Host: Whether to buy an established franchise business is a question many acquisition entrepreneurs eventually ask themselves. Often searchers begin their search not open to franchises, but as they go, they see opportunities to buy established franchises. They do some research, relax their biases, maybe listen to the Acquiring Minds episodes with Doug Johns or James Temple, and they not only open their minds to buying a franchise, but they become excited by the potential. And then other acquisition entrepreneurs set out to buy established franchise businesses and not just a single location or territory. They want to buy a portfolio all at once, often with the intention to add to that portfolio over time. That is the subject of today's conversation, and two of my three guests today are just such acquisition entrepreneurs. Michael Horowitz acquired seven Wingstop locations in Ohio and went on to buy or build 13 more. You may have heard my first interview with Michael in April. Peter mastretto has acquired 13 locations of the Joint Chiropractic and intends to build a large portfolio of franchise businesses in that and other systems over the long haul. I'll have Peter on in the next few months to get his full story. My third guest today is the esteemed A.J. wasserstein, a professor at Yale's business school, the Yale School of Management. You've heard his name mentioned by my guests many times. AJ publishes case notes about all aspects of entrepreneurship through acquisition case notes that are considered required reading by many in the ecosystem. One such case note is what we unpack Today the recent 10 essential questions to Consider when Selecting a Franchise Brand for a Search Fund Journey. Aj, Peter and Michael co authored this note, which I found to be an authoritative, organized framework about how an entrepreneur who wants to acquire a franchise business, and particularly a portfolio of such businesses, should choose which franchise system to commit to. It was such a valuable read I thought I'd have the authors on to walk us through it. Please enjoy this fascinating exercise in planning your franchise empire with A.J. wasserstein, Michael Horowitz and Peter Mastretta. Welcome to Acquiring Minds, a podcast about buying businesses. My name is Will Smith. Acquiring an existing business is an awesome opportunity for many entrepreneurs and on this podcast I talk to the people who do it. You already know that business owners are making amazing use of virtual assistants, often based in the Philippines. And while virtual assistants are helpful, virtual professionals are transformative. Moor Staffing is a boutique agency that hires a players in the Philippines not for simple tasks but for deep competency work. Think operators, supply chain managers, controllers. Moore Staffing de risks your engagement with a 12 month guarantee to you and they provide coaching for six months to their talent. When an engagement begins, that means your hire is coached in the background, no additional cost to you, so that your working relationship flourishes and is as successful as it can be. Global staffing is increasingly the norm, and building the muscle within your business to take advantage of it will be crucial in the years ahead. Speak with more staffing about the pool of capable, affordable managers they can connect you with. Check out Morenow Co. That's MoreNow co. A.J. wasserstein, Michael Horowitz and Peter Mastretta. Welcome to Acquiring Minds. This is going to be a fun and rich conversation targeted at acquisition entrepreneurs who might buy a business within a franchise system. So this is a theme that comes up regularly on Acquiring Minds. And I have had numerous guests who bought businesses that were franchises, including Mr. Michael Horowitz here with us today. So we're here, the three of you guys are here today because you co authored a recent case note entitled 10 Essential Questions to Consider when Selecting a Franchise Brand for a Search Fund Journey. So I read this note and it provides a great framework and kind of systematic filtering criteria to help searchers, acquisition entrepreneurs considering Buying a franchise business to decide which of the many thousands of brands out there to go with. Because there are so many brands. So whittling down that list is of course a key part of the process. So we're going to go through all 10 of these questions today, gentlemen, but first let's do a quick round of introductions. A.J. you want to go first, please?

[5:06] Guest 2: Sure. Well, thank you so much for inviting me to be here. I'm so flattered. Peter, great to see you again. Michael, great to see you again. So nice to see old friends and smiling faces. My name's A.J. wasserstein. I'm the Eugene F. Williams Jr. Lecturer at the Yale School of Management and I teach a bunch of courses on search funds, small business operations, programmatic acquisitions, and my first life I was an entrepreneur. So thanks so much, Will.

Host: Thanks, A.J. peter, you want to go next?

Guest 3: Sure. And I would echo the comments that AJ Made. Thank you, Will, for having us. Michael, good to hear from you again. A.J. good to see you again. So I run a company called Knight Franchise holdings, which is a long term holding company, which I recognize is not a very precise term these days. With the goal of over a multi decade time horizon building a portfolio of scaled franchisee platforms and category leading consumer retail brands. So Today we own 13 clinics of a franchised concept called the Joint Chiropractic across Florida and Texas. And we've been doing this for a little over a Year at this point.

[6:34] Host: Great. Peter, where are you based?

Guest 3: I'm based in the Bay area of San Francisco.

Host: Great. Michael, you want to go next?

Guest 4: Sure. Great to be back. So, Mike Horowitz, former franchisee as of June, no longer a franchisee, but I spent five years running and growing a portfolio of Wingstop restaurants and just exited that business last month.

Host: So that's pretty exciting. Michael, you were a guest. Your episode aired probably two months ago in May.

Guest 3: Ish.

Host: And we probably spoke a month before that. So can you give us the two minutes on. On your exit? That's big news.

Guest 4: Yeah. Thank you. So had started to kind of think about that process a few months before we spoke. And there's always an element of discovery in I maybe like to sell this business. Is somebody willing to buy it for what I'd be willing to part for it with. And so when we spoke, we're probably still pre attracting any bids to kind of firmly understand if this was really something that could happen. But fortunately, Wingstop is a really great company and a great franchise system to be in. So there was a lot of interest. And we ended up selling to a group that was already operating in Wingstop and really looking for big growth opportunities. And given that they knew the system quite well, we were able to close that deal in about 45 days. So probably as fast as you're ever going to see a small business m and a deal, even in the franchise world get done, which was awesome.

Host: And did you approach them or did you just kind of put out whatever messaging more broadly that this was for sale?

Guest 4: I worked with a small franchise investment bank called Unbridled Capital. They were great. I knew the buyer from right when I started in the system. We'd known each other for five years. But the fact that there were other people who were very interested in buying the business certainly resulted in the buyer paying more than they would have paid if I just approached them directly and negotiated a deal that way.

Host: Well, that's great, Michael. Congratulations. We'll certainly be linking to your previous episode in the show, notes of this episode, and maybe in some months from now, have to have you on and tell you that, have you tell us the entire story of this sale, because that's. That's always exciting. Okay, before we launch into the 10 questions, why don't we just do a quick introduction on why buying a franchise, established franchise business, or multiple, as in the case of Michael, can be an attractive path for an acquisition entrepreneur. So just kind of setting the stage of this larger conversation, AJ could you address that.

[9:24] Guest 3: Yeah.

Guest 2: So Will, a few months ago with Peter, we wrote a case note on why post MBA students post MBA graduates. Aspiring entrepreneurs don't pursue franchises as a entrepreneurial opportunity and why they should at least consider pursuing franchises. So do you want me to touch it all on the reasons why they don't or go right to why they should?

Host: Let's start with don't and. And then go to do so.

Guest 2: I'll be real quick with don't. So the, the biggest reason I think MBA students don't consider our entrepreneurship in a franchise context is that. Is that I gotta put it out there right away. Mike, Peter, disagree with me if I'm wrong, but there is a stigma to being a franchisee entrepreneur and we jokingly wrote in the case, Peter, that this is about as uncool as you can get. So if you think operating a H Vac business is uncool, being a franchisee entrepreneur is one step below that. So it's not cool. And there are a handful of other reasons franchise systems tend not to have the contractual recurring revenue that search funch entrepreneurs crave so much. Same store growth could be capped or linked to cpi. It's hard to really escalate growth in the same store. So more growth tends to be very capital intensive because it's either through acquisition or opening new stores in order to grow. There's this real gating mechanism in the franchisor. They get to approve whether you open up new units organically or do acquisitions within the system. So they're. They're always going to regulate how much you could grow. There are barriers to entry to get into a system. So this is like joining a club. And it's not a given that you will get into any system. Despite Mike's success in exiting. Sometimes there are limited buyer opportunities when you do choose to exit. And it's very common to see what Mike just told us exiting within the system. But that can. I'm sure this wasn't the case in Mike's situation, but that can suppress multiples at times. Yeah. Franchisees tend to be labor intensive, so there are complex labor management issues. Turnover. It's not really talked about in MBA programs. So there are no courses as far as I'm aware. We have Harvard here, we have Stanford here, we have Yale here. But I'm not aware of any franchise entrepreneurship courses at these schools. There might be a case or two, but no course. Yeah. So those are some reasons why people don't do it. And we think they're all valid. We don't want to minimize or say that those potentially aren't true. But we think there are a lot of really compelling reasons why people post MBA students should consider a franchise opportunity. Should I pause, catch my breath? Do you want to follow up on any of the reasons why not before we go why you should Let me

[12:50] Host: pause you just to ask Peter, because as I recall from our pre call, Peter, you, your eyes were opened to franchising because you heard of some sort of big success stories, right? So, so you were not considering it then then heard about some, some stories in the ecosystem of people who had done very well by accumulating large portfolios of franchise franchises. And then you said huh, this, this seems pretty interesting. Wasn't that kind of how your, your eyes were open, Peter?

