RSS feedsRichard Branson once quipped that business opportunities are like buses: there’s always another one coming.
While it’s interesting that Sir Richard used the word bus rather than train, the entrepreneurial culture he embodies appears to be alive and well in Britain and recent figures on franchising bear this out.
According to a British Franchise Association (BFA) survey earlier this year, the number of franchises in the UK has grown at its fastest rate since 1999 to a total of 760. The survey shows that last year was a record-breaking year on key turnover and employment measures. For the first time in franchising history, the industry’s annual turnover broke the £10bn barrier, rising 13% to £10.3bn. More interesting is the fact that 92% of franchisees claim to be trading profitably. This is an increase from 88% in 2004, and the sector’s confidence remains optimistic. Nine out of ten franchisors and 61% of franchisees expect their business to improve in the coming year.
Taxman’s attention
Accountants, FDs and finance professionals should be aware that the business opportunities from this £10bn sector are indeed coming to the UK economy. HM Revenue & Customs has certainly taken notice of the franchising sector and issued guidance on franchising in its recent published set of tactical and information packages. Franchising was one of only five industries covered in the guidance issued so that HMRC inspectors and others are on top of the pertinent issues, underlining the fact that it is taking this growth seriously.
Another major issue that finance professionals need to be aware of is the special tax commissioner’s recent decision surrounding HMRC’s approach to relief on the sale of goodwill. In the case, the appellants, Balloon Promotions, sold four restaurants to Pizza Express in 1996 after many years with the franchise, paying 4% of turnover to Pizza Express as a franchise fee.
Ownership of Pizza Express had changed in 1994 and the fee had been put up to 6%. The appellants were part of a consortium of franchisees that negotiated a sale of more than 30 restaurants to Pizza Express. A total sale price was negotiated by the consortium and then divided among the restaurants in proportion to turnover. While the sale price for each outlet was then apportioned to tangible assets, the balance was specified as goodwill (except for the £1 fee for cancellation of the franchise).
The appellants claimed rollover relief for the sale of their goodwill, which HMRC refused, saying the true position was that the amounts specified as goodwill were a consideration for the cancellation of the franchise agreement and would not attract rollover relief. The appellants argued that any payment above the value of the tangible assets was purely for goodwill. HMRC looked to further define goodwill and specify what would attract rollover relief and what wouldn’t. The Special Commissioner cautioned against taking an overly analytical approach.
Goodwill hunting
HMRC argued that since goodwill belonged to the franchisor, it couldn’t be sold by the franchisee. The appellants and the Special Commissioner agreed, but only insofar as the goodwill referred to what was attached to the name of the business, trademarks and so on. That did not extend to the goodwill built up by the franchisee as proprietor of the business, attracting custom to the particular venue because of the way that venue was operated. That was what Pizza Express was paying a premium for above the value of the assets and had demanded covenants to protect. The Special Commissioner ruled that Pizza Express had paid for goodwill, not cancellation of the franchise agreement. The Commissioner also agreed with the amounts allocated to goodwill and the appeal was allowed. HMRC has not appealed against the decision.
The continued growth of the franchising industry will generate new tax issues as the industry develops in terms of employment, turnover and diversity. The accountancy industry will need to stay on top of developments in order to capitalise on opportunities.
Ticking the right boxes
Accountants should ensure that all potential franchisees have done the following:
• Examined the market to see what other franchises exist and determined which of those pose the biggest business threat and which are most successful.
• Attended franchise exhibitions and seminars and examined directories and dedicated publications.
• Taken advice from relevant organisations, such as the British Franchising Association and Business Links.
• Investigated the franchisor, ensuring it has the financial resources to support the franchise operation.
• Checked the format or regularity of training provided and support for overcoming any weaknesses.
• Looked carefully at new franchise concepts. Planning the success of a franchise should include factors such as whether it has been piloted and how long the franchisor has been in business.
• Checked the legal agreement. For example, has the franchise agreement been vetted by a solicitor specialising in franchises?
• Taken sufficient time to research all aspects of the market, not rushing into an agreement despite its enthusiasm for such an exciting and potentially lucrative business prospect.
Bob Mitchell is a partner at Baker Tilly
