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As franchises multiply, so too the potential problems.

Frances Dolce, just arriving home after a day of checking post-holiday inventory at her Gloria Jean's store, agrees to a telephone interview, still standing in the kitchen in her overcoat and work clothes that she admits, "make me look more like the cleaning help than the owner!" But, make no mistake, that is not a complaint. Though she and her partner-husband Jack work long hours at their two Long Island, New York stores, they are more than satisfied with the results--retail sales of over $200,000 in December alone, exceeding all of their expectations.

The Dolces are one of the success stories to have emerged as a result of the rapid-fire expansion of franchising in the specialty coffee industry. In a sense, Frances and Jack Dolce are also typical because they happened to have joined the ranks of Gloria Jean's franchisees. With 160 stores, carts, and seasonal kiosks nationwide, that company has become the largest franchised specialty coffee chain in the country. Behind Gloria Jean's, The Coffee Beanery and Barnie's Coffee & Tea Company are running neckand-neck with 87 and 85 retail stores, respectively. Lesser known players include Kelly's Coffee & Fudge Factory out of Irvine, CA with 15 stores, and New Orleansbased PJ's, which began franchising in 1989 and will soon have a total of seven stores.

With this virtual explosion of specialty coffee franchising during the past half-decade, I almost find myself wondering whether there ever was any other formula for rapid growth, especially with capital in such short supply. But then, of course, I remember Starbucks, which demonstrates so amply that an excellent product and sufficient financial backing can still make corporate-driven expansion at least as effective. As of December 1992 the number of Starbucks specialty coffee outlets had reached 165, making it the largest chain of all.

Nevertheless, the franchise concept has slowly but surely become a vital component of the economy and a powerful approach to business expansion. Recent estimates place the value of U.S. franchising as a whole at $760 billion, providing close to 1 in 10 U.S. jobs, according to the International Franchise Association.

Rapid expansion, building

the brand name

It's easy to list the advantages of the franchising approach, and that list is a long one. First and foremost, the franchising company grows without significant infusion of its own capital. "Keep in mind that any start-up franchise operation is by definition short of capital," explains Phil Jones, founder and ceo of Barnie's Coffee & Tea Company. "The clearest advantage to the franchise system, then, is the additional capital that allows the franchisor to expand more rapidly, to increase market 3hare, and to develop the brand name."

Kevin Shaw, franchise director for The Coffee Beanery, emphasizes the same fundamental advantage: "Clearly, we are looking to enhance our brand, to build a critical mass, if you will, and to expand the market." He also contends that the immediate income derived from franchised stores is limited, so that the initial advantage to the corporation can hardly be described as a monetary one.

"Our royalty structure is set fairly low, which means we are not making huge amounts from the royalty stream. In fact, the company needs to make money via its corporate stores to be good franchisors. A franchisor needs both corporately owned units and franchises in order to know the business well and to maintain cash flow."

An owner-operator philosophy

Next to rapid growth and enhancing brand name, franchisors list the clear advantages of having an owner/operator management team. Cecil Johnson of Gloria Jean's franchise development office explains why: "If they have their own financial stake in the store, the store always does significantly more business, usually 30-35% more, which makes the hands-on owner/operator approach extremely important." Phyllis Jordan, founder of PJ's and currently president of the Specialty Coffee Association, acknowledges it takes some control out of the system. "This may seem a disadvantage, but I think of it as an advantage. If the owner is actually in the store, the chances are even better for good service and quality."

Problems can arise, however, in the event that a franchisee comes to own several retail stores, as many as six to 10 in some instances. In such cases, the owner/operator advantage can be worn thin. "Multiple store ownership is often a problem, depending on the locations," said Ed Kvetko, who as owner of Gloria Jean's, is the most likely of all specialty coffee franchisors to encounter it. "Obviously, it affects the amount of time the owner can dedicate to any one location. On the other hand, it does lower the cost per store to the franchisee."

The case of the Egg McMuffin

Finally, the parent company also enjoys the additional advantage of tapping into an extensive network of owner/operators who know their customers and the business. They can be a rich source of new ideas and product innovation. John Collins, director of Kelly's National Franchise Development, cites the McDonald's Egg McMuffin, developed by a McDonald's franchisee, as the classic case in point.