Guest 4: Good.

Guest 3: Good memory. Well, so when I was in my second year of business school, I was considering a broad array of opportunities that kind of generally fit the consolidation strategy approach, but they were primarily consolidation strategies around independent operations as opposed to franchised retail operations. The I would say platinum standard case study. Particularly relevant at Stanford gsb, which is where I was getting my MBA at the time, is a restaurant entrepreneur named Greg Flynn, who, I'm gonna forget his, his graduation year from Stanford, but he runs something like at this point, 2,300 franchise restaurants across the country. I think he actually just expanded his operations for the first time internationally with an acquisition in Australia. And he started out with a small sub 10 unit acquisition of Applebee's in the Pacific Northwest decades ago. And through the course of kind of tirelessly reinvesting the cash flow that his initial, his initial business generated into progressively larger and larger acquisitions, he built this portfolio that now generates something on the order of four to five billion dollars of, of annual revenue. That's obviously a very audacious goal to have when you, when you start out and you're a second year business business school student. But there are other examples similar to what to what Michael has just successfully accomplished with entrepreneurs building 2050, 100 unit portfolios very capital efficiently and have built businesses of a very exciting scale doing so. So yes, to answer your question, Will was, was largely attracted to consolidation opportunities. I think AJ called them programmatic acquisition strategies before. And it just so happened that an introduction to the franchising space seemed to line up quite well with what I was looking at.

[15:40] Host: But it wasn't being taught in any way at Stanford. This was just kind of through, through your own informal education process that you, that you learned about these opportunities.

Guest 3: That's correct, yes.

Host: Yeah. Yeah. Well, maybe conversations like this and, and these case notes that you guys publish will start start opening people's eyes more in a more formal way in the in the MBA programs. August Felker is a two time successful searcher. First with a traditional search fund. The second time around he did a self funded search. Today August runs Oberle Risk Strategies, an insurance firm with a dedicated practice group for searchers and acquisition entrepreneurs like you. If you've got a business under loi, Oberle will provide complimentary due diligence on that business's insurance and benefits program. A great no risk way to get to know August and team. They love helping searchers. They've worked with hundreds. Oberly is a specialty insurance brokerage for searchers by a former searcher. Check out oberly-risk.com O B E R L E- risk.com, link in the show notes so AJ let's now turn to the positive. So why are these opportunities exciting?

Guest 2: Yeah. So I'm going to quickly rattle off some facts I think before I share will why students should consider franchisee entrepreneurship. If I could just put it in context. So my goal is for my students and other students, recent MBA graduates, to live incredibly fulfilling, rich and exciting lives of which entrepreneurship I think is a wonderful part. And I think these are all risk adjusted, return adjusted, lifestyle adjusted questions. So I do not believe for half a second that being a franchise entrepreneur is the right choice for everybody. I don't. But it absolutely might be the right choice for for some subset of MBA students to consider. So I just hope that my writing, these conversations help some people open up their aperture. So I'm not dogmatic. This is the right thing. This is the only thing for everybody. It's not. But, but I hope for some people they consider it and they might just discover hey, this really fits everything I want to do and I should at least give it some time. So before we jump into some reasons, I'll also say with Greg Flynn being the exception, Peter, it's unlikely that you're going to become a billionaire or even maybe a centimillionaire being a franchise entrepreneur, but there's probably a decent likelihood that you could become a multi deca millionaire. And I don't want to measure success exclusively for exclusively through equity proceeds or net worth, but it's one dimension worth considering. So, so think about risk adjusted open the aperture. Okay, so franchising's a big part of our economy. So there are 8 million jobs in in franchises in the U.S. it represents 3% of our the sort of Industry association on Franchises states that there's $787 billion of franchise output in the US annually. So this is a big part of our economy and for students to sort of close their eyes and say, hey, I don't want any part of material component of what's going on in the US might be short sighted. Okay, so why, why should people consider us first and foremost? ETA is all about trying to get into a proven business model. And that's why you buy a going concern. Well, franchise buying a franchise or starting a franchise takes that notion one degree further. So not only are you buying a going concern, but you're getting proven systems, protocols, processes in the business which can help aspiring entrepreneurs and decrease the risk of execution. So franchisees actually have very stable and predictable cash flows, despite many of them not having contractual recurring revenue. So I hope we get Mike and Peter into the holy grail of franchise information, the FDD Franchise Disclosure document. But I won't get ahead of myself. But if you look into brand FDDs, you often see that same store sales is relatively consistent year over year. So despite not having contractual recurring revenue, they're still pretty persistent. Revenue and cash flow streams. These tend to be very fragmented systems, so we think of those as either dense systems or lack of density in the system. So if relatively few owners own lots of units, that's a very dense system. But most systems are dense. There are lots of owners that own relatively few units, and that presents an opportunity for programmatic acquisitions, which can be a compelling way to grow. So if you pursue those programmatic acquisitions because you're buying similar operations, same logos, integration might be a little bit easier, which can be very appealing. You know, some students are going to scoff at the notion of paying royalty fees to franchise ors, but just think of the power of renting a nationally recognized brand that most people know. So Mike Wingstop, you are paying royalty fees, but tons of people knew what a wing stop was and you didn't have to create that brand value and equity. So that that's really a reason why people shouldn't do this. So we see this in the ETA ecosystem. There's this great camaraderie and community of how to operate, build, nurture businesses that exists in franchise systems as well. You have hundreds or thousands of co operators who can help you and advise you on how to build a business. Some banks are specifically geared with specialty lending units towards franchise entrepreneurs, which might make financing on the debt side slightly easier. So I hope we get into this in the second half of our conversation. But, but the, the, the, the, the four wall unit economics on some brands can be incredibly compelling. So we'll dig into that a little bit more. I hope there can be very unique real estate economics with sale leaseback opportunities. And this is perfect. The next item is perfect for my MBA students. You do not have to have a great idea. So that's a very compelling fact for MBA students. So that was a joke. It doesn't get better, guys. If you laugh at that, it's not going to get better. And I want to say the next item carefully, but I don't think franchise systems are overrun with incredibly talented and educated people like Mike and Peter. And that means the competition might be a little bit more shallow and not as deep. And that can be an opportunity to sort of differentiate yourself as a leader and entrepreneur. And finally, post MBA students might have a profile that's very appealing to franchisor and they might give them preferential treatment. So those are approximately a dozen reasons why MBA students should at least consider being a franchise entrepreneur.

[24:07] Host: That was great. Aj, a couple follow up questions for you. You know, some of those reasons are kind of the reasons more broadly somebody might consider eta. And, and one of the things that you, you, you said was, you know, unlike under the cons, I guess, or was this the pros anyway, unlikely to become a billionaire or a centimillionaire, but a deca millionaire, There's a pretty, you know, it's not unrealistic to think you can get there.

Guest 2: Not unrealistic at all. Right, Right. Peter and Mike, would you agree?

Guest 3: I can't speak.

Guest 2: Mike, do you want to share something, Mike

Host: deca?

Guest 4: Mike? No, I, I think like time is, is your friend in this stuff to, to AJ's point just a minute ago about maybe the competition not being as strong. I think about it a little bit that if you're coming in highly educated, with enormous financial connections and ability to get loans and things like that, you, you can probably expand faster than a lot of these people. But a lot of the people that you see make a ton of money, have been doing it for 30 years and their businesses generate a lot of cash and they just gradually reinvest that. Maybe it's buying one store every two years, then buying a store a year, two stores a year, opening stores, and the cash flow pile keeps spinning and growing bigger and bigger every year. So it gives you a great opportunity, if you're just willing to sit in it a long time to reinvest that money and you can hopefully reinvest it at pretty great rates of return. So it's not that buying a single unit is like such a compelling IRR that you're going to make 10 million bucks in a typical PE hold period. But it is an industry where you're going to have a long reinvestment Runway to compound that money at a very reasonable rate, which if you're willing to do it long enough, you can definitely get into big numbers.

