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Franchise Finance-An Overview
Doctoral
Degree
Qualification of Respondents
6% High School Senior
7% Secondary
7%
Diploma
10%
Post Graduate
Degree
35%
Bachelor's
Degree
35%
SECTOR OF OPERATION
Largest respondents are from education and training sector. 23.8% % of total respondents
belong to retail sector. Education, Apparel and food and beverages follow it at 17.1%,
13.5% and 13.0%. The others category is quite large i.e. 16.1% which shows that
franchising model of business is popular in diversified lines of businesses and sectors.
Some more categories might ht have been included to reduce this share of others category
like healthcare, beauty and slimming etc.
Sector of Operation
Cumulative
Frequency Percent Valid Percent Percent
Valid Retail 46 23.8 23.8 23.8
Education 33 17.1 17.1 40.9
Gems & Jewellery 5 2.6 2.6 43.5
Food & Beverages 25 13.0 13.0 56.5
Apparel 26 13.5 13.5 69.9
Business Services 14 7.3 7.3 77.2
Tours & travels 13 6.7 6.7 83.9
Other 31 16.1 16.1 100.0
Total 193 100.0 100.0
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Franchise Finance-An Overview
Sector of Operation
Retail Education Gems & Jewellery Food & Beverages
Apparel Business Services Tours & travels Other
16%
24%
7%
7%
17%
13%
13%
3%
AGE DISTRIBUTION
Mean age of franchise owners is 41 years with minimum and maximum of 25 and 65
years. Most frequent value is 34.
Age of respondents
N Valid 193
Missing 0
Mean 41.0207
Median 40.0000
Mode 34.00
Minimum 25.00
Maximum 65.00
SOURCES OF FINANCE
12 choices were given to indicate the employed sources of finances. Most employed sources
were own funds/retained earnings and bank loans with both 80.7% franchisees indicating them
as used sources. Family and friends stands at third most used source of finance with 71% of
franchisees ticking at this option. Credit purchases and leasing are other financing modes with
48% and 40% usage. 15.6% franchisees are using venture funds and 8.95% angel funds. IPO’s,
External commercial borrowings (ECB), advance receipts, SIDBI are the least employed sources
of finance. There is scope of exploiting the PE/Venture funds and angle networks as they will be
willing to finance established and proven business formats rather than a complete new venture.
OTCEI the Indian stock exchange for small cap companies is another least used source of
finance. Only four respondents indicated it as their source of finance either current or planned.
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Case Summary
Cases
Valid Missing Total
N Percent N Percent N Percent
$Sources(a) 192 99.5% 1 .5% 193 100.0%
a Dichotomy group tabulated at value 1.
Sources Frequencies
Responses
Percent of
N Percent Cases
Sources Bank Loan 155 21.8% 80.7%
External Commercial
Borrowings 13 1.8% 6.8%
Venture Funds 30 4.2% 15.6%
Angle Funds 17 2.4% 8.9%
Family and Friends 138 19.4% 71.9%
Retained Earnings 155 21.8% 80.7%
Leasing 77 10.8% 40.1%
Credit Purchases 93 13.1% 48.4%
Advance Receipts 9 1.3% 4.7%
Initial Public Offer 7 1.0% 3.6%
Over the Counter
Exchange of India 4 0.6% 2.1%
Small Industries
Development Bank of In 12 1.7% 6.3%
Total 710 100.0% 369.8%
a Dichotomy group tabulated at value 1.
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Franchise Finance-An Overview
Percent of Cases
Over Small
Externa
the Industri
l Retaine Advanc
Family Credit Initial Counte es
Bank Comme Ventur Angle d e
and Leasing Purcha Public r Develo
Loan rcial e Funds Funds Earning Reciept
Friends ses Offer Exchng pement
Borrow s s
e of Bank of
ings
India In
Percent of Cases 80.7% 6.8% 15.6% 8.9% 71.9% 80.7% 40.1% 48.4% 4.7% 3.6% 2.1% 6.3%
LEGAL ENTITY
The following table shows the legal entity of the franchise businesses.