What about franchising in the current

economic climate?

We've already heard that a short supply of capital, when bank loans are difficult to secure, make franchising an especially attractive vehicle for expansion. Are there other advantages or disadvantages to specialty coffee franchising in the current economic climate? Kevin Shaw assures me that The Coffee Beanery, for one, is in a particularly good position because of the economy. "Most retailers are having a difficult time, but we've been experiencing double-digit annual growth, and the costs of goods are declining. Why, the last two years have been our most profitable ever."

The greater sense of economic security offered by the franchise approach turns up on the short list of reasons why franchisees were attracted to this business concept. Consider these statistics: 95% of franchises successfully remain in business and renew their franchise agreements, according to the Small Business Association, but only 50% of all small businesses survive their first five years of business, and by the tenth year between 80% and 90% have failed (from Travis Wright, SCAA's "In Good Taste," Sept./Oct. 1992). Because of the overall strength of specialty coffee retailing in recent years, the industry's percentages are, in all likelihood, somewhat more favorable.

"Here in New Orleans," contends Phyllis Jordan, "we've been going through a depression since about 1983 because of the oil industry. I really believe that specialty coffee is a true counter-cyclical product. Opening a by-the-cup business is not a bad idea in this economy, when items typically cost less than $2 and gives pleasure and real value. It's also been my experience that, as a result of voluntary corporate downsizing, there are people out there with good managerial skills and 'golden parachutes' who are looking for opportunities like this."

Support to franchisee

In theory, a franchisee gets something akin to his or her own business with several sizeable advantages, beginning with brand name recognition, a proven business plan, resourcing of product, research and development, marketing and merchandising support, inventory and management control, and training. All help to compensate for the lack of experience and undercapitalization of many franchisees.

According to Michael Dickey, one of PJ's new franchisees based in Hammond, Louisiana, the overall marketing support she has received since opening two months ago has been very good, but the excellent training provided by PJ's was especially important in getting started. In the case of Frances & Jack Dolce, their successes with Gloria Jean's on Long Island may have as much to do with their many years of specialty food retailing experience before venturing into coffee as with the merits of any one particular franchising system. But few franchisees enter the business with the same extensive retailing background, which makes the support from the franchisor all the more essential.

Some franchisees complain about the inflexibility of the system. Others, like Martha Rothring, couldn't be happier with the arrangement. When asked why she decided to sign up with Barnie's she replied: "It's a turn-key operation. Barnie's gives you the rules, and you just follow those guidelines. It's a real clean operation, and there's still some room for a personal touch, to be creative in displays, for example."

Other advantages to the franchisee include site selection. Charlie Mitchell, who opened up a Kelly's Coffee & Fudge Factory franchise in Tempe, Arizona more than two years ago, says it was simply too difficult to get a good location without a franchise. Ken Goodman in Los Angeles, another Kelly's franchisee, also decided to buy out a previous Kelly's franchisee in the Century City Mall because of the excellent location. And as Kelly's John Collins so appropriately observes: "You can be half a block from success."

Unfortunately, specialty coffee franchisors and franchisees do not always conduct business happily ever after. Along with the many advantages of the franchise system, from the greater economic security and support to securing a good location, come the inevitable disappointments when that system doesn't seem to work for all parties involved.

There are what one might call structural drawbacks to the system. Perhaps the most basic is the fact that, as Cecil Johnson of Gloria Jean's points out, "The corporation gives up a good percentage of profit." Another fundamental flaw, according to Phyllis Jordan, is that within a short amount of time, one is asked to make a big commitment to a relative stranger as a business partner. "With 10-year contracts," she says, "that can be risky." Yet these drawbacks or disadvantages can be anticipated and are more or less/like acceptable tradeoffs, not threats to the viability of franchising. The recent spate of litigation may not be as benign.