Guest 2: MIKE I think that's really true. So thank you for highlighting two facts. One, we're not will proposing that post MBA students buy a single store. We hope they're buying a portfolio of stores and then scaling into a regional multi unit operator over some timeframe. And I hope we talk about this in what makes the right brand. MIKE but part of that multi decade or very long time horizon is making sure you picked an enduring brand that is not fattish and has legs and will will stick around for you. Enjoy that reinvestment and compounding.

Host: And this is just reminding me of of the kind of delicate point that was made earlier around that maybe some of the operators or other participants in the in the franchise franchising generally maybe don't have the same level of pedigree or sophistication and maybe appetites. So I my kind of sense of franchising is that historically it's been targeted franchisors target kind of mid career people, people with some experience who want to be an entrepreneur and here's a way to buy a job and earn a few hundred, a couple few hundred thousand dollars a year. But it is kind of the the kind of the NBA crowd, the bigger thinking crowd that's saying oh, the more interesting opportunity is to roll these up or buy a lot of them. But that's not actually how franchisors position their systems to the market. Correct.

[27:40] Guest 3: And in fact some franchisors are allergic to that to that thinking. Like for example, Restaurant Brands International, which owns among others Popeyes and Burger King, won't allow franchisees anymore to own operations in markets that they are not local too. So they require their franchisees of record to be local to the operations that they're overseeing. So in some cases this is just this is just no longer in some brands this is just no longer even actionable.

Guest 2: Other brands want that. PETER Right. They want more sophisticated, more capitalized, better capitalized owners. And will, I don't want to imply for half a second that that people that own handfuls of units are not good operators. They very well might be and are and they're Hardworking and they deserve respect and appreciation. But they might not have the. The financial ability or desire to scale a business the way Peter wants to.

Host: Or.

Guest 2: Or Michael has.

Host: Yeah, just. And then so circling back to the unlikely to become a billionaire or sent a millionaire. I just wanted to compare and contrast that with ETA more broadly. Non franchise eta. Do you think the ceiling is lower when you compare it to rolling up? Not non franchise. Doing ETA in a non franchise context, AJ or anyone. Or are the ceilings kind of no different necessarily?

Guest 2: My perception is if you're exclusively focusing on how much money can an entrepreneur walk away with? Being a franchise entrepreneur is akin to being a non franchise et ent entrepreneur. I don't think there's a difference in scale. I'll re emphasize that. I think that's a very narrow way to view your life. But if you're focusing exclusively on economics, I don't think franchise entrepreneurship constrains the economic outcome for someone considering small business ownership. ETA ownership. Where that might be different is if someone is thinking about doing something in, in technology where, where more venture capital financed where there can be extraordinarily great outcomes with much greater risks. Yeah. How Mike, Mike and Peter, would you agree or disagree?

[30:18] Guest 4: I agree with what you said. I don't have much to add to it.

Host: All right, let's get into the 10 questions. Let me preface this by saying this is a conversation just meant to kind of whet the appetite of the audience. Everybody interested in this subject should read this case note. I mean it really is a roadmap that, that one can use to kind of systematically decide what brands to go after or if you're looking at brands already, how to think about whether or not they can work for you. It's a really, really helpful document and we're basically going to go through it starting with the number one of the ten questions asking yourself what does a successful outcome for you look like? Does anyone want to jump on that question? That topic?

Guest 4: I'm happy to start on this one because it's, it's one that I'm pretty passionate about when I talk to people. There are so many different ways that you could be successful to a lot of the things that AJ has been saying. If your goal is to have a $500,000 stream of passive income, live in a beach town and get a residual check from someone who's running your operations, you can do a lot more or a lot different things than someone whose goal is to sell their business and personally take home 10 plus million dollars. And there's all sorts of spectrum in between of what you want to be doing on a daily basis, how complicated you want the business to be, how many people you want to manage, how much you want to invest, how much risk you want to take in developing versus acquiring, et cetera, et cetera. So I really think it's important to start with if I'm five, 10 years out into this journey, what will I be really happy with achieving? And then once you have a picture of what that is, you can start to identify the franchise systems that are best suited to deliver an outcome like that.

Host: Anybody want to add anything to that? Here, here, just to kind of set. I think Michael, you already did with your kind of the living on the beach example, but kind of the bookended example in the document is searchers hoping for a $200,000 annual salary with a few million dollars of equity value will pursue some brands, while others who long for millions of dollars of yearly compensations and tens of millions of dollars in equity will, will probably need to pursue others. So, you know, huge range here. And that's something to, to really define for yourself before you, before you embark on the journey.

Guest 3: I, I guess I would just add Will. And this was, this was brought up by both you and AJ the stereotype of a franchisee, I think historically has been a corporate nine to fiver who is in the middle of his or her career building a side hustle as a nest egg for, for retirement, maybe for, for their children or grandchildren. And I think to Michael's point, that's, that's still possible and that it's still a, that's still a worthwhile venture if, if that's the goal, but opening up the possibility for something of, of much greater scale as well, if that's your goal. So I, I, you don't have to be anchored in this historical stereotype of a franchisee as a corporate nine to fiver being a franchisee as a side hustle.

[33:43] Guest 4: To think of another example, let's say you do want to have the potential of a 10 million plus outcome for yourself and you decide to invest, build, buy whatever it may be in a franchise system with 30 units, odds are that each of those 30 units in most systems, let's assume they're QSRs, are maybe worth plus or minus $1 million per location. So the total value of owning every franchise in that system as a franchisee is give or take $30 million. So you're probably not going to own, in fact, I can say you're definitely not going to own 100% of the franchises in a system. So you, if you want to make $10 million doing this, are also going to have to bet that that system is going to grow maybe from 30 to 100 units and that you're going to be able to own 10% of the system, give or take. And so if that's your goal, I probably would not look AT systems with 30 units because you not only have to successfully buy, build and run your business in that system, you have to bet that the system is going to expand dramatically. Whereas if you go into an RBI brand or Wendy's or Wingstop or whatever, and there are thousands of locations, you, you can get to a $10 million outcome by being a single digit percentage of that system or maybe even less.

Guest 2: Can I just amplify? There is no right or wrong about what the successful outcome looks like. So some people are going to want eight figure exits and some people are going to be ecstatic with that beach, small town, half a million dollars a year image that Mike painted. And yeah, it's not our place to, to articulate what, what is the right outcome for anybody. It's just, is this a potential vehicle to achieve your personal and economic desires in a fulfilling way?

Host: Exactly. And, and, and so the important exercise here is first to define what you want and work backwards from that. But just two other kind of, kind of filters or criteria that were described in this part. I'll call out, you know, owning multiple units within different franchise systems, which I think, Peter, is your, is your, you envision doing something like that longer term?

[36:04] Guest 3: Yes. We currently only own locations in one in one system.

Host: Right, right. So, so you know, that, that, that is a different vision than just owning one or two or three units within a single system. And then also, how long do you want, how long do you want to be on this adventure? Do you want to be, you know, do you want to make as much money as you can then in the next five to 10 years? Or are you Warren Buffett buying forever? And you, and you know, you just want the long, the longevity and the compounding to just play as out as long as you can. So all questions to define for yourself and then apply to the matrix of your search. Okay, number two, second question. What is the right industry or category for the project? Of course, a question that non franchise ETA entrepreneurs also look at deeply. Anybody?

Guest 3: I can start with this one and I think in the, in the case note we, we echo what you just said, Will, which is this is a question that all ETA entrepreneurs grapple with And I think the assessment for a franchise entrepreneur on this, on this topic is similar to the assessment for a non franchise entrepreneur specific to, to franchising. The question is, I guess the first order question is QSR or non qsr. The plurality at least if not the majority of franchise locations in the country are, are probably QSR oriented. And QSR stands for quick service Restaurants. For, for those who are not familiar with the acronym and examples of non QSR locations might be ones like fitness concepts. Planet Fitness is a, is a great example of a multi thousand unit big box fitness concept. And I think the criteria to consider when evaluating this question of QSR versus Non QSR is just the primarily the durability of the demand for services in that category A and the economic characteristics of, of businesses that operate in that industry. Just as you would in a, in a non franchise context. I can give you a little bit of specifics as to how I considered this question. We were evaluating our first brand. To me it was important to be in a slightly less competitive category. So we currently operate in health and wellness broadly and very specifically in chiropractic services where there's really only one scaled chain player franchise or independent operator. And so it was important to me to be operating under an unambiguous category leader in a category that I thought had attractive growth tailwinds at its back.