Cumulative
Frequency Percent Valid Percent Percent
Valid Sole proprietorship 64 33.2 33.2 33.2
Partnership 50 25.9 25.9 59.1
Private ltd. Co 71 36.8 36.8 95.9
Public ltd Co. 6 3.1 3.1 99.0
Limited liability
partnership 2 1.0 1.0 100.0
Total 193 100.0 100.0
It’s evident from the table that the Limited Liability Partnership (LLP) is the least used format of
legal entity. The reason may be that it’s a new concept in India LLP Act was passed only in 2008.
And the process of developing rule and regulations with respect
respect to LLP is still in progress.
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INVESTMENT
According to Micro, Small, Medium, Enterprises (MSME) Act 2007 non manufacturing
enterprises are classified on the basis of investment in the business. Enterprises having less
than Rs 10 Lakh investment are micro enterprises. Enterprises having investment between 10
Lakhs to 2 crore are Small enterprises and those having investment between 2 crore to 5 crore
are termed as medium enterprises. Enterprises having more than 5 crore investment don’t
come under the MSME Act 2007. The Ministry of MSME has initiated various programs and
schemes to promote the MSME sector through its associated bodies like NSIC and
KVIC. Franchised businesses are not officially declared as the beneficiaries of these schemes,
although they deserve to be part of the MSME. The Indian Franchise Association is in process of
talks to the ministry in this regard. 92% of the franchisees according to our survey come under
the definition of MSME. The following table displays the statistics.
Investment/Planned Investment
Cumulative
Frequency Percent Valid Percent Percent
Valid Less
ess than 10 lakh 49 25.4 25.4 25.4
10 lakh to 2 crore 107 55.4 55.4 80.8
2 crore to 5 crore 22 11.4 11.4 92.2
More
ore than 5 crore 15 7.8 7.8 100.0
Total 193 100.0 100.0
Planned Investment
More than 5 crore
8% Less than 10 lakh
2 crore to 5 crore
11% 25%
10 Lakhs to 2 crore
56%
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Franchise Finance-An Overview
Descriptive Statistics
$Src_Knowledge Frequencies
Responses
Percent of
N Percent Cases
Source of src_1 105 23.0% 54.7%
Knowledge(a) src_2 98 21.5% 51.0%
src_3 131 28.7% 68.2%
src_4 122 26.8% 63.5%
Total 456 100.0% 237.5%
a Dichotomy group tabulated at value 1.
Source of Knowledge
Franchiseindia.co
m
23%
Others like
friends
27%
Franchisor’s Franchising
website or ad Magazine
material 21%
29%
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Franchise Finance-An Overview
Statistics
mean_score
N Valid 193
Missing 0
Mean 4.3460
Median 4.2222
Minimum 2.78
Maximum 6.33
GENDER DIFFERENCES
For testing the difference on the basis of gender we used T- Test. Significance value for
the Levene’s test is low (typically lower that 0.05) so we are using results for equal
variances not assumed. Low significance value for the t test (typically less than 0.05)
indicates that there is a significant difference between the two group means. We tested
the difference between the scores of male and female on the construct. There is
evidence of differences on the basis of gender. The null hypothesis can be rejected with
a very little margin as the significance value for equal variance not assumed is .04. Quite
interestingly females are scoring less on the BFQ. The following two tables show the
results of t test.
Group Statistics
Gender N Mean Std. Std. Error
Deviation Mean
Mean_score Male 136 4.4257 .94053 .08065
Female 57 4.1559 .76718 .10162
EDUCATIONAL DIFFERENCES
Less educated people are attributed with several behavioral attributes. This study adds
that they are more complaining about the bank finance as compared to more educated
people. We divided the respondents on the basis of education level into 6 categories.
The more is the difference in the education level the more is difference in the mean
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Franchise Finance-An Overview
score on the scale. Education level of franchisees affects greatly their level of difficulty
in arranging bank finance. Educated franchise owners faced less difficulty as compared
to less educated franchise owners. Tukey’s post hoc test groups doctoral and PG’s in one
group, PG and bachelor in another group and the remaining three categories under one
group. There exist evidence to reject null hypothesis. The following tables show the
results of ANOVA on the basis of qualifications of the respondents.
