How Much Equity Will I Need to Invest in My New Franchise Business?
A new franchisee can be funded by any combination of 3 methods: Self-Funding, Equity Financing and/or Debt Financing. In all cases, a new business owner will have to invest some of their own money in the new franchise venture because 100% financing is not available.
The first step in creating your financing plan for your new business is to quantify how much money you will need from inception when you pay your franchise fee until when the business is open and cash flowing so that it is profitable and able to pay the owners a salary. The typical breakdown of funds needed includes the franchise fee, the organizational costs to establish the corporation, the landlord deposit, location buildout expense, construction overrun contingency funds, equipment costs and working capital until the business is profitable. Once you have quantified the total $ amount of the money needed, the maximum a typical new business owner will be required to have in liquid assets to invest is thirty percent (30%),
Liquid assets include money in your checking and savings accounts, marketable securities, retirement savings in an IRA or a 401K from a previous employer and any money already invested to launch the business which is typically the franchise fee. Please be aware that money borrowed from a home equity loan and a 401K from a current employer is NOT considered equity because the loan needs to be repaid with one exception. If the new business owners are a married couple and one person in the family is planning to keep their job so they can repay the loan from this income, the loan may be considered equity in the project.
Self-financing 100% of a business is also a possibility by investing your savings and/or liquidating or borrowing against your marketable securities. A common method of self-funding is to use your retirement funds invested an IRA or a 401K from a previous employer. This is referred to as a R.O.B.S. (Rollover our Business Start-ups). There will be a future article explaining the ROBS program which was launched by the Internal Revenue Service as an alternative for self-funding a new business. Another common method for self-financing is to secure a home equity line of credit which involves borrowing against the equity in real estate owned by the partners.