[39:14] Host: Excellent. That's, that's really helpful. Yeah. And, and so Michael, maybe let's hear the other perspective because you in in fact did buy into QSR and QSR also fast food kind of fast food chains is just another more colloquial way of describing it. And to, to, to the point of the case note, like for a lot of people that's what franchise means. It's, you know, it's McDonald's, it's Burger King. But of course as we all know that there's franchises for everything under the sun. So Michael, what, what did you, how did you decide on qsr?

Guest 4: The main driver was that you could get the most scale in restaurants. And those who heard our first conversation might remember that I started off with two partners. And so part of our lens from day one was we've got three guys who work in finance, make good salaries, who are going to quit to do this. We've got to get something big enough that we can afford to pay three guys and give them a financial opportunity that lures them away from a hedge fund or whatnot. And in QSR there's dozens of choices of systems with many hundreds if not thousands of Units where you could start off buying 20, 30, 40 restaurants and there's so fewer number of systems outside of restaurants where that same thing is true. So we decided we would focus on restaurants primarily for that reason, with the follow on reason that most of those brands that are that large have been around for a while, have long operating histories and you can go back and look at their performance historically and get comfortable that in recessionary periods these brands tend to still do well because they're value based options or that the gradual share of consumers dining out versus preparing food at home has grown for decades and I think will continue to grow. And so you have some kind of bigger macro supporting elements to QSR being a good long term place to be that you don't have to go industry by industry and understand what's happening in dog daycare, in chiropractic, in this fitness trend, in whatever else it may be.

Host: And Michael, what about Peter's point about competition? So you, you know, for every time somebody stepped into one of your wingstops, they had maybe considered nine other food options before you got them in the door. Did you feel that in any tangible way? Certainly. I imagine for labor that that's one, one way the competition plays out. Do you want to talk about that?

Guest 4: Yeah. I think for Wingstop specifically they have probably one of the best competitive positions in the restaurant world. There really aren't a ton of other brands, particularly in the format focused on delivering carryout that do chicken wings on any scale or competitive level to Wingstop. Obviously there are tons of dining out options in general. I think the honest truth is we didn't worry about that too much. It was, we looked at Wingstop and said boy, these guys have been averaging million plus unit volumes for a while and they're growing every year. And that's kind of good enough for us. We don't need to try to be too cute in figuring out why that is or whether suddenly something will dramatically change on that front.

[42:33] Guest 2: Well, can I just one or two themes on this topic of picking the right industry or category. I wrote something several years ago called on the nature of Economic Characteristics and I encourage people when thinking about which industry or category in a franchise context to think about the economic underpinnings. So QSR can be incredibly compelling, Mike, but it tends to be more capital intensive than educational services. So Kumon as an example is educational. Supplementary educational services, which has much less capex than a QSR sort doesn't mean one's right or wrong, it just, just means that you need to consider that so really understand the economic underpinnings of each of these categories and brands. And then if entrepreneurs can have the self discipline to literally close their eyes to what the business does and focus exclusively on the economic characteristics, and only after they get really comfortable with the economic characteristics should they unmask the business and assess whether it really is a fit for them or not to it. So some people cannot be in qsr, no right or wrong, and some people cannot be in other franchise systems where the core service that's provided just doesn't fit or resonate with them. But I would encourage people first focus on the economic characteristics blindly and then decide if it's a fit. Because too often we approach what the business does and come to preconceived conclusions before we actually understand the economic factors at play.

Host: I love that point, AJ And I love that that how that was articulated in the case note. And just to be absolutely clear, you're not saying, you're not saying don't consider your own personal interest or whatever the X factor is for you. It's just do that in terms of sequencing these things. Do it at the end first do your economic quantitative analysis, sort of quantitative analysis and then, and then once you arrive at, you know, good candidates, then unmask, as you put it, unmask the logos. I really like that. That's actually the final question, so we'll probably revisit it. Moving on to question number three, the brand. What are the brand attributes and qualities being sought by you, the entrepreneur? So there were, there were kind of a few, a few kind of spectrums here. Does somebody want to articulate those?

[45:15] Guest 2: Mike, I think this was your framework, so why don't you take a crack at this?

Guest 4: Sure. So I guess the three that we sort of offered were first the age of the system and kind of current, likely implying the current kind of growth trajectory of the system. So you have mature systems where there are not significant amounts of new unit growth every year because they've been around for a while and have opened most of the sites that are likely to be able to be supported by that brand. Or you have emerging systems where it is a newer concept. There's a lot of white space. So that's going to have implications for can you do more M and A or do you need to do more development as a growth strategy along with other implications. The second one we offered is kind of where in the kind of quality versus value tier does the brand sit? So you may be doing a high end brand or a low end brand. And how did the investment and returns of those brands compare? How did the durability of those brands during different economic periods compare? And then finally we have in favor and out of favor. So even within qsr, which as a category has been growing and durable for a long time, you'll see individual brands go through cycles where they're either performing quite well or quite poorly. So Burger King was acquired by RBI. I can't remember 15 years ago or something like that. RBI came in, did a bunch of things and really re accelerated growth and excitement around that system. And it had several years of outperformance in the category and it's now kind of come back down and been underperforming the category more recently. And similarly, people may remember Papa John's had a bunch of issues with the founder and whatnot a few years ago and it kind of completely fell off a cliff over a year or so and got built back up. So thinking about where you're entering the brand in the context of that cycle is important. I would say on this one in particular, I would be very hesitant on entering a brand and trying to catch it at the bottom of a cycle before a turnaround. I think that's a lot harder to evaluate from the outside. And rather than catch a falling knife, I would much rather look at a brand that's performing well or improving and try to evaluate how much that has room to run versus trying to bet when a negative trend will reverse itself.

Host: Peter for sorry, the joint chiropractic is the name.

Guest 3: Yes.

Host: Of the system. Tell us how it, where it falls on these three spectrums. Classic or classic or emerging. It's emerging.

[48:08] Guest 3: It's, it's emerging. It's got, it's got about 900 units nationwide, which is a sizable brand. Our, our kind of finger in the air scale threshold was 500 units nationwide. But that's not a hard line in the sand on the premium or moderate vector. I think honestly the brand is still trying to figure this out to some degree. My personal assessment is it's probably closer to the value based end of the spectrum than the premium end of the spectrum. But I think there's some work to be done on merchandising at the franchisor to really price discriminate to, to get to the bottom of this question. And then I would say in favor or out of favor? It's probably closer to the in favor end of the spectrum than out of favor end of the spectrum. Just because of the attractive membership based business model characteristics that underlie the concept the other thing I would add to, to Michael's, to Michael's commentary when, when evaluating these questions is sometimes this question is a first order question to filter a number of brands before you actually spend real time on the brand. Sometimes it's a second order question which is you've identified a brand that you're interested in and you need to determine where it fits on these three vectors. And the question should be asked is if it's a, for example, if it's a classic brand that offers that, that's if it's a classic in favor brand that you're not an existing franchisee of, why are you getting shown this opportunity or why do you have an opportunity to be the franchisee in this situation? And so that's just, it's all to say sometimes this is a first order question when evaluating an opportunity in franchising, sometimes it's a second order question and it matters which step it comes.

Guest 2: Yeah, Will, can I just throw in one thought also? In favor is not necessarily good or bad. So in favor growing, maybe it's classic, maybe it's emerging. That's going to be reflected in multiples. So some of those assets are going to be priced, priced up. So I think in the paper we use Taco Bell as an example of in favor, classic growing. So Mike, you're a QSR guy. If someone owns a hundred or a couple hundred Taco Bells, they're thrilled. Right now that's a very, very good place to be. But if you're trying to buy Taco Bells, that's an expensive proposition and that's going to be reflected in the returns on the investment. So I have an acquaintance, I wrote a case on Barry Dubin who's buying up Kentucky Fried Chicken and he might be the largest Kentucky Fried Chicken operator in the U.S. i think he's got close. Yeah, I can't recall. Is it possible he's got a thousand stores? Maybe he's got a thousand stores, but I'm not sure Kentucky Fried Chicken is in favor or growing. It is classic. But he's figured out that this is the value proposition point where he wants to play in the purchase valuation and the returns that he could generate for himself and his investors. So ju just want to double down that hot doesn't necessarily mean that's the right place to play. So slightly out of favor can be good from a cash generation perspective. And Mike and Peter, would you agree or disagree?

[52:18] Guest 3: No doubt.

