Franchisees Represent Untapped Loan Market

CU360
March 18, 2008 | COMMENTS

The number of franchises in the U.S. has risen by about 65% in only the past five years, and this segment of the small-business landscape represents a fertile area for loan growth that is largely untapped. So far, only a handful of banks are seeking out these business owners, according to USBanker.

The number of franchises in the U.S. has grown from about 1,500 in 2003 to 2,500 today, according to the International Franchise Association (IFA). Franchising is experiencing 10% to 12% annual growth. The franchising sector generates 18 million jobs in the U.S. alone and yields $1.53 trillion in economic output, according to a recent PricewaterhouseCoopers study.

While roughly 40% of the franchisors offer some independent loans to their franchisees, those funds usually don't close the financing gap. To date, the bulk of the financing business is dominated by non-bank lenders like CIT or GE Money, according to IFA.

Among banks, franchisee loans are often wrapped into their small-business loan portfolio. As such, they comprise only about 2% of the total, estimates Paul Merski, an economist at the Independent Community Bankers of America. He agrees these loans are a potentially large growth area for financial institutions, especially if institutions develop the right standards and extend them to the correct people.

Franchisee loans are attractive for lenders because of the nature of the franchising business. The franchise holder already has a leg up on the traditional small business, in terms of creditworthiness. The franchise usually receives automatic name recognition and benefits from the franchisor's ongoing advertising campaigns, as well as access to occasional management-training classes. These benefits make it easier for lenders to qualify and grant business loans to owners who might not have previous business experience.

Franchise loans can also offer diversity to lenders. There are 18 different industries tracked by the international association. Fast food is by far the biggest industry among franchisors, accounting for nearly one-third of all franchises. But maintenance (10%), retail (9%), and general service (10%) also account for a sizeable portion of the mix, according to IFA statistics. Within those 18 industries, there are 230 sectors. The fastest-growing sectors were window-cleaning and handyman services, which increased 260% and 247%, respectively, between 2003 and 2006.

Some smaller regional banks extend lines of credit to specialty-finance companies, which then make loans to franchisees. One such firm, Franchise Finance, typically offers loans in the $200,000 to $1 million range.