What Valuation Multiples Are Used When Selling a Franchise?

Franchise owners preparing to sell need to determine a fair asking price, but valuing a business isn't always straightforward. Franchise resale valuation multiples provide a starting point, although the final price depends on the business's earnings, the brand and what buyers are willing to pay.

While franchise valuations once relied heavily on revenue, buyers today are more interested in profitability and the cash flow a business can generate.

Anthony Venette, team lead of valuation services at Withum, explains that the right valuation method depends on the size of the business, its operating structure and the risks associated with the investment.

Valuation methods

Two of the most widely used measures in franchise resales are seller's discretionary earnings (SDE) and earnings before interest, taxes, depreciation and amortization (EBITDA).

The method used to value a franchise often depends on its size and how it's managed. Buyers looking at a smaller business where the owner handles daily operations will usually consider SDE. For larger franchises with managers running the business, EBITDA is generally the preferred measure.

"Historically, franchise transactions were often discussed using revenue multiples because they were simple and provided a quick way to compare locations within the same system," Venette said. "That approach has become less reliable as labor, product, delivery and occupancy costs have increased at different rates and created wider differences in store-level margins. Today, buyers are generally more focused on cash flow."

Franchise resale valuation multiples can differ considerably depending on the concept, industry and buyer demand.

Industry multiples

Venette points to several examples of EBITDA multiples discussed in the market:

• McDonald's: Approximately 6.0x to 6.5x EBITDA
• Dunkin': Approximately 7.0x to 8.0x EBITDA
• Dave's Hot Chicken: Approximately 9.0x to 10.0x EBITDA

"Those examples illustrate why a broad franchise multiple is not especially meaningful without considering the specific concept and buyer market," Venette said.

Factors influencing value

Larger multi-unit portfolios may command higher multiples because they offer greater scale, established management and geographic diversification. However, buyers must also account for management fees, owner compensation and other expenses when comparing financial performance.

A franchise with strong earnings won't necessarily receive a premium valuation if buyers anticipate significant expenses after the purchase. Location, revenue trends, operating margins and management stability all influence what a buyer is willing to pay. The condition of the property and equipment can also make a substantial difference.

"A strong historical EBITDA figure may be less attractive if the buyer expects a major remodel shortly after closing," Venette said.

Buyers may adjust their offers to account for required renovations, aging equipment or deferred maintenance. They also examine whether the business can maintain its performance without the current owner.

Accurate financial reporting matters as well. Related-party rent, management fees and owner compensation should be adjusted when appropriate to provide a clearer picture of ongoing profitability.

Brand recognition can help attract buyers, but franchise agreements also influence franchise resale valuation multiples.

Buyers need to understand how much time remains on the agreement, whether renewal is available and what fees they'll be required to pay. The underlying real estate lease is equally important.

“Dunkin’s royalty and advertising fees can total roughly 11% of revenue,” Venette said. “Those ongoing obligations affect the cash flow available to the owner and need to be considered alongside the strength of the brand.”

A business with favorable earnings but an expiring lease or substantial upcoming capital requirements may be less attractive than its financial statements initially suggest.

Preparing for sale

Franchisees hoping to achieve a stronger franchise resale valuation should begin preparing before putting their business on the market.

“Owners can improve the way the business presents to a buyer by maintaining clean financial records, documenting discretionary or nonrecurring expenses, keeping the locations in good condition and addressing required renovations before they become a negotiating point,” Venette said. “It also helps to develop management below the owner and demonstrate consistent operating results.”

Before putting their franchise up for sale, owners should focus on three areas:

• Get financial records in order. Make sure earnings are easy to verify and any unusual or one-time expenses are clearly documented.
• Take care of maintenance issues. Fix outstanding problems and identify any major renovations or equipment replacements that may be needed.
• Build a dependable management team. Make sure employees can handle daily operations without relying too heavily on the owner.

A franchise's earnings are only part of what buyers consider when deciding how much to offer. They'll also look closely at the condition of the business, its management team and whether they'll need to spend additional money after taking ownership.

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