Franchise Fraud Harms the Economy

Look. I’m not an economist. I have a master’s, but I’ve never took a class in economics. I’ve never even taken a business class. I don’t claim any economic expertise and I might be wrong here and there.

But this is not rocket science.

The franchise industry offers franchiSORS the opportunity to use franchiSEE money to expand their businesses risk free. Just about anyone who subscribes to the notion that “if the government is allowing it, it’s okay” might be tempted to get on board regardless of any human harm done.

But what is the economic impact of franchiSEES investing $459.6 billion in franchiSORS’ businesses, opening 353,685 new outlets to only achieve 78,878 outlets in net growth? (Learn more qbout what Franchise Grade means by ‘net growth’ here.)

Franchise Grade graphic with numbers

Speaking in terms of ‘net’ numbers, approximately 78% of the money invested by franchiSEES between 2010 and 2018, or $357.1 billion, was put into franchised outlets that are no longer operating.

FranchiSORS have a sweet deal. They get to expand their own businesses at no risk to themselves. They take the benefits and the franchiSEES take the losses.

The problem for the economy is that this arrangement incentivizes franchiSORS to expand illegitimately, meaning that demand for their products and services may be low while the supply is high. But since franchiSORS are protected from risk and make money when a franchiSEE invests and opens a new location, the franchiSORS keep right on selling new franchises and opening new outlets.

Illegitimate franchiSOR expansion that is paid for by franchiSEES rather than from selling goods and services floods the market with goods and services for which there is little demand, driving prices down and making it more difficult for non-franchised small businesses that are not subsidized by franchiSEES to compete.

This illegitimate expansion creates a false impression of economic strength while small mom-and-pop businesses fail.

And worse, the dreadful net closure numbers don’t tell the whole story. Many of the franchised outlet locations that don’t close shop (and are considered part of Franchise Grade’s ‘net growth’) transfer ownership from one franchiSEE to another. Over a period of ten years, for example, three franchiSEE families may own the same outlet and the franchiSOR may collect a hefty franchise fees from each family.

Such an outlet would still be counted as “net growth” to the franchise industry, but that doesn’t mean the outlet survived by taking in money from the consumer because it supplied a product that was in demand at a price consumers would pay. No. Instead, it may have supplied a product at a falsely low price that in reality was subsidized by multiple franchiSEE owners’ homes and life savings.

The price of the goods and services Americans enjoy when they frequent franchise outlets are often subsidized by franchiSEE families who are on the path to bankruptcy.

That’s fraud that affects everyone.

I’m not an economist. I can’t fully conceive what a bubble of illegitimate business expansion means for the economy as a whole, but it can’t be a good thing.

Some pro-franchiSOR parties may argue that the government shouldn’t be intervening in individual contracts.

But by not intervening, and by allowing the industry to set its own standards and self-regulate, the government has allowed predatory practices to become the standard.

It’s not only the franchiSEE families who suffer when lack of government regulation promotes illegitimate expansion and a bubble economy… it’s everyone.

The government is obligated to regulate to protect all of us.


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