5 Things That Make A Franchise Successful

Judging from the performance of Potbelly Corporation (NASDAQ:PBPB) IPO on Friday, franchise remains a popular investment concept in Wall Street—the company operates and franchises Sandwich Works shops in the US.

But as is the case with other investment, not every franchise is successful. And even among successful franchise chains, some fare better than others. McDonald’s (NYSE:MCD) and Yum Brands (NYSE:YUM), for instance, have fared much better (in terms of equity performance) than Wendy’s (NASDAQ:WEN).

What Makes the Difference? These Five Things

1.The Right Business Model

The way the chain enhances customer value vis-à-vis the competition. Franchise pioneer McDonald’s, for instance, delivers customers a quick, convenient and inexpensive meal, vis-à-vis traditional restaurants. KFC offers the same meal attributes but with a different menu—focusing on chicken rather than hamburgers—though both chains broadened their menu portfolio overtime, adjusting it to the local tastes.

Dunkin Donuts offers coffee and donuts (and in recent years ice-cream) to go at convenient locations.

2. Scale

home-improvement-franchise-paint

Cost savings associated with a larger production scale of a standardized menu–the bigger the production scale, the lower the cost per menu. With 33,510 units around the world, for instance, McDonald’s has a scale advantage over Wendy’s, which has 9,792 stores.

Company	Rank	Worldwide Sales ($M)	Domestic Units	International Units	Total TOT +0.35% Units
McDonald’s	1	85,941	14,098	19,412	33,510
KFC (Yum Brands)	3	21,300	4,780	12,621	17,401
Pot Belly	—	—	286	12	298
Pizza Hut (Yum Brands)	6	12,626	7,600	6,147	13,747
Wendy’s	18	6,004	6,772	3,020	9,792
Panera Bread	33	3,421	1,538	3	1,541
Dunkin’ Donuts (Dunkin Brands)	18	6,004	6,792	3,020	9,792

The scale advantage is reflected in the operating margins of the two companies. McDonald’s enjoys a hefty 30.12 percent operating margin, versus 7.38 percent of Wendy’s.

Company	OperatingMargins (%)	Return on Assets (%)	Qtrly Revenue Growth (yoy)	Qtrly Earnings Growth (yoy)
McDonald’s	30.13	15.42	0.90	0.30
Berger King	31.95	6.17	-42.50	150.3
Wendy’s	7.38	2.72	1.80	-82.7
Dunkin Brands	39.23	5.22	6.20	-8.30
Panera Bread	8.22	15.64	12.70	16.80
Yum Brands	15.05	13.80	-8.30	-15.10

Source: Yahoo YHOO +0%.Finance.com

3. Scope

The cost savings associated with the offering for sale of different products by a single corporation rather than by different corporations. McDonald’s and Panera Bread, for instance, offer a variety of products for sale (McDonald’s has added Mccaffe in many locations), vis-a-vis Wendy’s and Dunkin Brands. That can explain the higher return on assets.

4. Location

The benefits associated with occupying primary location sites for franchise stores. In fact, location can support and re-enforce all these advantages. As an older franchise McDonald’s, for instance, had the opportunity to pick best locations. This further explains both the hefty operating margins and the high return on assets.

5. Market Saturation

The degree of market penetration. The lower the degree of penetration, the higher the room for the company to grow by opening new stores. Potbelly and Panera Bread, for instance, have more room to grow, vis-à-vis McDonald’s and Yum Brands.

The bottom line: Successful franchise chains begin with the right business model, and proceed with the amassing of the right scale and scope in the right locations, until they reach optimum market saturation.

Read the original article here.