Are Franchisees Sold A Bill Of Goods? Vegas Business Owners Lament Corporate Practices

Bryan Horwath Las Vegas Sun

WWR Article Summary (tl;dr) Franchising is the practice of distributing goods or services through a satellite of an established brand in exchange for royalties and, often, a substantial initial fee. As Bryan Horwarth reports, all franchise operations are NOT created equal. 

Las Vegas

Mark Shor met with a business consultant in 2015 who represented a franchise he was exploring to open in Henderson.

Shor, a retired information technology professional from New York, was shown a spreadsheet detailing how the Experimax chain store — which services and resells Apple products — would be profitable with $600,000 in sales during its first year.

He was sold.

"I started getting emails about opening franchises," Shor said. "I opened one about Experimax and I thought, 'Wow, this is right up my alley.'"

Shor opened a store with his son in 2016 in a strip mall near Eastern Avenue and West Horizon Ridge Parkway.

That's after he paid a franchise fee of close to $50,000, secured a $150,000 Small Business Administration loan, and pulled together assorted other monies, including funds from retirement accounts, for startup funds.

Six years later, however, Shor said the business venture was a con, one that could end up costing him more than $500,000.

Shor knows he entered into a business agreement that had risks, but he said he was also the victim of deceptive practices. He knew he could be in trouble almost instantly — instead of the $600,000 in sales he was told to expect, the store did about $180,000, he said. In 2018, the store had its best-performing year at $300,000, or half of what he anticipated.

Today, the future of the store is uncertain with Shor taking customers by appointment only. During a recent week, he had just one appointment. Pandemic business closures only compounded the problem.

"I did everything they said to do," Shor said. "One of the things I learned back in school, taking business courses, was that the buyer needs to beware. I understand that, but they did their best to make sure I was blinded."

Franchising is the practice of distributing goods or services through a satellite of an established brand in exchange for royalties and, often, a substantial initial fee. In February of last year, according to the International Franchise Association, more than 8.6 million people worked for close to 800,000 franchised businesses in the U.S.

According to data from the Small Business Association, the total number of loans guaranteed by the association to franchisees has increased over 20% since 2017.

But there's growing concern that some franchisees aren't being told the whole truth before putting up large sums of money.

According to a new report from the office of U.S. Sen. Catherine Cortez Masto, D-Nev., Shor hasn't been the only person to experience issues with Experimax.

"A number of these franchise owners — including six who filed complaints with the Federal Trade Commission — state that the estimated revenue projections provided by Experimax specifically to obtain SBA loans were inflated and that they never earned the revenue reported as typical," the report said. "Some franchise owners say they were coached on how to 'fudge numbers' to obtain an SBA guaranteed loan."

As of the end of 2019, 33% of the 90 SBA loans made to Experimax franchisees had failed and another eight of the loans were behind in their payments headed toward default, the report said.

"A number of these franchisees feel the estimated revenue provided by (Experimax) was inaccurate and that they have never earned the revenue reported as typical," Cortez Masto said in a 2019 letter to Chris Pilkerton, then the acting administrator of the SBA, in which she raised several questions about questionable practices by several franchisors.

The report is one of the main building blocks for the recently introduced SBA Franchise Loan Transparency Act.

The act — co-sponsored by a handful of Democratic senators, including Cortez Masto, Tammy Baldwin of Wisconsin and Elizabeth Warren of Massachusetts — would require that a "prospective franchise owner receive accurate historical revenue and store closure information from the franchise corporation" before the SBA approves any loan.

In an emailed statement, Ray Titus, CEO of Experimax, said the company was "in good standing with the franchise community," adding that its "primary goal is seeing franchisees succeed in their businesses." He said obtaining an SBA loan has long been a popular choice for entrepreneurs to finance business opportunities, including franchise opportunities.

"The Small Business Administration independently evaluates the qualifications of the borrower to determine their eligibility," Titus said in the statement. "We provide all potential franchisees with a franchise disclosure document that is in full compliance with the FTC and accurately represents the franchise opportunity."

In a separate emailed message, Paul Bosley, the consultant with Business Finance Depot who presented revenue projections to Shor before buying into Experimax, said it was his company's practice to "encourage clients to customize their financial projections based upon their market, their desired income and the terms they negotiate with their landlord."

Cortez Masto said she began to think about possible legislation in 2019 after a Senate Committee on Banking, Housing and Urban Affairs meeting where a witness described troubling experiences as a franchisee. She has talked to dozens of franchisees in Nevada who have run into franchising issues.

"I'm alarmed by the stories of these small-business owners losing so much at the hands of deceptive and misleading corporations and lenders," Cortez Masto said.

"Running a franchise can be a great opportunity, but we need to make sure there are protections in place so that all franchise owners are treated fairly and have the information and support they need to succeed."

Along with Experimax, the report called out nine other franchise brands — 7-Eleven, BurgerIM, Complete Nutrition, Dickey's Barbecue Pit, Subway, Quiznos, Curves, Huntington Learning Centers and Massage Envy — for what it described as deceptive and unfair practices.

And it doesn't appear to be only at the beginning of the franchisee/corporation relationship that questionable business practices are taking place.

7-Eleven's corporate office, according to the report, has been known to "pressure franchise owners to sign unfair agreements that allow the company to exert pervasive control," both financially and operationally.

Owners are sometimes asked to pay as much as 59% of all gross profits directly to the corporation.

As part of a 2019 contract between the corporation and store owners, some franchisees were required to pay a "renewal fee" of up to $50,000, and 100% of liability insurance responsibility for property and equipment.

Policies and requirements like that make it hard to earn a living, said Kevin Lucero, who owns a 7-Eleven store in Las Vegas.

"I read through the senator's report and it's accurate," said Lucero, who is also president of a Las Vegas 7-Eleven franchisee advocacy coalition.

The organization, Lucero said, represents the owners of about 160 stores in the Las Vegas Valley, which is home to over 200 7-Eleven locations.

Messages left for representatives of 7-Eleven were not returned.

"The 2019 contract is based on a tier scale, so the more we make, the more gross profit they can take," Lucero said. "We're absorbing more expenses every year. I'm glad that there's a light being shined now on some of these practices. People often invest their entire life savings into these corporations for these franchises. Everything needs to be transparent."

After becoming a 7-Eleven franchisee in 2003, Lucero said he had come to believe that its corporate leadership "doesn't have much regard" for the financial interests of store owners.

"There are a lot of issues, including gasoline commissions, which have been significantly reduced, and credit card fees," Lucero said. "In 2003, we could make up to 25% of the gross profit on gasoline. Today, we only make 1.5 cents (per gallon), which is sometimes less than 5% of the gross profit before expenses. It's much harder to be profitable today."

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