Descriptives
mean_score
95% Confidence Interval for
Mean
Std. Lower Upper
N Mean Deviation Std. Error Bound Bound Minimum Maximum
High School 14 5.5079 .26407 .07058 5.3555 5.6604 5.11 6.00
Senior
14 5.6111 .31653 .08460 5.4284 5.7939 5.11 6.33
secondary
Diploma 18 5.6852 .29087 .06856 5.5405 5.8298 5.11 6.33
Bachelor 67 4.1476 .65517 .08004 3.9878 4.3074 3.00 5.89
Post Graduate 68 3.8301 .50444 .06117 3.7080 3.9522 2.78 4.78
Doctoral 12 3.5370 .61012 .17613 3.1494 3.9247 2.78 4.78
Total 193 4.3460 .89937 .06474 4.2183 4.4737 2.78 6.33
ANOVA
mean_score
Sum of
Squares df Mean Square F Sig.
Between Groups 102.181 5 20.436 71.941 .000
Within Groups 53.121 187 .284
Total 155.302 192
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Homogeneous Subsets
N Subset for alpha = .05
Qualification
1 2 3
Tukey B(a,b) Doctoral 12 3.5370
Post Graduate 68 3.8301 3.8301
Bachelor 4.1476
High School 67
Senior 14 5.5079
secondary 14 5.6111
Diploma 18 5.6852
Means for groups in homogeneous subsets are displayed.
a Uses Harmonic Mean Sample Size = 19.269.
b The group sizes are unequal. The harmonic mean of the group sizes is used. Type I error levels are not
guaranteed.
AGE DIFFERENCES
We used One way ANOVA to test whether age play a role in determining the level of
difficulty or not? We found that there is no difference on the basis of age of the borrower. All
perceive the bank finance as same.
There is not any difference on the basis of age. Significance value of ANOVA test is 0.084,
which means that there is no significant difference on the basis of age of the franchisees on
the scale.
One Way ANOVA
mean_score
Sum of
Squares df Mean Square F Sig.
Between Groups 38.816 37 1.049 1.396 .084
Within Groups 116.487 155 .752
Total 155.302 192
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FACTOR ANALYSIS
Factor analysis shows that each question is loaded heavily except the question no. 6. Two
variables can explain the 64% of the results. This means variables are related to each other.
More compact scale could be developed.
Communalities
Initial Extraction
likert_1 1.000 .809
likert_2 1.000 .724
likert_3 1.000 .404
likert_4 1.000 .423
likert_5 1.000 .504
likert_6 1.000 .878
likert_7 1.000 .749
Likert_8 1.000 .638
likert_9 1.000 .625
Extraction Method: Principal Component Analysis.
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Franchise Finance-An Overview
Scree Plot
4
Eigenvalue
1 2 3 4 5 6 7 8 9
Component Number
Component
1 2
likert_1 .851 .290
likert_2 .799 .293
likert_3 .632 .061
likert_4 .649 .045
likert_5 .692 -.156
likert_6 -.200 .916
likert_7 .863 .067
Likert_8 .765 -.229
likert_9 .769 -.182
Extraction Method: Principal Component Analysis.
a 2 components extracted.
Age of business
Cumulative
Frequency Percent Valid Percent Percent
Valid less than 5 years 129 66.8 66.8 66.8
5 to 10 years 57 29.5 29.5 96.4
more than 10 years 7 3.6 3.6 100.0
Total 193 100.0 100.0
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Franchise Finance-An Overview
Age of Business
140
120
100
Axis Title
80
60
40
20
0
less than 5 5 to 10 years more than 10
years years
Series1 129 57 7
Cumulative
Frequency Percent Valid Percent Percent
Valid Very successful 159 82.4 82.4 82.4
Somewhat
omewhat successful 32 16.6 16.6 99.0
Somewhat
omewhat unsuccessful 2 1.0 1.0 100.0
Total 193 100.0 100.0
200
150
No.
100
50
0
Very Somewhat Somewhat
Successful Successful Unsuccessful
Series1 159 32 2
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Franchise Finance-An Overview
We also asked them to rank their expectation from the franchisor. The results are as
follows:
Most sought after element from the franchisor is marketing in respective areas. Regular
training and minimum guarantee follow it. The following table displays the ranking in
ascending order.
Descriptive Statistics
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Franchise Finance-An Overview
SUGGESTIONS
The Government and banking supervisors should take a holistic view of the
franchise Sector while considering franchise financing, taking into account the
risks faced by banks and the problems faced by franchisees
The authors found on discussions with several professionals working in
franchising sector that considering the growing importance of franchising, the
Indian Government should consider enacting a specific statute for franchise
agreements.
