My partners and I regularly work with franchisor clients and prospects, who have excellent franchise concepts and good teams. However, they often lack the funding firepower to drive growth and move their brands to the next level. Many of these franchisors are founderled emerging franchises, but the dilemma of growth funding also applies to larger, more mature franchisors.

I’ve been in franchising since the 1980s, and I’ve seen a clear shift in what makes a successful franchise. Into the early 2000’s, many franchise founders bootstrapped their way to success. However, in today’s increasingly sophisticated and competitive franchise environment, poorly funded franchisors are more likely to stall and fail, even if they have a great concept. As a result, private equity, venture capital and angel investors are playing an increasingly important role for franchisor success.

“Into the early 2000’s, many franchise founders bootstrapped their way to success. However, in today’s increasingly sophisticated and competitive franchise environment, poorly funded franchisors are more likely to stall and fail, even if they have a great concept

Let’s look at some best practices to bring investment deals to fruition. Two key elements of a successful deal are: ensuring that the search and deal structure meet regulatory requirements, and getting the right investor match for the franchisor.

Complying with Securities Regulations

The first step in a franchisor’s investment search is to understand applicable securities regulations. In the case of the United States, the agency responsible for regulating the securities markets and protecting investors is the SEC – Securities and Exchange Commission. For readers outside the U.S., your home country likely has an equivalent regulatory agency.

While U.S. franchisors are quite familiar with FTC (Federal Trade Commission) regulations for selling franchises, we franchise executives must also bear in mind the importance of SEC regulatory compliance for investment deals.

Realizing the growing importance of growth funding to franchisor success, I decided to invest months of study time and multiple tests to become a FINRA-registered investment banking representative. FINRA – the Financial Industry Regulatory Authority – is an independent, nongovernmental organization that writes and enforces the rules governing securities firms and their brokers in the U.S.

As a FINRA-registered investment banking representative, I am able to offer a much broader range of investment advisory services to my franchisor clients, while maintaining careful compliance with SEC regulations.

I am associated with and sponsored by an investment banking group, which is a broker-dealer, licensed by FINRA and SIPC (Securities Investor Protection Corporation). My sponsoring brokerdealer helps to provide compliance oversight and other supporting services.

Are all investments subject to SEC rules? No. SEC rules may apply differently, depending on the type of investment deal or the type of investor. This is similar to the FTC franchise rules, under which some franchise transactions are exempt from the FDD disclosure requirements. In the case of securities regulations, it is critical that you clearly understand when and how SEC rules apply to an investment transaction.

“One of the most common risks of running afoul of SEC regulations is related to brokerdealer registration”

If you are seeking an investment and you are not familiar with SEC regulations, you should seek advice from a securities attorney, who can explain those rules and provide guidance on compliance. When appropriate, you should also consider working with a registered investment banker

SEC compliance from an investment banker’s perspective

GT Securities, Inc. is a full-service FINRA/SEC compliance and regulatory banking platform, on which independent investment bankers, M&A advisors and global and domestic institutional financiers transact deals. Jay Turo, managing partner at GT Securities, explains the benefits of using an investment banker: “From both the perspective of the franchisor and the perspective buyer/investor, utilizing an SEC/ FINRA registered investment banker to broker and structure deals connotes professionalism and seriousness of purpose,” states Turo. “It also ensures proper compliance with all applicable laws, rules, and regulations if the deal involves (or potentially involves) the offer or sale of a security.”

The legal risks of non-compliance

One of the most common risks of running afoul of SEC regulations is related to broker-dealer registration. In brief, the SEC requires that any person that acts as a “broker” or “dealer” in securities in interstate commerce must register with the SEC. In particular, this applies to “finder’s fees” for intermediaries, who introduce companies to investors and/or negotiate investment deals.

According to the FINRA website, “With few exceptions, brokerdealer firms must register with the Securities and Exchange Commission (SEC) and be members of FINRA. Individual registered representatives, or registered financial professionals, must register with FINRA, pass a qualifying examination, and be licensed by your state securities regulator before they can do business with you.”

According to a 2018 article in Law360, “Individuals or firms who engage in such activities without registration face SEC enforcement actions and risk civil monetary penalties, disgorgement, bars from future activities, and other consequences. Issuers who utilize such individuals or firms could also be subject to SEC enforcement actions for causing or aiding and abetting the violations. Perhaps even more importantly, the offering may be subject to rescission by investors.”