Guest 4: Yeah, I'd agree. I think I, I certainly would have a bias towards paying. I actually really like where you're talking about kvp, very Dubens company. You know, in a system that's not at the top of its game but not struggling and you're paying kind of average price like that feels like a great place to be. But you know, take Subway right now. If somebody offered me a big subway portfolio for 2 times cash flow, I wouldn't even bother reading the materials because I don't know what the revitalization strategy is for Subway, but it's not there yet. And it's, I think, very difficult to pay a low enough amount to overcome a declining system.

Guest 2: But Mike, going the other direction, if you want to be in Taco Bell as an example, my gut is that's a top decile entry multiple.

Guest 4: Absolutely.

Guest 2: And you know, that might be a great strategy, but it also might just make it harder to generate attractive returns.

Guest 4: Right. Yeah. There's certainly some natural ceiling to the multiples for pretty much all of these brands. And if you're buying them at the top, you're not going to leave yourself a lot of room for multiple expansion or.

Guest 2: That's right.

Host: Well, it sounds like we're zeroing in on maybe it's, maybe the spectrum is, is kind of three notches in favor, less in favor and then outright out of favor and in favor and less in favor. You can play, you can justify the decision there. But if, if, if, if a system or a brand is really out of favor, unless you're a turnaround artist or really know what you're doing or have some special insight, it's probably not for most people listening to this.

Guest 4: That's my personal opinion. I'm sure there are people out there making a ton of money, scooping up those, those low valued ones and doing well with them though.

[54:05] Host: Well, I don't know where Midas, the automotive franchise fits. It's a, it's certainly a, a legacy brand. But Brian Beers has been on the podcast and Brian has 30 plus units and that, you know, that's certainly not a hot brand. So I don't, I don't know where that falls on the spectrum, but he, he seems to be doing well by it. So. Okay, let's move on to question number four. I like this one. This is what are the franchisors qualities and characteristics? And I like it just because it really gets us into the question of the franchise Zor, which is this whole third partner that you're gonna, that you're gonna have or I guess partner that you're gonna have as an acquisition entrepreneur that, that you know, this gating mechanism that, that we've talked about can getting into the franchise, you have to, you have to work with the franchisor and kind of convince the franchisor. Michael can speak to that. And then for the duration of your holding of these, of these locations, the franchisor is, is kind of this element of risk in this partner that you're going to have at all, at all big moves along the way. So I'm, I'm getting ahead. Let's, let's get into to this one. Franchisor qualities and characteristics. Go ahead.

Guest 3: I was just going to say that what I think this section in the case note really all boils down to is evaluating the question of does the franchisor earn the royalty that you pay it. So in almost all, in all the cases that we've talked about so far during this conversation, the franchisee pays the franchisor a royalty in the form of a revenue share. And, and in, in many cases that's a substantial portion of, of store level operating profit. And in some cases for underperforming stores or young stores, it could be 100% of operating profit at the store level. So figuring out whether the franchisor in fact is earning its royalty in is important. And a franchisor can earn its royalty in a variety of ways. One, it can. A franchisor can lower customer acquisition costs for each of its franchisees above and beyond what a, an independent operator in the same category could afford for its own four walls. A franchisor could negotiate beneficial, beneficial pricing throughout the supply chain to benefit franchisees above and beyond what an independent operator could negotiate for him or herself. A franchisor could have sophisticated menu setting and merchandising analysis that is more sophisticated than what an independent operator might be able to afford. And, and on and on. We we introduce a couple of other, a couple of other ways a franchisor could earn its royalty in, in the case note. Um, so what, what I would say how we evaluated it when we were considering the joint was primarily from through the lens of customer acquisition costs. So it became pretty clear that operating a, a membership based kind of concierge focused, healthcare, light consumer retail concept was a dramatically better customer proposition relative to how the rest of the category was offering its services through a more kind of traditional healthcare focused concept and just with a little bit of marketing expertise on the brand building side and on the local digital side, you could, you could drive pretty attractive demand through the stores coupled with an attractive real estate footprint and a lean staffing model that customer acquisition and demand generation translated into very attractive unit economics in the four walls. So I'd say our assessment was primarily on the customer acquisition vector.

[58:32] Guest 2: Yeah Peter, can I ample amplify anything? This is also about training the of technology stack that comes with the logo but the infrastructure you get and the opportunity to be the best operator you could be in the system. And Mike, I think we also spoke about in this bucket whether the logo was institutionally owned or entrepreneurially owned. So, so some franchisors are incredibly attractive business models and very, very desirable assets to own either after they go public or by a private equity firm. But, but who owns the brand is probably going to trickle down to the franchisee and what that feels like and what that tone is in that relationship. But, but if, if you're picking a partner, hopefully for a multi decade period, this is the marriage. So you're, you're picking your partner and this is a choice you really really want to get. Right.

Guest 4: I think those are kind of two good sides of this topic. Like the way Peter kind of outlined hey you're, what are you getting for your royalty in this brand? You're getting the use of a brand. You're getting competitive advantages in supply chain or in marketing or in the network of other locations that people can interact with if they're a customer of yours in some cases, whatnot. And then the second side of does the entity that manages all of those things do it in a we all win, let's grow the pie relationship or in a we are on the other side of you, every bit of value that we get takes away from you and that's a zero sum game. And institutional ownership can be a signal, not necessarily correlated in either direction. Just gives you a kind of point to look at and say okay, this is the person behind the brand. Now let's go figure out what, what they care about.

[1:00:40] Host: I recognize that the answer is it depends. But is there any kind of directional historical trend in terms of oh my franchisor was just acquired by private equity, that of that being either good or bad news?

Guest 4: I don't know enough to say. But you know there are entities like Roark Capital is a huge private equity backed franchise owner. They own tons and tons of brands and by and large everyone I know who's operated in one of their systems speaks very highly of them and thinks that they really understand it. They have a lot of franchisees who start in one brand and go back to a second brand in the Roark portfolio which speaks to obviously how that relationships working. You can go Google New York Times articles of other private equity firms that have bought franchises and allegedly run them in much less favorable ways. But I'm not sure there's a, a well known path one way or the other.

Host: Well, I just want to circle back to something that you talked about at the top, AJ about why people kind of reflexively are not interested in franchising. And those fees is often one of the first things out of their mouth. But it is. But in this section just really highlights the point that that really is kind of an unsophisticated way to approach this because what you're getting for those fees you are likely going to be spending on yourself, marketing systems, educational materials, et cetera. So, so I really like the way that, that you all phrased it in this section. The question is not, you know, oh, there are fees. That's bad news. No, it's does it earn the fees? What are you getting for those fees? And by the way, you also have six questions here. You say that a great source of information about whether or not those feel those fees do indeed seem to be earned by the franchisor is talking to the existing other franchisees. Do they feel like these, that they're getting a lot of bang for their buck in the terms of the, in terms of these fees? And you all have outlined six questions, six specific questions you can, you can take around to franchisees that you'd network with. What is the franchisor's training and support like for new franchisees? Are the marketing efforts directly driving volume to your stores? I won't go through all six, but actually let me just double click on that point. Talking to other franchisees. Peter, did, did you, how much talking to other franchisees did you do before you committed to the joint?

Guest 3: I would say my franchisee survey work coincided with my acquisition sourcing work. So it's, it's hard to say specifically like how many franchisees did I speak with before committing to the brand, but I probably spoke to at least 15 franchisees before, before we made the first acquisition in, in the system.

[1:03:23] Host: It's a lot. Michael, what about you?

Guest 4: That's a great question.

Guest 3: I don't say, don't say a hundred.

Guest 4: No, I think we probably spoke to far fewer. We were, we were kind of waiting for actionable opportunities in brands that we liked and only then really reaching out. We weren't so much reaching out to franchisees as part of the are we interested in this brand discovery phase, but more in the hey, on a confirmatory Basis to the numbers that we are underwriting in this particular portfolio or brand makes sense based on other people's experience. So we did it fairly far down the funnel.

Guest 2: Hey, I'm working on Mike and Peter, which I might recruit you for a sort of a breakdown of the franchise disclosure document. That's one of my on deck projects right now. But when assessing the franchisor's qualities and characteristics, there's information in the fdd. So, Peter and Mike, maybe you could talk about bankruptcy litigation, but there's information in the FDD that will give you some hints about whether. Whether the franchisor is a good player or a bad player. Do you want to talk about that?

