No stampede of new franchisees under state-based legislation

Several of the submissions to the Western Australian supplementary franchise inquiry, which support the introduction of franchise legislation, propose that increased regulation will result in increased investor demand by potential franchisees.

Out of the 114 submissions lodged with the inquiry, just 15 support the proposal to legislate franchising in WA, and of these less than a handful promote the idea that legislation will result in a surge of interest in franchising.

The basic premise of the idea is that potential franchisees will be so impressed by the regulatory fist rammed down the sector’s throat that they will flock to franchising in greater numbers than ever before.

The difficulty with this idea is that its logic is flawed and demonstrates an ignorance of what attracts people to franchising in the first place.

People are drawn to franchising and small business for a variety of reasons but regulation is not one of them.

Creating a new lifestyle is the largest driver toward investing in a franchise, followed by the support of the franchisor, and taking charge of one’s own life are the main motivators for potential franchisees.

Despite ongoing promotion by the Australian Competition and Consumer Commission (ACCC) and others, many potential franchisees are largely unaware of the existence of the Franchising Code of Conduct (which regulates the sector nationally) until they are given a copy as required by law when they receive their disclosure document and franchise agreement from the franchisor.

It is misleading to suggest that the creation of additional legislation in WA will trigger a stampede of potential franchisees when historically franchisees have been ignorant of even the existing Code up until the point where they have already decided to buy a franchise.

Furthermore, the concept that increased regulation will positively influence investor sentiment demonstrates a failure to understand not just what motivates people to invest in a franchise, but also the economic landscape in which that investment is made.

Even before the proposal to regulate franchising in WA was put forward by Liberal member Peter Abetz in October last year, franchisors reported increasing difficulty in recruiting franchisees in WA.

One of the reasons provided was a lack of available sites, but overwhelmingly, a lack of available franchisee candidates was the problem. Now before the legislation advocates leap to their feet and claim justification, think about the current state of the WA economy and its unemployment levels.

The mining sector in WA is driving stronger economic growth there than in any other state, including Queensland which is also considered to be a mining-reliant state. Consequently, the demand for workers in WA is such that local unemployment is approaching historically low levels, and some workers on fly-in fly-out mining contracts are commuting from as far away as Brisbane.

With such low levels of unemployment comes upward pressure on wages and salaries.

Consequently, business owners in WA find themselves in a bidding war against the mining industry to hire staff. The mining industry today offers such attractive wage and salary packages it is creating a new class of blue-collar millionaires.

Against this backdrop, investing in a franchise (or any small business for that matter) compared with the income that can be achieved by working in the mines without any outlay of capital whatsoever is for many a very simple decision – the mines win.

So unless the WA government plans to shut down the mining sector, there is unlikely to be a stampede toward franchising in a more highly regulated environment.

Furthermore, for those who do pursue the idea of starting their own business – franchised or otherwise – the next major obstacle to overcome is accessing the investment capital required.

Since the Global Financial Crisis (GFC), banks have become understandably more cautious in their lending outlook, with the result that accessing money to invest in a business is not quite as easy as it was before the GFC.

Combine this with a flattening property market where home owners who bought in at the peak have too little equity to borrow against, the appeal of earning big dollars in the mines mentioned above, and franchising in WA is already struggling without the further impost of regulation.

In addition to shutting down the mining industry, the WA government would also need to offer low interest business loans to potential franchisees to truly stimulate the growth of franchising in that state.

Of course, it is absurd to think that any government would shut down something as significant as the mining sector (as former Prime Minister Kevin Rudd learned the hard way in promoting the idea of a resources rent tax), and while not an absurd idea, it is also unlikely that the WA government will be offering low-interest business loans anytime soon.

An understanding of the two fundamental preconditions for small business investment, being the opportunity cost of applying one’s labour somewhere else (eg. the mines), and access to finance is lost on the proponents of state legislation who mistakenly believe that more rules will attract more investors.

If anything, more rules will make absolutely no difference to the number of investors, but will instead substantially reduce the number of investment opportunities available as franchisors seek to minimise their business risks by deciding against entering into, or withdrawing from the WA market.

Of the 86% of submissions which oppose the regulation of franchising in WA, a number were lodged by franchise brands which stated that they would avoid or withdraw from WA if the proposed regulation is adopted, resulting in a loss of investment in the state, reduced employment opportunities, and reduced choices for WA consumers.

Finally, nowhere in the proposed legislation or its background information is there any mention of pre-purchase education for potential franchisees. This is counter-intuitive. Creating legislation is one thing, but then failing to consider in that legislation any means of communicating to the very stakeholders the legislation is supposedly designed to protect would appear to defeat the purpose altogether.

The argument that franchise legislation will miraculously create franchisee investors is nonsense. So too is the idea of legislation without education.

Jason Gehrke is the director of the Franchise Advisory Centre and has been involved in franchising for nearly 20 years at franchisee, franchisor and advisor level. He advises both potential  and existing franchisors and franchisees, and conducts franchise education programs throughout Australia, and publishes Franchise News & Events, a fortnightly email news bulletin on franchising issues and trends.