Trying to fly under the radar?

I’ve known some consultants and even private equity professionals, who claim that smaller investments (say under $10m) are unlikely to attract SEC scrutiny. As such, for decades, unregistered intermediaries have brokered investment deals, often disguising finder’s fees as “consulting fees.” Here’s why intermediaries, companies and investors alike should avoid investment deals involving unregistered finders:

  1. Risks for consultants and intermediaries – With improved financial tracking systems in recent years, the SEC can more easily “follow the money” to identify finder’s fees paid to you as an unregistered intermediary. Also, according to the SEC website, enforcement officials are relying increasingly on whistleblowers to identify transactions that violate SEC rules. All it takes is one disgruntled employee or investor to flag your transaction for SEC scrutiny. The penalties often include disgorgement (repayment of all fees), often with fines of hundreds of thousands of dollars
  2. Risks for franchisors seeking an investment – While it may be tempting to offer a modest finder’s fee for an intermediary to identify investors, if the transaction violates SEC rules, your company may become a target of SEC enforcement actions. Moreover, you may risk recission (cancelling the investment contract and returning the funds) or litigation by investors or other interested parties. For obvious reasons, no franchisor wants to incur the legal costs and brand damage of such legal actions
  3. Risks for investors/owners – Ensuring SEC compliance should always be part of your due diligence and deal process to execute a clean transaction. Think about your exit strategy. In seven or ten years, when a potential buyer looks at the company, a securities violation is highly likely to come up as part of a new buyer’s due diligence. This can put a future deal at risk or significantly impact the reputation and value of the company upon exit.

Bottom line, consult a qualified securities attorney, and only work through registered securities professionals and broker-dealers.

Two emerging franchisors that found the right investors

Finding new investors, whether a minority investment or an acquisition, is not all about the money or deal terms. A good investor should also bring business know-how and share your mission and values. Let’s look at case studies of two emerging franchisors: Code Wiz and Senior Care Authority.

Code Wiz

In March 2021 Tutor Doctor announced its acquisition of Code Wiz, a Massachusetts-based children’s enrichment educational service franchise that teaches computer coding and robotics. The parent company of Tutor Doctor is Ontario-based Clear Summit Group, Inc., which has a portfolio of subsidiaries and affiliates that include several emerging franchisors.

Ruth Agbaji, founder and CEO of Code Wiz, states, “I was looking for a partner that shares the same values as me. A partner that truly cares about impacting the lives of children. I was also looking for a partner that believed in me personally and someone who was interested in letting me continue to lead Code Wiz to greatness.

“The deal was a dream come true. Prior to the partnership, I always believed Code Wiz had something unique and special, but I didn’t want to scale beyond our support system. The experience and the infrastructure that Tutor Doctor has brought to the table allows us to bring Code Wiz to families much faster than I would have on my own.”

Agbaji also shares sage advice for other emerging franchisors seeking investors. “Make sure that whomever you are inviting into your business brings much more to the table than just money. In the end, just as it is with our franchisees, it’s all about the relationship that you’ll have with your new partner, and I believe that can make or break a partnership down the line.”

Senior Care Authority

Senior Care Authority is an emerging franchisor in eldercare consulting and senior living placement, based in Petaluma, California. In August 2021, Senior Care Authority founder and CEO Frank Samson finalized a minority growth equity investment agreement with an angel investor. “Although Senior Care Authority experienced strong growth over the past few years, I realized that additional capital would provide the financial firepower that we needed to expand new marketing and franchise support initiatives and take our franchise to the next level,” explains Samson. “I was seeking a minority investor, who would provide board-level guidance.”

Samson’s entrepreneurial experience in franchising goes back more than 30 years. In 1996, Samson founded In-House Travel Group, a franchise that he built to over 200 units within three years and sold to Uniglobe Travel in 1999.

“I’m a franchise entrepreneur at heart, and candidly, bringing on board a business partner at Senior Care Authority was new for me,” continues Samson. “However, I quickly realized that having the know-how and business input of a highly successful investor was a major asset for my company, beyond the actual investment. In just a few months, our organization has achieved transformational improvements in our financial planning and strategic growth. I’m very pleased with the new direction of Senior Care Authority, as we move into 2022 and beyond.”

The author

Dan Bish is a FINRA-registered investment banking representative, and a partner at FranLaunch USA, a franchise management firm that provides management expertise to emerging U.S. franchisors and international franchise concepts entering the U.S. market.