Legal controversy

Barnie's Phil Jones expresses his concern that, "The landscape in America is very volatile in terms of franchising," referring to the amount of litigation pending in court and the legal limbo regarding the rights of the franchisor and franchisee. "Unfortunately," Jones continues, "there is now an adversarial environment from the get-go." He mentions one particular suit, a watershed case in Iowa involving what he describes as an overly aggressive franchisee. Jones outlines several areas of the law which will need to be resolved: who controls the decisions about what will be sold; territorially; eligibility for renewal of contract; and the right of the franchisor to terminate an agreement with a franchisee. All have provided fertile ground for litigation.

These legal matters have left some franchisors wary, and Jones is one of them. But if one is left with the impression that growth specialty coffee franchising may flatten, then one hasn't spoken with Ed Kvetko. "Litigation is part of doing business in this country." It should be noted that a non-binding arbitration requirement will be added to the new Gloria Jean's contracts.

Somewhat surprisingly, corporate representatives list the need to identify team-playing rather than entrepreneurial franchisees above all other concerns. They are very careful to look for team players, not individualists.

"If you want to own your own business, that's fine," says Jones. "But if you want to develop and market your own business, stay away. The most effective franchisees are joiners rather than leaders.

Ed Kvetko agrees. Someone who is too entrepreneurial in nature, he finds, will have difficulty conforming to an existing structure and policy. "For example, approval on a new product can take time. But these new ideas must be submitted to corporate first. In addition," he adds, "the franchisees are required to make a contribution of 1% of sales to a national advertising fund, and yet they will have only limited say in how that money is spent."

Kevin Shaw suggests some flexibility in that, over time, one might be able to make modifications. "But we are looking for a systems-oriented person who is a risk-taker, not an entrepreneur. The entrepreneur will invariably want to run his or her own show." The Coffee Beanery approaches the recruiting process systematically as a result to avoid mismatches. In no uncertain terms, franchisors are looking for "dedication to building and marketing the business."

Financial risk & time commitment

Unexpected problems will undoubtedly confront the franchisee in one form or another, but a potential franchisee should minimize the number of possibilities by making themselves aware of the things they can surely anticipate. First, the presence of a certain level of financial risk. This is not a risk-free proposition. "The potential franchisee needs to understand that there is risk involved. All investors need to recognize this. They should also realize that they will be making a sacrifice in personal income for the first few years," warns Shaw. Secondly, the demands on the time of the franchisee are enormous, at least at the outset. Rich Dong, a franchisee with The Coffee Beanery in Redondo Beach, California, puts in an 80-hour work week along with many other franchisees.

Do franchisors live up to

their promises?

When pressed, some franchisees complain about inadequate support, and the fact that they felt the franchisors had not fulfilled promises in a number of areas including product consistency, product expertise, communication, merchandising and point of sales material, supply and distribution, and advertising.

I spoke with one franchisee who had filed suit against Barnie's, and he is near a settlement with the company to sell back the store. He was unable to discuss the details of his own case, but did name two areas that he believes will continue to be a source of friction between franchisee and franchisor. They are supply and expertise. This "exfranchisee" still plans to stay in the specialty coffee business after settling, though he is unsure exactly which segment.

Again, one of Kelly's Los Angeles franchisees, Kevin Goodman, describes how there was very little support initially, though the company has recently become much more active. But his sentiments continue today continue to reflect some skepticism: "Franchising is good only if you're with a big company, in terms of supply, advertising and merchandising support."

Charlie Mitchell, also with Kelly's, had positive things to say about the parent company's new leadership. But for him also, the mistakes of the past have taken their toll. After nearly two years of struggling to develop a viable business with little support from the corporation, he is no longer interested in making his store conform. Says Mitchell, "It's too late, baby, for product consistency."

John Collins describes some of the challenges Kelly's faced early on as they opened more and more franchises. "At one point, Kelly's experienced what one might call growing pains, which led to some disruptions of support and supply lines. Fortunately, these problems have been taken seriously and resolved by the new owners, and we are able to be much more effective in servicing and supporting our team of franchisees." Kelly's learned its geography lessons the hard way, and Collins suggests that franchising companies and potential franchisees need to be very careful in selecting locations that can be serviced adequately. Otherwise, a company risks overextending itself, creating what he calls the "island effect."

