Interest in franchise opportunities is on the rise in the United States. This is attributed to a shift in American priorities, which triggered the much talked about “Great Resignation.” The opportunity to take charge of one’s career while creating a business legacy to pass on to younger family members has become increasingly attractive to Americans. For franchisors and private equity investors seeking to ride the current wave of franchise interest, partnering with a due diligence and background screening provider affords confidence in two important areas vital for franchise success, long term viability, and risk mitigation. Failure to properly vet franchisee applicants carries significant risks which can harm a company’s reputation, legal, and financial standing.
Franchisors and franchise-focused private equity (PE) firms should closely examine three risk factors in any due diligence exercise to identify long term viability obstacles posed by franchisee applicants. These factors are examining a candidate’s financial health, reputation, and qualifications in order to provide valuable insight into their ability to align with franchise specific regulations and strategic planning. Just as potential franchisees are entitled to a copy of a Franchise Disclosure Document (FDD) to provide peace of mind prior to their purchase, investigative due diligence can expose significant risks or allay concerns that franchisors and their PE investors may have about franchisee applicants.
Options for examining a franchisee applicant’s financial viability include targeted research concerning past bankruptcies, both personal and corporate, as well as judgements and liens. These searches provide insight into the applicant’s ability to fulfill their contractual obligations. Added assurance can be obtained by incorporating credit checks. Aside from providing a picture of the applicant’s financial standing, credit checks have the advantage of illuminating an individual’s spending habits.
A leading selling point for franchise businesses is maintaining a reputable name that is attractive to both consumers and investors. An applicant’s reputational picture can be painted through the use of open-source intelligence (OSINT) including analysis of public records and media. Reputational intelligence is beneficial since some franchises insist that any franchisee share their core values. Before entering into a franchisee arrangement, it should be clear that the applicant’s values align with that of the franchise.
In regards to franchise due diligence, social media screening has proven to be advantageous in today’s business environment. By examining a candidate’s social media activity, you can reveal whether an applicant has a tendency to impulsively and publicly respond to hot button socio-political issues with the potential to alienate valued customers. Consider a 2021 incident where a PJ's Coffee franchisee in New Orleans forfeited a location after posting a vulgar response to a tweet by NBA star LeBron James.
Due to the low occurrence of Foreign Corrupt Practices Act (FCPA) cases as it relates to franchisee applicants, FCPA due diligence in this sector is often overlooked. However, many of the same FCPA risk factors keeping chief compliance officers of multinational conglomerates awake at night also exist for franchises, which are still responsible for complying with industry regulations when conducting business in high risk jurisdictions abroad. To address risk mitigation, bolstering standard risk checks with research targeting franchise specific FCPA risk issues is advisable. Specific attention should be paid to any instances or allegations of bribery such as attempts to bypass health and safety examinations or bribes to skirt labor laws by hiring underage, unlicensed, or undocumented labor.
Verification of a franchisee applicant’s employment, education, and professional certifications offers dual benefits to franchisors and private equity investors. First, verifications aid in gauging an applicant’s honesty; significant discrepancies between self-reported and verified information can guide a follow-up conversation by the franchisor and investors. Secondly, the verification process provides an avenue for uncovering pertinent information including collegiate disciplinary infractions and violations of professional standards. Such findings are especially beneficial for franchising purposes. With franchisee applicants often exploring new industries, deeply ingrained personal and professional habits are likely to follow. Accordingly, information gleaned from the verification process provides valuable insight into an applicant’s ability to acclimate to the challenges of their new industry.
Proceeding with Confidence
Ultimately, completion of thorough franchisee applicant due diligence benefits all parties. By minimizing the chance of informational surprises pertaining to an applicant’s financial health, public image, and qualifications, franchisors and their private equity funders are able to confidently move the deal forward. Conversely, the due diligence process demonstrates to franchisee applicants that they are collaborating with professionals focused on long-term growth, as opposed to turning a quick profit.
For franchises seeking to vet franchisee applicants or private equity firms investing in franchises, partnering with a seasoned diligence provider lays the foundation for financial success. Given the cross-border popularity of franchises - international franchises expanding into the US and American franchises opening abroad - selecting a due diligence provider with global reach and proven international investigative experience is essential. Connect with Vcheck Global to explore due diligence options for your franchisee reputational risk mitigation program.
Seth Harlan is Senior Associate, Market & Regulatory Affairs at Vcheck Global.