Guest 3: Sure. And I would add that in both Mike's system and my system, the franchisor is actually listed. So there's a lot of public information available that's presented to shareholders of the franchisor that prospective franchisees can use in their assessment of the concept in the fdd. A couple of helpful sections that come up in each of them, and Michael, if I miss anything, please keep me honest. Are the number of resale transactions in the system on an annual basis, which should provide some signal as to the level of satisfaction the existing franchisees have with the operations. In most cases, and this is a generalization, in most cases, the lower the number of annual resales in a given year, the happier the existing franchisees are, either with the franchisor or with the financial performance of their locations. And then the second thing I think you're probably trying to tease out, AJ is the number of store closures in a given year, which is probably a more pointed assessment of the health of the franchisee base. Because in most cases, even if an existing franchisee no longer wanted to operate his or her store, if it was a healthy location, either the franchisor would buy it back or they, they would be able to find another franchisee to, to take it over. I think those are the, probably the two most important pieces of an FDD that you're getting at.

[1:06:14] Guest 2: Doesn't the FDD also disclose litigation?

Guest 4: Yeah, there'll. There'll be summaries of past an ongoing litigation, and you can kind of dig more into those. I, I would expect that in most brands that you are performing well enough or interesting enough for a prospective entrepreneur to, to be attracted to. There shouldn't be too much there. I mean, even in great systems, there'll be an occasional lawsuit here or there over something which is certainly not a big deal. So I didn't, when we were Looking at brands really dive through those in particular detail. I think also looking at super large brands, you know, if there were a couple Wendy's lawsuits out there or whatever, probably wasn't going to rise to the same level. But if we were looking at a hundred unit concept and four franchisees have been involved in litigation, that would be a much more meaningful signal.

Host: And I think this point, the very existence of the FDD just highlights the fact that franchising, there's regulation around franchising that requires these disclosures. So you as the acquisition entrepreneur can benefit from, from this extra transparency that the regulation sort of forces. What were you going to say, Michael?

Guest 4: We should make sure to mention if you attempt to find the FDD for a lot of brands, they're not necessarily available for free download on the websites and you'll find a lot of scammy websites trying to get you to pay them to get the document. Any franchisor that is selling units in the state of Wisconsin is required to post their FDD on a government website for Wisconsin. And so for just about any brand you're interested in Google Wisconsin FDD search and you can find all of those documents for free, easy to download, easy to navigate. So there's a lot of information out there, don't pay anyone for it.

Guest 3: I would also just add a, a cautionary note to over reliance on the ftd. I think it's important to validate with specific calls like Michael described, information that you're taking from the FTD with existing franchisees because there is some level of discretion that the franchisor has with what it discloses in the fdd.

Host: Great. Moving on to question number five. To what degree is there operational flexibility? Who wants to take that one?

Guest 4: I'm happy to go. I feel like I've been talking, maybe too much, but.

Host: Peter, you're coming up next. Prepare for question number six.

Guest 3: Go ahead, Mike.

Guest 4: So I think that's actually operational flexibility might be the number one reason when I initially searched I avoided franchises is if I'm running a restaurant and I've got a great idea for a new menu item or I've got a different model of service I want to try out, I want to be able to do that and I don't necessarily feel like a full fledged entrepreneur if that stuff is off the table, which it generally is in a franchise system. That's not the point of this, this question. But I think it's an important aspect to consider in franchising. For us going through Covid as an example, in a restaurant brand, you are getting stuff thrown at you felt like daily for a couple months in terms of new regulations on safety procedures, social distancing, delivery, dine in takeout, da da da da da. And so being able to respond by adjusting how you conduct your business to that is really important. And in some franchise systems there's going to be wide latitude to deliver the service in different ways or the franchisor may be very quick to respond with changing its policies and procedures. And in other systems there may be very little room to deviate. So in a QSR brand, you, you can't really change the menu on the fly. There's a lot of work that goes into the supply chain. You're not really going to change your menu prices on the fly. There's time consuming stuff and work that goes into doing that. You're not going to suddenly be able to rejigger your drive thru or your dining room or your space to cater to a particular new method of delivery. And so I think the types of franchises that allow you greater flexibility, that is appealing. And so I think we highlighted like the disaster recovery businesses in the case ServiceMaster, ServiceMax, where you're not really being told much more in those brands than hey, you're going to go in and provide these various disaster recovery services, how you structure your crews, what equipment you buy, how you market your business, how quickly you get to places and quote and get back and go through the sales funnel, all these things are largely going to be up to you. So that could be liberating for some people that could be not enough value given to you by the franchise. Or if you want to be told more how to do this.

[1:11:12] Guest 3: Well, in most cases the examples that Michael just introduced were things you can't do or things you can do. The other side of the coin is things you must do. In, in evaluating this question, there are some examples, Planet Fitness is a good example where every, every couple of years franchisees are required to to invest in entirely new gym equipment, which is a, a very large capital expense above and beyond what it costs to build out the the location. I've heard of other examples, specifically in health and wellness where franchisors are experimenting with new modalities to roll out into their stores and they require franchisees to invest in expensive equipment that's new to the stores to support the new modalities that they're trying to roll out system wide. I think in some QSR examples there are also franchisors have also mandated investment in things like digital ordering boards in drive through lanes that might be capital expend above and beyond what franchisees anticipated having to invest in. So I think there's both the question of like, what can I and can't cannot, what can and can't I do as a franchisee and what might I be forced to do in the future that I'm not currently underwriting.

[1:12:38] Host: That's a great follow up point, Peter. And this, this point about yeah, what, what might I be forced to do is, is there a spectrum there? I mean, because you don't know what, you don't know, you don't know what the franchisor might dream up in two years that they're going to, that they're going to impose upon you. Is there looser, stricter language in, in your agreement with the franchisor that can kind of indicate how onerous some future requirement that's impossible to predict might be

Guest 3: in our, that language in our franchise agreement is the franchisor's standard language. But I have heard of examples where franchisees will know negotiate into their franchise agreements bespoke language that says, for example, we will not be mandated to invest in, in capital expenses on any more frequent cadence than our, our franchise agreement renewal term or sequence. And so in those cases, if there's a new modality that's rolled out that requires a capital investment, that franchisee wouldn't be required to make that investment until the franchise agreement term renews as opposed to, you know, in, in a year.

Host: Okay, question number six. What are the demographics of the current franchisee base? So, so what do we mean by demographics? What, what kind of metrics of the, of the, of the franchisee base are we looking at?

Guest 3: Yeah, so I think this in part goes back to the, to the idea that AJ raised at the top of the conversation around the density or lack thereof of the existing franchisee base or the system. And density, again is an assessment of how many locations the average franchisee owns. This matters primarily in a, in an M and A or acquisition heavy scaling strategy. So on balance, A, a less dense system is going to be more supportive of A, an M and a focused strategy than a more dense system for a variety of reasons. One, the there are already likely going to be in a dense system, franchisees of scale who are preferred acquirers for any locations that might transact. And then B, there are probably just going to be fewer locations that are transactable in a more dense system versus a less dense system. All else equal, this is one of the primary vectors that we, that we looked at when, when evaluating concepts to, to start Knight Franchise holdings with we wanted to find a system that had this critical scale that, that I mentioned before, kind of above 500 units, but also one that hadn't yet seen the consolidation activity that a system of 1500 plus units might have seen. And so I don't know the, the, the numbers in the joint right off the top of my head, but it's about 900, 900 units. The franchisor actually owns 150 of those units. So for all intents and purposes there are 750 transactable franchise locations. And I want to say the average franchisee probably owns three to four locations. So pretty, pretty fragmented system. The largest two franchisees own about 50 locations and there's a long tail behind that.

[1:16:25] Host: So this point about how many locations that the, the, the franchisor may own on the one hand you have to consider like what, however many locations it owns, only the, the remainder are those that might be acquisition targets for you. But what other, what other things to consider there?

Guest 3: Yeah, so I wouldn't even say that the point that I raised was the most important point when thinking about whether the franchise or own stores and if so, how many. I think the most important, the two most important points on this topic are one, does the franchisor understand how to operate a store in their system? And two, whether corporate is the management team of the franchisor is predominantly focused on being a great franchisor or is predominantly focused on being a multi unit operator because those take very different skill sets to be good at. So I would say again this is, I'm generalizing on balance. A franchisor that owns 15% of the system, 20% of the system is going to be a whole lot more focused on its own corporate owned portfolio of locations than a franchisor that owns 2% of the system, that primarily only owns stores to test new initiatives before they roll it out to the whole system. So I would say those are probably more important on this topic than just like, you know, how many franchise locations are there to acquire as a prospective franchisee.

[1:18:08] Host: So there's a sweet spot, not too many, not none, but kind of a small handful where you know that they are really getting frontline contact with, with the same experience that the franchisees are all having.

