Real estate investing vs Franchise investing

8 Replies

With a fairly low income (43k) I have been searching for investments that will increase my income so I can then snowball the larger amount of income into more investment's ultimately creating long term wealth. 

After some research in Real estate I noticed my area is not a huge application area. With that said I know I there are tons of deals that will cash flow nice. I like Real estate because it is a tangible asset that keeps paying and provides you with tax benefits. 

I have also been browsing on Bizbuysell.com and I have seen some local franchises for sale that seem to provide great cashflow/Net profit. For example there is a semi absentee subway that makes 55k per year * Cashflow not gross* for 140k with financing.  Also a couple dry cleaning business's with great margin. 

My question is will it make more sense to use my investment capital to purchase something that cash flows like a business and then roll that into investment property's? Or am I missing something here all together?

Honestly, @Chris Lynch  there are positive and negative aspects to each idea.  A lot of the issue has to do with what type and amount of risk you are willing to take.  Have you read any of the books in the "Rich Dad Poor Dad" series?  These books cover a lot about real estate investing and business.

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@Chris Lynch  

  I have a friend that has a few subways and does well.. I think once the bigger franchise fee is paid in full your income goes up dramatically.... 55k in real estate probably won't make you anywhere near what you could with a business that produces cash flow DAILY

Subways can crank pretty good. It's a business as much as an investment. More work more money deal. Cash business.....you want to be at least there 5 days a week to collect the cash and come up with a live cam system on that register. Like Jay mentioned, it would kind of blow away any like value rei....cash wise. Good luck and get 3 or 4 of these :)

thx, Matt

Hi Chris,

I have been looking at the same things for the last few years.

The problem with the small businesses is most are owner operators. I don't want to buy a JOB for an investment.

What you can resale the business for down the road is tied to the net profit after expenses.

So if the business does 100,000 net profit the owners try to get a 3 times multiple of 300k. What I shoot for is 2 times multiple with half down and let the seller carry 50% with favorable terms to me. So in this instance 100,000 down and carry the 100k additional. Actually would try to go for 60,000 down first. Usually the sellers will take just enough to pay the brokers commission and take the leftover for what they could have made in a year working etc.

Would throw in a kicker for the remaining 100,000 note where I could buyout the note early for a preset discount. Example 100k for seven years on the note but if seller decides they want money in year 3 I give them a discounted note payoff of 50,000 to retire it early with first right of refusal. If I don't exercise then they sell the note to someone else.  Many sellers will hold for 7 years but after a few years in decide they just want all cash today even if less than what's owed.

The real estate will have tax depreciation and more forced equity potential. With businesses you have to worry about franchise re-imaging costs and also equipment reaching end of life and having to replace. Make sure concept is big enough to have FFC's ( fixed food contracts ) where food cost stays the same for product regardless of market fluctuations. That is what kills the little guys from cash flowing. One minute they are making bank and the next they are breaking even as they can't fully pass on the food distribution companies hike in pricing to their customers.

I was in the food business for decades before getting into real estate. I have to buy a business where I am not an owner operator and I have management in place and it still throws off a few hundred k a year. Most businesses say 50k net earnings but you find out it's owner operator and you take that out and pay a manager and you are at zero profit. You can't scale those small businesses for owner operators either which Is why I like larger businesses and numbers.  

I don't pay for opening a new franchise either. Way too expensive and it's like a car in that you spend a ton for the new item and once it gets used the first time the value drops like a rock. Some of my friends watch new franchisees put their retirement IRA money in for a 250k build out after they have retired. After 6 months in the retirees are pulling their hair out not knowing the realities and demands of the food business. They just want out even if sales are decent. A "white night" jumps in and the sell for 90,000. You get a brand new 250k product for 90k..... : ) You only want super motivated sellers when buying businesses to increase your yield. Businesses have to meet much higher metrics for yield payout because of the work involved versus real estate. I looked at opening a Steak-N-Shake. Lot's of requirements and only the top 20% of stores seemed to make 35% gross profit margins. The rest were at about 15% and the others had break even numbers. I can get 15% NNN retail strip centers and have no employees or headaches to deal with. 35% is worth my time for a business but 15% is not.

I generally like existing building for businesses versus new because you have a history of sales and what the area thinks about the concept. With a new location it's pot luck and it can go boom in sales or bust.  

@Joel Owens  

Thanks for the response, great info. 

I completely agree. I do not want to buy a job either. But It sounds like a great road to go down to start building cashflowing streams of income considering I do not have enough coming in now.

What type of business's work best for a semi absentee owners in your experience?

After some research I have found Hair salons, massage places, coffee places, laundry mats, dry cleaners ( High profit from what I heard ), coin laundry's, car washes, and newly maybe subway's.

My plan was to buy an existing established business based on revenue. When buying an existing business do you feel it is better to buy a used franchise or a traditional established business?

@James Stevens  

I have read the whole rich dad series. Great book. 

Chris I look for high motivators.

If a franchisee I research what I am going to have to agree to with the parent corp. company. Some have over aggressive too frequent re-imaging of stores at a high cost. They also want you to run their national specials constantly. When you do this it drives gross sales for which they get a royalty off of but it takes your profit margins way down.

These companies on re-image costs, food costs, advertising costs, running specials sometimes get one over on the franchisees by building in fat over the top markups on products. I noticed in many franchise circular offerings they were going to nickel and dime me to death. Almost like a tick sucking your blood that gets larger and larger feeding off of you. So with a system you have to make sure they are FAIR to the franchisees. If you see a bunch of lawsuits from franchisee owners on a concept it's NOT a good sign. Occasionally everyone will show something but if it's over and over again or a large group then take special notice.

The high motivators are death, divorce, retirement, partnership split, other businesses stretching them to thin, health reasons, relocation to another state or country, bought into the industry and want to now exit, etc.

If it's an existing business that is not franchised I will look at it IF they have a long track record of success. They can't just have opened a few years ago and sales were great and the newness factor wore off and they are barely covering the nut and eeking out a profit. Those businesses will be very, very hard turning around. Instead I like businesses where it's been around for decades and they have multi-generational sets of customers in the database. A little bit of sprucing the place up and updating machines and the sales can take off much further.

HI Joel,

I was doing some research on whether I should invest in a business or into multi-family syndication deals as a passive investor. I saw this post that you replied to about 2 years ago and the reason I 'm reaching out to you for some insight. I joined a group that invest in multi-family apartments over 50+ units and above. While the mentor and a lot of the leads/sponsors tend to make a lot of money off the top the passive investors average around 10% cash on cash return & double their investment in 3 to 5 years. However, I only have about $75k to invest initially as a passive investor but I see it being a very long road to where I want to get to cash flow wise and the money I have to invest is limited. I'm thinking as the other poster who asked you the same question that it would be better to start with a business that produces better cash flow and use those funds to build up more to invest in multifamily to the point it would be more profitable to me.

On the other hand the group I'm associated with only buys bigger MF deals to justify having property managers so it is truly a passive type of investment. That is what attracted me but at the same time I want higher return than 10% on my investment. I was thinking of buying smaller units that would produce a higher rate of return but that would mean I would be responsible for the property management. So, I'm just trying to decide how to invest the $75k without it being a job and with higher returns. Your thoughts are welcome.

Thanks

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