Several franchisees spoke of their disappointment with the level of advertising support despite regular contributions of 1% to 3% of gross sales to an advertising fund administered primarily by the parent company. Advertising campaigns often have a regional focus or appeal, leaving some franchisees feeling shortchanged. "Not all promotional efforts will play well in all regions," observes Gloria Jean's Frances Dolce.

Staffing and costs

Other problems confronting several franchisees have to do with staffing and costs. After four and a half months, Rich Dong, who runs the only Coffee Beanery franchise in California, shares a few of his observations. He has come up against a few unexpected difficulties with delivery lines and name recognition. More importantly, Dong cautions, be wary of expenses: "Construction and operating costs, particularly with staffing, have been higher than I had anticipated. But The Coffee Beanery has responded tremendously in terms of financial and personnel support and preferential treatment in expediting deliveries." Dong is also pleased with The Beanery's product consistency and supply line of coffee, and despite a few problems, he would be more than willing to open another retail shop with The Coffee Beanery--the strongest endorsement of all.

Martha Rothring, who runs four Barnie's franchises with her husband and their professional management company, relates her own staffing experiences: "We weren't a retail management company before and we seriously underestimated the amount of staff burnout and turnover, usually after six or seven months. We find ourselves constantly training and retraining people, and we're always looking for staff."

Yet, for the most part, the franchise system seems to be working, and even improving as franchisors learn too. Most franchisees claim they now get 9095% of the supplies they order on time, and product consistency, in most cases, is more than satisfactory.

Brief Profiles of Five Specialty Coffee

Franchise Operations

Gloria Jean's

The Buffalo Grove, Illinois-based Gloria Jean's empire currently consists of 160 retail units, 12 of which are company owned, eight espresso carts and 20 seasonal gift kiosks. According to Cecil Johnson, the company's retailing success to date has been "primarily mall-driven," though it is looking now to expand beyond the shopping center setting and into major downtown streetfront locations. Gloria Jean's sales in 1991 amounted to $50 million and that figure is projected to run near $75 million for 1992.

Gloria Jean's franchisees pay an initial franchise fee of $19,500 for the first retail store, and between $1,000 and $10,000 for an espresso cart, depending on their existing relationship with the company. Kiosks require no additional franchise fees, as they are operated only in conjunction with retail stores or carts. Estimated total initial investment costs range from $181,600 to $261,000 for the retail urut and from $47,600 to $83,000 for a cart. Gloria Jean's charges both stores and carts a monthly royalty and service fee of 6% of gross sales, and an additional 1% of gross sales must be contributed to a national advertising fund.

The Coffee Beanery

The Coffee Beanery, owned by JoAnn and Julius Shaw and with home offices in Flushing, Michigan, now counts 87 retail units, 68 of which are franchised. I spoke with Kevin Shaw in mid-December as the company's managerial team reviewed its 1992 performance and prepared projections for 1993. The company projects that in the coming 18 months that figure should increase nearly three-fold to 115 stores by June 1993 and 234 uruts by June of 1994.

The Coffee Beanery, like its leading competitor Gloria Jean's, has looked to diversify its retail venues. It has introduced kiosks, espresso carts, coffee bars, and cares, and has also begun to establish locations in major airports.

The franchisee pays an initial franchise fee of $25,000. Estimated total start-up costs range from $157,000 to $247,000. Monthly royalties are also set at 6% of gross sales along with the additional advertising fee of 1% of sales.

Barnie's

Orlando-based Barnie's currently has 85 retail stores, 40 of which are franchises. According to Phil Jones, company founder and ceo, Barnie's is not actively recruiting new franchisees, though they have continued to open franchised stores in various locations. Their Uniform Franchise Offering Circular places the franchising fee at $25,000 and total estimated start-up costs to the franchisee at between $185,000 to $289,000. Royalty payments and contributions to the advertising fund are 6% and 1%, respectively.

Kelly's

In the spring of 1992, Ray Perry, formerly with Carl Karcher Enterprises, acquired a majority interest Kelly's Enterprises, parent company to Kelly's Coffee & Fudge Factory stores. Other important changes at Kelly's include its collaboration with Kraft for some of its distribution.

