How to Evaluate Real Estate Franchises

Hidden expenses not often evaluated by franchisees before it's too late

There is no doubt that if you want to start a real estate brokerage, purchasing a franchise is definitely the route to take.  This industry is dominated with numerous regulations, rules and high fees that "reinventing the wheel" is a huge waste of time and money.  There are numerous companies to evaluate when choosing a brokerage but more importantly there are numerous fees to evaluate as well. 

You might already have a company in mind.  The intent of this article is twofold:

•1)      To allow you to fully examine a company you already have in mind and reinforce or eliminate this company based on the below criteria.

•2)      To help you evaluate the numerous companies and decide which best matches your goals.

Renewal Term Fees

All franchises have renewal terms.  Approximately 60% of real estate companies require their franchisees to pay renewal fees to renew these terms.  These renewal fees are typically a few thousand dollars and are required every year or every few years.  These franchisors claim these fees are for administrative costs, technology fees or other support related costs.  This is essentially a junk fee.  Do not choose a real estate franchise that charges renewal fees.  These fees should be included in the costs that are collected during the normal course of business.  Companies that charge renewal fees aren't concerned with their franchisees financial independence.   

Territory Size

Real estate companies make their money by zoning small territories for their franchisees.  Zoning by zip code is the most common type of territory to offer.  Paying a high initial franchise fee and portion of your profits for exclusivity to only one zip code is unacceptable.  Avoid any real estate franchise that offers exclusivity to a territory with less than 150,000 people.  Check the census bureau website (http://www.census.gov/) for the latest figures of the area you are interested in purchasing.      

Additional Branch Fee

It goes without saying that when you buy a real estate franchise you will want your franchise to grow.  Growth should be to the benefit of the franchisee, not the franchisor.  However, many franchisors charge an additional fee for branch offices.  If you have plans for owning a small brokerage of 6 or less agents, then this fee won't matter to you. However, if you want a franchise with unlimited potential this fee will have a huge impact on your bottom line.  When considering a real estate franchise, always ask the franchisor about additional fees for branch offices.

Office Requirement

Statistics overwhelming show that clients don't like going to real estate offices. They would much rather meet in their house or a neutral location (such as a local coffee shop). Statistics also show that most agents prefer to work out of their house. With a computer and printer, this can easily be accomplished.  A brick and mortars office is large expense for a broker. The broker must then pass that expense onto the agents in the form of higher commission splits. This makes everything more expensive.  A real estate franchisor should have the technology available for a franchisee to work out of their house.   Any company that requires the franchisee to maintain an office should be avoided at all costs.  This is a large, expensive and unnecessary expense with an old-school mentality. Your real estate franchise will never reach your desired level of success within the confines of a brick and mortar office.

Percentage of Profits

Perhaps by a lack of imagination or a lack of leadership, franchised real estate companies are dominated by one out-dated type of business model.  This business model calls for a percentage of sales on gross profits (typically between 4 and 6%).  Do not buy a real estate franchise that collects fees on a percentage of gross profits.  At first, this might seem like an acceptable form of payment. However, you want your real estate franchise to be large and successful or else you wouldn't be spending thousands of dollars and hours investing in one.  The first rule of business is to always think big.  If you truly believe in yourself and your abilities you must know that building a large successful real estate brokerage is well within your capabilities.  With your franchisor collecting a percentage of gross profits, you are paying a higher fee the most successful you become, when in fact that opposite should occur.  This type of fee constantly drags down your profit margin and returns your success rate back to normalcy. 

Always look for a company that charges their franchisees a monthly fee per agent. This type of fee structure is much better for franchisees that plan on growing a successful brokerage.  

Touting Brand Name

Statistics overwhelmingly show that choosing a Realtor based on their company affiliation is a virtually obsolete practice in today's society.    In the past, it was common for someone to pick up a phone book and find a Realtor right out of the yellow pages.  Nowadays a vast majority of clients find their Realtors by referrals from their friends or via the Internet.  If a Realtor does a good job for their client, that client will call that Realtor again and again no matter which company s/he works for.  Do not allow a real estate franchise to justify their high fees by claiming their brand name is recognizable in the Industry.  It may be true, we can all name at least 5 major real estate companies, however, when it comes down to choosing a Realtor, the client won't care which company it is, as long as the Realtor performs well.

There are several companies who have been established for decades whose fees are astronomical. Their main selling point is their brand name.  Make sure you weigh the value of those extra fees to the benefit of the brand name; you will find it's not worth the money.   

