Franchise brands – from pizzas to plumbing and pets

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The remarkable thing about the franchise industry is that in theory it shouldn’t work, but in practice it does. For example, there are very few things that cannot be copied in the restaurant industry: there is virtually no legal protection against a competitor mimicking designs, menus and themes. Yet Subway, McDonald’s, 7-Eleven, Dunkin’ Donuts and Domino’s Pizza are obviously successful franchises.

The way franchising works is that the franchisor licenses the brand and intellectual property to the franchisee, who operates as a small business. The franchisee operates using the back-office systems that the franchisor has put in place and benefits from support in the form of training and tutoring.

The question is whether the benefits accrue to the franchisee, who works hard to handle the day-to-day issues of running a small business, or to the franchisor, who developed the concept and earns a hefty fee while putting little capital into it. risk.

Some franchisors are reporting strong revenue growth, while experiencing “churn” – recruiting new franchisees to replace disillusioned ones who have failed to make a living. This model eventually becomes unsustainable as word spreads that the economy is biased against franchisees.

But when all is well, you have a Domino’s Pizza. Shares of Domino’s Pizza Group (DPG), Britain’s main franchise, have risen 44 times over the past 20 years. The American founding company, Domino’s Pizza, has grown 28 times since its IPO in 2004.

A different franchise

Although Domino’s is hugely successful, the American or British pizzeria is unlikely to repeat this type of share price performance over the next 20 years. Instead, DPG’s former management team (Stephen Hemsley, Nigel Wray, Colin Rees, Andrew Mallows, Robin Auld, and Rob Bellhouse) left and set out to repeat their success with the franchise.

Franchised brands (Objective: FRAN) was founded by Stephen Hemsley and Nigel Wray and listed on Aim in 2016 at 40p per share. Since 2016, revenues have more than doubled from £21m to £58m in 2021.

Franchise Brands’ strategy has been to acquire a variety of franchise businesses and then put them on the same common platform for administration, marketing and IT functions. He focused on less glamorous areas than pizzerias. Two commercial plumbing businesses together account for the bulk of the group’s revenue: Metro Rod accounted for 63% of 2021 revenue and Willow Pumps accounted for 26% of revenue.

Metro Rod, which Franchise Brands bought from a private equity seller in 2017 for £28million, rose 23% last year. The division has resisted the lockdown as it focuses on drain cleaning and maintenance. Around 90% of Metro Rod’s £28m revenue comes from management service fees, paid to it by franchisees (the calculation is 18.6% of franchisee turnover).

Willow Pumps is about half the size of Metro Rod and has been less durable. Willow installs pump stations, which are typically long-term projects often for the homebuilding industry, where labor shortages and rising commodity prices have delayed construction projects.

recovering from the pandemic

Other Franchise Brands businesses include consumer services, such as oven cleaning (Ovenclean), car chip repair (ChipsAway) and dog sitting (Barking Mad). These represented 11% of the group’s turnover last year. For these businesses, Franchise Brands charges franchisees an upfront fee, rather than a percentage of franchisee earnings.

Pandemic restrictions have meant that all of these brands have struggled. Lockouts meant less driving, so drivers weren’t chipping their car’s paint, which affected ChipsAway. Fewer people were going on holiday abroad and needed someone to look after their dog less, which affected Barking Mad.

Management made the decision to mitigate the impact on franchisees, so fees were reduced and other fees suspended. This meant a short-term impact on revenue, but hopefully stronger relationships with franchisees in the future.

Businesses are now recovering. Factor in the timely acquisition of another franchise that has been hurt by lockdowns (see below) and broker forecasts that revenues could double by 2023 seem achievable.

More room for rapid growth

In February, Franchise Brands management announced an agreement to buy Filta, another franchise business. Filta recycles used cooking grease from commercial restaurants. Filta has struggled during the pandemic as commercial kitchens have been affected by various lockdowns.

The all-equity offering values ​​Filta at £50m, translating to an expected price-to-earnings (p/e) ratio of 20x expected 2022 earnings. Franchise Brands’ own shares were trading at nearly 30 times expected earnings and a price-to-sales ratio of 2.8. This premium rating means the acquirer can use their own paper as valuable acquisition currency. The deal is due to close on May 6, but Franchise Brands has already announced that it has received over 90% acceptance, so the offer will go through.

Franchise Brands also hopes to benefit from “the great resignation” as wage slaves re-evaluate their lives and decide to quit their jobs in favor of more entrepreneurial endeavors. Allenby Capital, the firm’s broker, expects revenues to grow from £58m in 2021 to £110m in 2023, producing a profit of 8.4p in 2023. This includes the increase in acquisition of Filta. That puts the stock on an expected p/e of just under 20. That may seem expensive in this market, but it has a good growth record since listing in 2016 and management that seems to know how to make the franchise work. .

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