Question

CHOOSING A MODE OF ENTRY

John and Marcia Howard have decided to pursue their dream of becoming business owners by becoming sole proprietors of a retail clothing shop. The shop, as they envision it, will carry women's apparel.

As they formulate their business plan, the Howards discover that start-up capital required would be $100,000, while projected net income for the first three years would be $10,000, $15,000 and $20,000. John and Marcia were both amazed at the number of details that needed to be dealt with prior to opening their shop. Decisions needed to be made on site selection (fortunately, a good location was available, modestly priced), store lay-out, and product line. Marcia looked forward to getting involved with these issues, but John wondered about the time and money required to solve all of these problems before the first sale could even be made.

While they were still working on their business plan, Marcia heard from her employer (Marcia was a sales clerk in a retail clothing store) that she was actively looking to sell. "My husband may be transferred to Juneau, so it may be impossible for me to continue to run the shop," the owner explained. Marcia expressed mild interest, and was provided with some details on the operation.

Net income for the previous year was $18,000 on sales of $105,000. To date, and it was now September 30, sales for this year were $65,000. The owner noted that this was probably normal, in that most of the shop's sales were made during the Christmas season. Marcia wondered about this in that she observed that the number of customers visiting the store seemed to be less than in previous years. Perhaps it had something to do with a downtown location or the establishment of a new clothing shop at the mall.

The books of the store showed net assets of $90,000, but Marcia was certain that this included $5,000 in virtually unsalable inventory. Some of the other inventory also raised concerns in that some of the owner's purchasing decisions had seemed to Marcia questionable. This had been a source of friction now and again between owner and employee.

The owner was asking $95,000 for the business, and, thus meant lower capital requirements. Additionally, because of its already established clientele, the new operation would generate sales immediately. John liked these features, although Marcia was less certain of overall value of the business which was for sale. Besides, she wanted to do things her way.

A friend suggested that the Howards look into franchising. Investigation showed that the Howards could obtain a GAP franchise for the site they had identified in their business plan. The franchise fee was $25,000 and the GAP also would be entitled to 5% of gross sales annually. The franchise agreement gave the Howards control only of a limited part of town, with the GAP retaining the right to place additional franchises elsewhere. The GAP also imposed some operating norms regarding product line, store layout and advertising. The GAP did provide significant assistance in getting the operation going.

Because start-up would be quicker, costs could be reduced from $100,000 per the Howards' business plan to $95,000 (not taking into account the franchise fee). Net income could be projected to $18,000 the first year, and increasing by $2000 per year thereafter. The upper limit on growth would likely be net income of $24,000 per year. Income levels higher than this would mean there had been enough demographic growth to induce the GAP to place another franchise in the market.

Again, in discussing the franchise option, John and Marcia had different opinions. John like the idea of capitalizing on the GAP's reputation and advertising to get decent sales levels immediately. He also liked the start-up help they offered. Marcia, on the other hand, wondered how restrictive the GAP's policies would be in her effort to run the store her own way. Franchising seemed a lot like having a boss.

Having been impressed with your insight on form of business organization, John and Marcia turn to you for more advice. Which of the three alternatives should the Howards pursue?

Answers need to be very detailed and specific. Also, it needs to cover and address the entire case. Thanks

Business 101 - Intro to Bus

Answer 1

As majority of first time entrepreneurs fall in a dilemma of whether to start own business, buy a franchise or take on an existing business. The answer to this question depends on what goals one set as a business owner. Because all options have advantages and risks associated with it that should be considered before making a decision.

John & Marcia Howard also face same dilemma & if they come to me for more advice I will definitely suggest them to start their own business by becoming sole proprietors of a retail clothing shop. Though there are some disadvantages to this approach but if implemented carefully it may turn out to be a successful story. There are many benefits of doing so which we discuss below & especially in case of Howard’s they have some advantages in doing so.

1) Freedom to live by your own ideas: if Howard’s start their own business they will have freedom to implement their own ideas. They are free to choose their own location, store layout, product range & pricing which they cannot choose in case of two other options. John and Marcia don’t need to report to any other person which means professional freedom. They can freely choose store timings. Taking up an already established retail store will limit their ability to choose location & convenient timing of the store.

Since Marcia is already working as a sales clerk in a retail store she has a good experience of functioning of a store. Her experience will be beneficial in selecting location, product line & price range. So it would be very easy for her to manage these aspects of business.

2) No Fees or profit sharing: As the sole owner of the retail store they don’t need to share profits with anyone else. They don’t have to pay royalties and other fees as in case of a franchisee. Also there is no upper limit on the profits to be earned as franchise set a limit on profits after which they open a new store in the area. With their own business, they can expand as far as the market will allow them.

3) Innovation & strategy: As the sole owner of business they can innovate new products & strategies to expand business. The right mix of products & sales strategy will result in higher profits which may be far beyond the other two options. Howard’s cannot have their own strategies & products in case of a franchisee.