Residuals/Profit Sharing

Profit sharing and residual payouts is the newest "scam" available that is unfortunately dominating the real estate industry.  It ruined the insurance industry decades ago and has now spread to the real estate industry.  Some new companies are using this business model as a central marketing campaign to spread their business.  These same companies are advertising these profit sharing programs as retirement programs, when in fact they are the exact opposite.

The concept of the program is as follows: Agent Jones recruits Agent Smith to ABC Realty [made up company name]. ABC Realty offers agent Jones a percentage of all closed transactions Agent Smith closes. So Agent Jones goes out and helps his brokerage company grow. Only after Agent Smith closes a transaction, Agent Jones gets a portion of the commission. Agent Jones thinks this is great as he didn't close a transaction to collect a check.

Here is the problem: In order for brokerage companies to offer these profit sharing payments, they have to raise commissions and fees in the first place. A brokers profit comes from agents closed transactions. Therefore, if a broker wants to offer MORE money to an agent as a referral fee, they have to raise commissions.  The money has to come from somewhere.

Never choose a company that has a profit sharing or residual program. Here are several reasons why:

•1)      These programs are advertised in "perfect scenario" situations. In other words (keeping with the above example), Agent Jones recruits 10 agents and they all earn $100,000/year, so Agent Jones will receive a huge payoff.  In realty, if Agent Jones recruits 10 agents (which is extremely difficult to do in the first place) the chances are extremely slim that even 2 of those 10 will be top producers.

•2)      If you look at the profit sharing and residual plan from the simplest form, these companies are simply giving back to you money they withheld in the first place.  Think about it from this angle. If the program wasn't in place, couldn't they offer you lower fees and a better commission split? The answer is yes, so in essence they raised your fees and commission to account for this payout of profits.

•3)      If you purchase a franchise from companies that offer these profit sharing and residual programs your agents will focus on recruiting agents and not closing transactions.  So now you have a large office with unproductive agents who are now realizing this residual system doesn't work because no one is closing any transactions. Remember the old adage there are too many chiefs and no Indians?  That is exactly the case here.  Your agents must have one job, sell real estate. The recruiting should be left to the broker. The more your agents spend on recruiting other agents, the less time they spend on closing transactions. Remember as a real estate broker, closing transactions is where your profit comes from.

Initial Franchise Fee

Franchisors actually incur numerous expenses when signing on a new franchisee, however, charging $25,000 or more for a franchise fee is ridiculous.  You should not have to rearrange your life's expenses and put your family at risk just to start a brokerage.  A respectable franchise fee is around $15,000-$20,000.  Any company who charges more for a franchise fee is simply overcharging you.  You should be concerned about the benefits, support and training from a company who charges less than $15,000 for a franchise fee. 

Companies that offer low franchise fees are doing so for a reason.  Think of it like this, when you go to a reputable clothing store and see a shirt you like for $40 you can see and feel the quality of the fabric, the stitching, comfort, etc.  Now, if you go to another less reputable store and see the same style shirt for $10 and examine it, you will see the fabric is different, the stitching is shoddy and the shirt is less comfortable. From the outside the shirt looks the same.  The $40 shirt will last longer and feel more comfortable.  The same goes with a real estate company.  Some offer low franchise fees and make many promise but don't deliver.  However, a company with a strong foundation and support structure will always charge at least $15,000 for an initial franchise fee.

 Virtual Office

Many companies claim they have virtual office technology but in reality, these virtual offices are just a File Transfer Protocol (FTP) site for downloading company forms.  A true virtual office should replace what an agent and broker can do in a normal brick and mortars office.  A virtual office should have communication capabilities.  The communication capabilities should have:

•·         Forums

•·         The ability for the broker to post messages

•·         The ability for the broker to view the agent's current and past transactions

•·         The ability to store files

•·         The ability to create broker demands

A true virtual office should allow a franchisee to operate the brokerage via the Internet without a brick and mortars office.

Operating Fees

Some real estate franchisors treat their franchisees like employees. They require all kinds of expensive add-ons and technology that cut into the franchisees profit margin.  Before buying a real estate franchise, take a close look at the Uniform Franchise Offering Circular (UFOC).  The UFOC clearly defines what the franchisor will do for you and what they expect of you.  Items 5 through 10 of the UFOC defines the fees, royalties, advertising fees and all financial arrangements including restrictions as to sources of products and services.  Review these fees carefully and look at the bottom line (total of fees).