Guest 3: I don't want to be too prescriptive on like what is good, what is like the best situation. I think it's all situation specific where it's like if they're really strong operating locations that are not creating distraction for management, then like, you know, maybe more is better than fewer and maybe, maybe if it's an emerging franchisor, the franchisor is going to own a much larger percentage of the system to kind of like develop the brand before it puts that burden on franchisees. And so maybe a franchisor is going to own half the system to start, and then they're going to refranchise those corporate stores over time as the brand becomes more established and the attention from an appetite from franchisees is stronger.

Guest 2: I think also in this demographic bucket, we spoke a little bit in the case note on institutional ownership versus individual ownership. So we spoke a little bit about private equity ownership of the franchisor, but there can also be private equity ownership of the franchisee. So is this a portfolio of non, non institutional owners or is it a portfolio of institutional owners? And then also just the notion, especially in a classic brand of what, what's the average age of an owner? And if an average owner age is approaching 60 or something like that, that might present a programmatic acquisition opportunity as compared to if the average age is significantly younger. So what, was there anything else, Mike, when we spoke about demographics, we spoke about density, we spoke about institutional, non institutional ownership, average age, what?

Guest 4: No, I think we've, we've hit it.

Host: Yeah. AJ Programmatic acquisition. So I feel I should know this phrase. Is this something that, is this a phrase you came up with or is this one I should know from? I'm showing my own lack of MBA here that I don't know. Define it for us, please.

Guest 2: Yeah, it, it's, I've written a bunch about, about this notion of programmatic acquisitions, but the, the process of buying on a serial basis assets in either a given industry or related industries to, to help scale an enterprise as compared to growing organically exclusively. But, but, but I think in the franchise world that there are certain situations that particularly lend themselves to considering a programmatic acquisition strategy which can be very lucrative over long periods of time.

[1:21:13] Host: Well, and, and I, I think one of those is one of the pros you've had for franchising at the top, which is that integration is one of the biggest challenges of a, of, of a programmatic acquisition strategy. And that's one of the things that franchise systems make so easy or so relatively so easy.

Guest 2: Yeah. One more plug for the FDD franchise disclosure document. And I, I agree with you, Peter, Take it with a grain of salt. But franchisors are required to disclose every single franchisee operator in the fdd. So if you are considering a perc Mac acquisition strategy in a given logo, the franchisor very conveniently has provided you with the contact list of every single potential prospect.

Host: Yeah, for anybody who's ever engaged in a roll up or contemplating something like that, just being able to dump the contacts in the FDE FTD into your CRM and get to work is pretty enticing, I guess. Question number seven, is the system large or small? And what are the geographic dynamics? We've talked size already a little bit, but let's get into it a little deeper. Michael, you want to take that one?

Guest 4: Sure. I think we've covered size pretty well, so maybe quickly on, on geographic, it's generally going to be correlated to size, unsurprisingly. But the larger the system is by unit count, the more likely it's in many, if not all of the states. And I think understanding where a brand is on that stage is pretty important in your decision on where you're going to go in that brand. So if there's a great regional brand that has a super strong reputation in the Southeast or the Northwest or wherever, and you're going to be the first person to open those locations on the opposite coast. Back to what we talked about on what are you getting for that royalty for the start, you're not getting very much in terms of brand awareness for those royalties that you pay because nobody outside of that market has ever heard of this brand. You might as well just have started your own independent brand. If you're starting to do that in a concept that's growing very quickly and there are other people like you developing in other cities and states nearby, that critical mass gets built up pretty quickly, which is a definite advantage of being a franchisee. But if you're really being the first one out there and nobody else has taken any of those other markets yet, you might be asking yourself, is it really worth doing all of this work, paying all of these royalties for a brand that I'm going to basically build on my own for the people who live in this community?

Host: Excellent point. Question number eight. This has been touched on as well already a little bit. What are the store level economics and financial particulars of the franchise system? So really understanding unit economics and how money flows in and out of this business. Care to elaborate?

[1:24:05] Guest 4: A.J.

Guest 2: yeah, so when I think about unit economics, this is a super important topic to really drill into. And when contemplating the store unit economics, I like to think about two ways to approach it. One is from the balance sheet, how much capital is required to launch a store and some of that information is available in the fdd. And then additionally, what does the store level P and L statement look like? So with those two pieces you could figure out the return on invested capital for a new store. Similarly, you want to figure out the return on invested capital when acquiring stores. So not ground up, but acquiring stores. And so in this bucket you want to understand the finance ability of either organic or acquired growth. How much equity do you need and how much debt do you need? But, but this is a really, really important topic to consider. And in the first case note we, we did some of the store level economics are really high. So Peter, I think you calculated these, so I'm going to attribute it to you, whether right or wrong. But Planet Fitness has store level returns of approximately 35% European wax, 60% massage envy starts with a 4. So these are really, really fantastic unit economics to aspire towards. Quick disclosure, when we calculated return on invested capital, we did not consider leverage, we did not consider changes in working capital, we did not consider maintenance capex or episodic franchisor mandated. Yeah, I guess you would call that maintenance capex but reimaging expenses periodically. So these are directional indicator of unit economics, but probably not perfect. And then I feel obligated to highlight that franchisor franchisee unit economics do not reflect sort of the corporate SGA or the corporate shared services that a multi unit operator would need need to have. So that's really the four wall store field economics. And from that to get to a free cash flow number you need to deduct the corporate, the corporate drag.

Host: AJ, do you highlight this as something you think is particularly important? Because simply it's, it's just fundamentally it's kind of the business model. I mean it's the numbers under underpinning the business. And do you find that maybe people don't assess this as closely as they should?

Guest 2: Yeah, I mean I'm working on this franchise disclosure document thing and I'm using crumble as my. As my example the ubiquitous cookie company. And I'm using it because my daughter loves crumbl cookies. And so over the weekend I was telling him about the FDD and talking about crumble and my wife spontaneously said we should open up a crumble. Complete disregard to the economics. Just I like cookies want open up a crumble. So yeah, I think people are susceptible to at least slightly de emphasize the economic underpinnings and the map for, for either service or brand affinity.

[1:27:42] Guest 3: Will, can I just double click on something that AJ introduced? I think is really important probably particularly for your for your listeners who I suspect are going to be considering scaling beyond one or two stores and will likely need above store infrastructure that that AJ mentioned. So it's, it's not only an assessment of the headline return on invested capital that you can generate from investments in de novo developments and or M and A in the system. It's also like the the dollar quantum of store level profit that the average store generates. And I'll put some specific illustrative numbers around what I'm talking about to hopefully make it clearer. If a store on average only generates $50,000 of annual operating profit, it's going to take opening or acquiring a lot more stores to be able to a lot more stores cluster geographically to be able to afford a multi unit general manager who's going to be tasked with on a daily basis making sure those stores are are running as you hope they will. On the other side of the spectrum, a Planet Fitness can support two 2Planet Fitnesses can probably support a a multi unit general manager because the average Planet Fitness probably generates I'm going to spitball here. I guess it probably generates $750,000 of store level operating profit. So so I think that's a really important assessment as well that the actual dollars of operating profits the average unit generates when you're considering building a multi unit portfolio of these and is that

Host: so so that you're calculating in your own mind what it will like the number of locations, the number of moving parts it'll take to be able to start kind of introducing middle middle layer

Guest 3: management or I think it's something that you talk about regularly well on your your podcast, the notion of working in the business versus working on the business. If you start with a two store acquisition in Planet Fitness, you're going to be pretty close to working, spending more of your time working on the business than if you buy a two store portfolio of joint joint chiropractic clinics, for example.

[1:30:11] Host: Well, this also reminds me of the phrase I saw on Twitter recently, new to me, maybe others know it, return on brain damage. So as opposed to return on invested capital. It's like, you know, if I have to have, you know, 20 stores, 20 locations each with their own employees and their own interactions with customers to get to a million dollars of operating profit versus, you know, two Planet Fitnesses, you know, there's, there's going to be kind of a lot of a lot less operational pain, you would think, in option B versus option A. Michael, from your experience, do you have opinions here?

Guest 4: Yeah, Peter Beat me to, to the point I was going to highlight on on size. And one other aspect of that isn't just can you afford the GNA, but in his example, 15 of these $50,000 a year units to get to the same amount as One Planet Fitness. Well, not only that, but those 15 units that you've got probably need more than one multi unit manager because there are 15 different touch points for things to be managed in verse one. So even though you need more units to get to afford the same level of genetic, you also need more gna. So it's a really disadvantageous position when the cash flow per unit is quite small.

