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In the world of franchise finance, it is always wise to reflect on what has happened over the previous year and see how the past can create opportunities for the coming year. 2006 was a year filled with significant activity in the franchise community : (i) an unprecedented number of new franchise concepts were created ; (ii) an impressive number of franchisors were sold ; and (iii) a large number of franchisee to franchisee transactions were closed. Lets look at what happened with franchise financing in 2006. These are not specific transactions but broad topics that can be reflected on and used as a resource in your 2007 planning process
.New Senior Debt.
A number of new senior debt lenders came into the franchise lending market in 2006. Some of these were major players, such as insurance companies (e.g., AIG) and large financial institutions (e.g., Merrill Lynch). Additionally, there were a number of niche players that continued to expand (e.g., Pinnacle Commercial Financial). In general, there seems to be more competition than ever. The large players, who have been in this space for a long time, seem to still have an appetite for the franchise lending field and will continue to provide funding.
Additionally, it appears that some of the traditional lending criteria in the franchise space (such as size and national penetration of the concept) have been lessened, providing the opportunity for the small franchisee or franchisor to access some of the larger, more traditional senior lenders.
Sale/leaseback.
The sale/leaseback market continues to be robust and available. While I thought the like kind exchange market would slow down, it seems to maintain a sustained pace. Additionally, the private market remains strong (except for possibly in southern Florida and California). There are still a number of smaller sale/leaseback companies with available funds. GE?s acquisition of Trustreet this past year created a huge sale/leaseback group that will continue to serve the franchise space using significant capital resources.
Hedge Funds.
Capitalizing on the fairly low cost of funds, there were a number of large franchise transactions in 2006 that involved hedge funds. We will continue to see hedge funds in the franchise space as long as they have available funds and franchise businesses can utilize leveraged transactions.
SPACS.
Special Purpose Acquisition Companies (SPACs) are a vehicle that has been around for a few years. SPACs are public entities that are funded to make targeted acquisitions. We saw this past year the entry of several SPACs into the franchise space and these entities acquired both franchisors and other franchise assets. SPACs are unique vehicles in that the funding is created prior to the acquisition and available to the SPAC so it can move quickly and take advantage of opportunities. I believe SPACs will continue to be a source of capital for the franchise space in 2007. Private Placement Private placements continue to be available. We particularly saw this in 2006 in the restaurant space where a number of private placements were completed with what amounts to extremely strong multiples. These private placements can be as small as $1,000,000 or $2,000,000 or can be as much as $10,000,000 to $15,000,000. The key point is that there are a number of institutions, wealthy individuals and home offices that are willing to look at private placements for emerging, growing franchise businesses. Multiples. In general, the multiples again stayed strong for the sale of franchise businesses in 2006. We saw some erosion in the casual dining area (particularly in the franchisee side). QSR multiples were equal to or greater than they were in 2005, and it appears that multiples for QSR will still stay strong through 2007. Further, service type and lifestyle franchise companies showed a continued increase in multiples. There were some overpriced transactions in 2006, which anticipates a continued rise in multiples that did not materialize. In many cases these transactions were pulled off the selling market with the idea that there was an overestimation of the selling price. In summary, most multiples will remain at historic highs in 2007 but will not continue to grow; in fact, there may be a slight downturn in the family and casual dining sectors and high capital intensive franchisees. Continued Use of Private Equity Funds. The line between debt and equity is blurred in today ?s marketplace.Private Equity Funds remain as major players, providing money for everything from large transactions (such as the Dunkin Donut transaction) to smaller transactions (involving areas such as health care type franchises (e.g., Urgent Care)). Private Equity Funds see the franchise space as a viable investment option ; and thus, more and more Private Equity Groups will continue to enter the franchise space as more money is raised in these funds.
Public Debt. Public debt continues to be fashionable and accessible to the franchise community if a franchisee or franchisor grows to a fairly large size. This type of scenario was seen with National Pizza Company.
Royalty Securitization.
In reviewing the marketplace and speaking at conferences this past year, I have noted a renewed interest in royalty securitization. Royalty securitization is a viable source of financing for franchisors. The amazing thing is that there is more and more creativity in this type of financing, including packaging several franchisors together to get a larger funding.
Disposition of Distressed Sites.
Closed locations plague the franchise community. What is a franchise business owner to do with leases or under-utilized real estate ? There are a number of companies who look at distressed sites as a business opportunity and are willing to (i) joint venture with the franchisee/franchisor ; (ii) acquire the closed locations; or (iii) come up with creative solutions for the distressed real estate. We have seen this happen with large and small franchisees. Certain companies (e.g., DJM Asset Management) have become major sources of liquidity for the franchise community to acquire or sell troubled or under-utilized sites.
Franchisor Assistance.
With the availability of funding for franchise businesses (particularly public franchise companies), we continue to see a renewed interest by the franchisor in helping their franchisees with financing . Franchisors want to upgrade their systems and realize that in order to facilitate these upgrades, they need to provide financing to their franchisees (particularly to the smaller franchisees). With the availability of creative types of senior debt and mezzanine financing, the franchisor is able to provide franchisees financial assistance. 2007 has a bright outlook. Senior debt will not have the same interest rates as we experienced in early 2006. Multiples obtained in sale transactions will be flat but still at historic highs. We will continue to see an influx of new funds while continuing the process of blurring the line between debt, equity and mezzanine financing.
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