According to our survey most of the franchisees come under the micro, small,
medium enterprises, so they should be recognized as eligible beneficiaries of
government schemes targeting the welfare and growth of MSME.
Angel funds and venture funds are least exploited sources of finance by the
franchisees. Investment in a totally new venture is riskier than in a franchise
business. Franchisees can consider this option of raising funds
82% of the franchisees consider that there business is very successful. This is an
indication of good performance of the franchised units. Over all franchisees are
satisfied with their business
Franchisees of brands requiring huge investment can use OTCEI for raising
funds.
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Franchise Finance-An Overview
APPENDIX
• Retail
• Education
• Gems & Jewellery
• Food & Beverages
• Apparel
• Financial/Business Services
• Tours & Travels
• Any other
3. Following are the various Heads under which you will invest the fund. Rank them according
to your need
a) Running cost
b) Start up cost
c) Inventory
d) Marketing & Advertising
e) Expansion
4. Which financial institution/s you are planning to deal with as source of financing?( You
can tick more than one)
• Borrowing from banks
• Borrowing from foreign banks
• Venture capitalist
• Angle Funds
• Family& Friends
• Own Funds/Retained Earnings
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Franchise Finance-An Overview
• Leasing company
• Credit purchases
• Advance receipts from customers
• Initial Public Offer (IPO)
• Over the counter exchange of India(OTCEI)
• Small industries development bank of India (SIDBI)
7. Please indicate to what extent you agree or you disagree with the following statements
( 1 star for strongly disagree 2 for disagree 3 for undecided 4 for agree and 5 for
strongly agree)
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Franchise Finance-An Overview
collateral
8. Rank the factors you take into consideration while raising the fund
• Convenience
• Cost of Capital
• Size of fund
9. Following are the various supports which you may receive from the franchisor. Please Rank
them according their importance to you:
o Longer credit line
o Regular training
o Advice and guidance regarding finance
o Finance
o Relaxation in payment of royalty
o Marketing in respective area
o Free consultancy
o Minimum Guarantee
Very Successful
Somewhat Successful
Somewhat unsuccessful
Sole proprietorship
Partnership firm
Private ltd. Co.
Public ltd Co.
Limited liability partnership
OTHER DETAILS
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Franchise Finance-An Overview
4. City
5. State
6. Qualification
o High School
o Senior Secondary
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Franchise Finance-An Overview
BIBLIOGRAPHY:
Andrew J. Sherman, Franchising & Licensing: Two Powerful Ways to Grow Your Business in Any
Economy AMACOM; Third Edition (January 2, 2004) ISBN-13: 978-0814472224
Erwin J. Keup, Franchise Bible, Entrepreneur Press; 6 edition (July 6, 2007) ISBN-13: 978-
1599180984
Julie Bennett, Cheryl R. Babcock, and John Hamburge, Franchise Times Guide to Selecting,
Buying & Owning a Franchise, Sterling (February 5, 2008) ISBN-13: 978-1402743931
Robert Hayes, The Franchise Handbook: A Complete Guide to All Aspects of Buying, Selling or
Investing in a Franchise, Atlantic Publishing Company (January 1, 2006) ISBN-13: 978-
0910627542
Elisabetta Gualandri (Editor), Valeria Venturelli, Bridging the Equity Gap for Innovative SMEs
(Studies in Banking and Financial Instituitions), Palgrave Macmillan (December 22, 2009) ISBN-
13: 978-0230205055
WEBSITES
http://franchise.org
http://worldbank.org
http://franchiseindia.org
http://rbi.org.in
http://frandata.com
USEFUL LINKS:
http://www.iob.in/loanappn.xls.aspx
http://www.allahabadbank.com/policy-msme.asp
http://syndicatebank.in/adminui/ssi_meform.aspx
http://www.hdfcbank.com/personal/loans/working_capital_finance/working_capital.htm
http://www.hdfcbank.com/personal/loans/construction_equipment_finance/construction.htm
http://www.canarabank.com/english/scripts/applications.aspx
http://india.smetoolkit.org/india/en/content/en/443/Sample-Bank-Loan-Application-Review-
Forms
http://www.sbhyd.com/forms.asp
http://www.bankofbaroda.com/forms.asp
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