Kelly's currently has 15 stores in California, Arizona, Washington State and Missouri, two of which are company operated. Their goal, says Collins, is to create a corridor, two states wide, running up the West Coast, which will include California, Arizona, Nevada, Oregon, Washington State and Idaho.

According to Kelly's corporate office, the initial investment required of the franchisee ranges from $115,500 to $254,500, which includes the $19,500 franchise fee. Additional ongoing costs are the monthly royalty fee of no more than 6% of gross sales, and that percentage figure decreases as the sales volume increases. The advertising and promotional fund claims another 2% of gross sales.

PJ's

Phyllis Jordan rounded PJ's Coffee & Tea in New Orleans back in 1978. She now has a total of five operating stores, two of which are franchised, and has contracts with two more franchisees. Jordan set up her franchising operation, PJ's USA, with partner Lisa Amoss who serves as president.

Unlike other specialty franchise operations, each PJ's store can be quite distinctive in appearance, depending on the location, the architecture, and to some extent the preferences of the franchisee. PJ's also does not locate in shopping centers, and in selecting sites, it looks for opportunities to become an integral part of strong neighborhood and communities.

The commitment required of the franchisee includes a $10,000 franchise fee and other start-up costs totaling just over $80,000.

Where will franchising go from here?

In his SCAA piece, Travis Wright offered his vision of the industry's prospects: "There is always room in every industry for franchises and independents alike. It's just that competitive forces in any industry will wean out the inefficient operators, whether franchised or independent."

More than likely, there is a great deal of truth to this vision, though it is too sweeping to be of much consolation to the hundreds of franchisees who invest thousands of aggregate hours of time in their specialty coffee retail stores every week.

Phil Jones says some in the industry are optimistic that, with the Clinton administration taking office, there is some hope that there will be more support for small businesses. At the same time, he is fully aware of those ever-present competitive forces referred to by Wright: "There are bound to be competitive pressures as the industry matures in the next two to three years. It's also awfully late in the game to try to get into franchising. The time for that was 10 years ago."

Most franchisors anticipate intensifying competition for the best sites, especially in markets like New York and Los Angeles. "Franchisors will also need their own niche to remain strong," according to Collins, "as well as consistency of product." And, if Ed Kvetko's premonitions are correct, the competition in the future will not be limited to current industry leaders, but may include such players as Hills Bros. or Folgers.

If all the leading franchisors agree that the market is tightening in this country, where will they look for the kind of growth they've become accustomed to? Kelly's is talking with brokers in Mexico City in an effort to form an affiliation with a Mexican firm. That firm would be licensed to use the Kelly's name and run the operation. "Mexico is a good area for coffee and sweets, and the flee-trade laws have changed the business environment," says Collins. Kelly's will not be the first, however. Gloria Jean's has already signed up a franchisee in Mexico, and they expect to open 10 stores during the next four years. Ed and Gloria Jean Kvetko also have their sights on Russia, the U.K., Korea, Germany, and France. Japan will also be an avenue for long-term growth.

What useful ideas might franchisors and potential franchisees glean from these interviews with industry leaders and franchise retailers? For the franchisor, the franchisees have a few suggestions: 1) More workshops and seminars for franchisees, and greater expertise on the part of the parent company to support the full range of products offered; 2) More research and development; 3) Enhance communication between franchisor and franchisee at all costs--it is crucial to the franchise system.

For the potential franchisee, there is both encouragement and a few word of caution: 1) "Be keenly aware of the amount of work involved," advises Charlie Mitchell, "and stay absolutely on top of the bookkeeping;" 2) Before you sign on, be sure to investigate other franchises as well, but do not have unrealistically high expectations of them; 3) One franchisee adds, "Once signed up, however, don't be afraid to get pushy if need be."
COPYRIGHT 1993 Lockwood Trade Journal Co., Inc.
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993 Gale, Cengage Learning. All rights reserved.

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Title Annotation:coffee retail industry
Author:Hackeling, Joan
Publication:Tea & Coffee Trade Journal
Date:Jan 1, 1993
Words:4034
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