Guest 2: Will, can I just throw in one more element on unit economics without belaboring this issue? But looking at the invested capital, looking at the free cash flow at the store level, looking at the G and E drag, I think it's also really worthwhile to look for in the FDD store closure rates. So that's sort of the risk adjusted return on capital. So store closure REITs don't tell us if a store is doing well or just surviving, but it is some indicator of how often a store closes in a given system. So it's something I would look at also when thinking about unit economics.

Host: Okay, two more to go. Question nine was what are the actionable entry points into a system? Michael, I'm going to give you this one because we spent a good amount of time in our interview on this very question. So please go ahead.

Guest 4: Sure. So we talked a lot about size and how often portfolios come up for sale based on the age of the owners and stuff. I think the big piece we have not discussed is the receptiveness of the franchisor to you coming into the system. So we highlight in the case that there are really successful systems that many people would love to be a part of, like Domino's, like Chick fil A, like McDonald's that have extraordinarily difficult acceptance processes to become a franchisee. And in some cases, regardless how talented or qualified you are, if you don't meet certain criteria like having worked at a Domino's or been in the McDonald's family, you're just not going to be allowed in. And that's a heuristic that they use to keep the type of people running their restaurants that they want. So I always give people the advice once you've identified a brand that you think is interesting before you start hunting for deals, talking to brokers, calling the franchisees, trying to find an opportunity to buy something, call the franchisor introduce yourself, explain to them what you're trying to do, where your money's coming from, how big you'd like to get all these different things, and make sure that they're at least tentatively receptive to you doing that, because you can save yourself a lot of heartburn. So having spent a bunch of money to get a deal to an LOI or further on and then show up on the franchisor's doorstep only to hear, sorry, we're not interested in people backed by private equity or we're not interested in people with no experience in this industry.

[1:33:53] Host: One of the other points made in the, in the case note about this was also willingness to build more stores. And Michael, I think that came up with Wingstop, so. So talk about that a little bit.

Guest 4: It did. I would say Wingstop knows that they have a very attractive system for developing, and so they don't have maybe as much difficulty as some other systems do in getting franchisees who acquire units to also want to develop them. But Wingstop and any other brand will certainly say to you, if you're entering the brand via acquisition, okay, you're buying these locations. We think this market isn't fully saturated yet and can support X number of additional locations. We'd like you to buy the rights from us and go build those as well. And it's sort of a. Put your money where your mouth is. If you're so interested in buying and operating our locations in this market, are you really interested enough that you'll put dollars into building new ones to help grow the brand? Or are you just interested in kind of consolidating cash flow and not kind of taking any risks which make you a less appealing franchisee to have?

Host: Peter maybe this is a question for all of you. These stories of these outsized successes of people who bought so many franchise, who built up these giant franchise businesses, those folks are also probably building a lot of those locations. They've just like Michael described, they're going to be both buying and building.

Guest 3: Definitely. I think it's a combination, a combination of both.

Host: So to be a real serious buyer, an acquisition entrepreneur in the franchise world, be prepared to eventually, maybe you want to sidestep it initially, and that's why you're going this path. But eventually be prepared to build some. Some units out and expect the franchisor to smile upon that, if not almost require it.

Guest 4: And to be honest, there's an absolute negotiation around how many units and how long you have to build them. But if you look at a system and say God, I would never want to build a new unit in this, but I want to go buy these. I would stop and reconsider whether you even want to buy them. If the math is really that unappealing to you to develop new locations, it's probably not the greatest system. And you might want to walk away. You might only want to build three instead of six. Very reasonable to, you know, have that conversation. But if you really want to build zero, I'd kind of be waving the red, if not the yellow flag.

[1:36:19] Host: And, Michael, was the agreement that you had, like, were you contractually bound to build out a certain number of units in, in your markets when you made your initial acquisition?

Guest 4: We agreed to build five after our first acquisition, and once we had built those, we agreed to build five more. And then after doing another acquisition down the road, we agreed to build 10 more on top of that.

Host: And that was all negotiate. You were. That was part of your negotiation. You arrived at those numbers after, back and forth, correct.

Guest 4: The. The consequences for not doing it were only that I would have lost the upfront investment I made to buy those territory rights. It wouldn't have impacted anything regarding the restaurants I already had up and running, but it would have left me in a position with the brand where now I've made a promise and made an investment saying I would grow the brand. I've reneged on that investment for one reason or another. They're probably not going to want to see me grow any more than that. And I've sort of burned that relationship. So not advisable.

Host: Well, Michael, your point about, you know, it being a yellow or maybe red flag if, if you yourself really just for whatever reason, find that you don't want to have to ever build any more locations in. In a system you're considering acquiring into is a nice segue to the final question, kind of the X factor question. Do the entrepreneur, do your personal goals fit tightly with the system? AJ also just touched on this with the CRMBLE story. Aj, why don't you take this, why don't you take this, this final one. We've been, we've been circling around it for a while, but let's make it explicit.

Guest 2: Well, the CRMBLE system fits my wife's and daughter's objectives. I don't know if it's my objectives, but, yeah, I think this was just sort of our, our catch. All sort of trying to bring back the examination and analysis process to Is this a match for you? So. So somewhere towards approaching the tenth question, you unmask what the. What the brand does and you decide whether it fits based on your, your skills, your strategy, your capital, your growth expectations. But, but you know, some people can't see themselves in a oil changing business, so not for that. Some people have to be in the premium logo within a given category. That's fine. But, but just trying to assess, does it all come back to a place where you could actually build a meaningful, fulfilling life with this brand or logo, part of it as your entrepreneurial channel? And does it generate the financial outcomes that you individually seek and require and just sort of making sure it all lines up and fits for what you're trying to accomplish in your, your life?

[1:39:15] Host: I love this line. For example, a model with compelling financial attributes and an auto services concept might make all the sense of the world for some searchers, but could be met with flagging energy for others who just cannot see themselves building a career underneath the hood of a car. Very, very well put.

Guest 2: Can I take credit for writing that? Mike and Peter? Did I, did I write that line a hundred percent?

Guest 3: 100.

Guest 2: Sounds like an EHA line.

Host: It's so, it's a great line here, underlined. But AJ let me actually, now that we're talking this out, let me push back on it a little bit. The whole point here is to unmask at the end. But if I'm so averse to not working in a premium brand or working under the hood of a car, why wouldn't I want to know that sooner rather than doing a lot of analysis and only, and then only later unmasking and being like, oh well, I, you know, I could have told you from the start there was just no way I was going to get involved in Midas. You know, why not do it kind of contemporaneously contemporary?

Guest 2: Sure, good question. Will.

Guest 4: Will.

Guest 2: I hope, I hope curious and open minded students get to the end and when they unmask, they say, oh my gosh, I never realized Midas is going to give me everything I wanted. Maybe I really should consider Midas and it really fits everything I absolutely wanted, craved and need. I just didn't realize that at the beginning of my journey. And now after going through this process and exploration analysis, I realize I really should consider that. And if they can't still do it, that's fine. That's always their choice. But if a brand or logo is going to fulfill every one of your personal and economic needs, maybe you should consider it regardless of what the business does, as long as it's legal and ethical.

Host: Michael, how much do you like chicken wings.

Guest 4: I am a huge chicken wing fan. I would not have said that when I started with Wingstop, I was average enjoyment of wings, and I have more appreciation for them now than I did before.

Host: Peter, to you, you know the question.

Guest 3: Yeah, I would say the same thing about chiropractic care. I'm, I'm not a chiropractic evangelist, but I get adjusted when I'm, when I'm in market with, with our clinics. And I think for a lot of people it is, it is highly therapeutic and in often cases addresses things that western medicine might miss.

Host: Gentlemen, this was a fantastic conversation. Thank you all for giving me so much time. Was there anything that we didn't touch on? It was a really a comprehensive rundown. But was anything left unsaid about this whole question of how to choose a brand?

[1:42:01] Guest 2: Well, thank you so much. You've been so generous and kind to include me, and I'm really grateful.

Host: Well, you're welcome, A.J. as I said at the top, it's really an honor to finally be face to face with you and get you on, on the podcast. I'm sure there will be more opportunities for more appearances. This fantastic case note will be linked in the notes, of course, as will the, the, the other note that you referred to, A.J. which kind of talks about franchising more generally from an ETA perspective. And all your contact information LinkedIn's will also be in the notes, Gentlemen. So thank you all for coming and, and that. That does it.

Guest 4: Thanks, Will.

Guest 2: Have a fantastic day.

Guest 3: Thanks, Will. Bye, everyone.

Guest 2: Thank you,

Guest 4: Sam.