Surprisingly, this month alone I received two separate enquiries from different clients involving private equity players, institutional investors or what we sometimes casually call the “big guns” — investors with the financial ability and appetite to inject substantial capital and take an existing business to a completely different level.
Although the businesses and investors were different, both discussions eventually arrived at almost the same strategic question: when somebody comes in with serious money and the ability to fund rapid expansion, should that relationship be structured as a Joint Venture, a corporate investment, or should the investor simply become a large multi-unit franchisee?
At first glance, this may appear to be merely a legal or commercial structuring question. In reality, I think it is much more fundamental than that. The structure selected today can determine not only how quickly the business grows over the next three or five years, but also where the economic power of the organisation sits ten years later. For founders who have ambitions to build a national or regional brand, attract institutional capital or perhaps one day seek a listing, this is something that deserves serious thought.
The Temptation of the 100- or 200-Outlet Franchisee
Imagine somebody approaches the founder and says that he believes in the brand, has the capital, has access to locations and is prepared to open 100 or even 200 outlets. From the perspective of a growing franchisor, it sounds incredibly attractive. Instead of raising all the capital internally, hiring hundreds of people and assuming the full operational risk of expansion, here is somebody willing to put substantial money behind the brand and accelerate the network almost overnight.
There is nothing inherently wrong with that. In fact, multi-unit franchising is an extremely useful expansion tool and some of the world’s strongest franchise networks have been built with the help of sophisticated multi-unit operators. My concern is not with multi-unit franchising itself. My concern begins when one franchisee becomes so large that the relationship slowly changes from one of franchisor and franchisee into one of two competing centres of economic power.
There is a very significant difference between allowing a strong franchisee to operate five or ten outlets and allowing a single franchisee to control 100 or 200 outlets. At the lower level, the franchisee remains an important participant within the network. At the higher level, the franchisee may eventually become an organisation almost as substantial as, or even larger than, the franchisor’s own operating business.
Let us take a simple example. Suppose the franchisor operates 60 corporate outlets while one franchisee eventually controls 200 outlets. If those 260 outlets represent the relevant network, the franchisee controls approximately 76.9% of the outlets. More importantly, the franchisee operates more than three times the number of outlets operated by the franchisor itself.
At that point, I would no longer merely ask how successful the franchise programme has become. I would ask a much more uncomfortable question: who really has the commercial bargaining power within this system?
Legal Control Is Not Always Commercial Control
A franchise agreement can be drafted very strongly in favour of the franchisor. The agreement can state that the franchisee must comply with the operating manual, approved suppliers, marketing policies, pricing architecture where legally permissible, system upgrades, refurbishment requirements, technology standards and every other component of the franchise system.
Legally, the franchisor may continue to possess extensive contractual powers. Commercially, however, the reality may become quite different when one franchisee controls a very substantial part of the system.
Consider what happens when the franchisor wants to change the national supplier. The 200-outlet franchisee may respond that the pricing does not work for its network. The franchisor may want to require a major refurbishment programme, but the franchisee calculates that upgrading 200 outlets would require tens of millions of ringgit and refuses. The franchisor may introduce a new POS system, delivery platform, menu architecture or technology programme, but the franchisee has already developed its own infrastructure across its large network and resists the change.
At that stage, every major system decision risks becoming a negotiation rather than a direction.
This is why I often distinguish between contractual control and commercial control. On paper, the franchisor may still possess the rights. But the more important question is whether the franchisor can realistically exercise those rights without seriously damaging itself.
If one franchisee contributes a substantial percentage of royalty income, supply-chain purchases, system sales or geographic presence, termination becomes a very different proposition. A franchisor with 100 independent franchisees can normally deal with one defaulting operator without threatening the survival of the network. A franchisor whose largest franchisee operates 200 outlets may find itself calculating the financial consequences before enforcing even a clear contractual right.
The moment the franchisor begins asking itself, “Can we afford to upset this franchisee?”, the balance of power has already started to move.
A Franchisee Should Be Important, But Never Indispensable
To me, this is one of the most important principles in building a sustainable franchise system. A successful franchisee should certainly be valued. A sophisticated multi-unit operator should be treated as an important strategic partner. The franchisor should listen to franchisees, understand their operational experience and recognise that strong operators often contribute enormously to the development of the brand.
However, no single franchisee should become indispensable to the franchisor.
The distinction is important. An important franchisee strengthens the system. An indispensable franchisee may eventually acquire the power to influence the system beyond what was originally intended.
Once one operator represents too much of the network, the concentration extends beyond outlet numbers. It may affect royalty income, central kitchen purchases, distribution volumes, marketing funds, regional presence and sometimes even the perception of the brand in the market. The franchisee may begin to have greater negotiating leverage over renewal terms, product decisions, procurement, territorial expansion and even future franchise development.
This does not necessarily happen because the franchisee is difficult or dishonest. It can simply be a natural consequence of economic size.
That is why founders should not look at this issue as a question of trust. Today’s relationship may be excellent. But businesses evolve. Investors change, fund managers exit, management teams are replaced, companies are sold and second-generation shareholders eventually take over. A structure that works beautifully because two founders presently trust each other may behave very differently under completely different management ten years later.
Good structuring should therefore survive changes in personalities.
If the Investor Has Enough Money for 200 Outlets, Why Must He Own 200 Franchise Outlets?
This is where I think the strategic conversation should change.
If somebody genuinely has sufficient capital to fund 100 or 200 locations, I would ask whether it really makes sense for all that capital to sit outside the franchisor’s corporate organisation.
Perhaps the better question is whether the investor should invest at the corporate level instead.
That investment might be made into the holding company, operating company, expansion subsidiary or a separate Joint Venture vehicle created specifically for the expansion programme. Depending on the circumstances, the investment could take the form of ordinary equity, preference shares, shareholder loans or another carefully structured funding mechanism.
The essential difference is that the investor’s capital is then being used to strengthen the corporate group rather than to create a separate giant franchisee alongside it.
Under a large franchise arrangement, the structure is essentially the franchisor on one side and a very powerful independent franchisee on the other. Both businesses grow, but they remain separate organisations with potentially different long-term objectives.
Under a corporate or Joint Venture investment, the investor participates in the growth of the corporate platform itself. If structured properly, the company can continue expanding its outlet network while the strategic direction, governance, brand ownership and operating architecture remain within an integrated structure.
I find this especially compelling when the investor is bringing more than just money. Perhaps the investor controls petrol stations, transit hubs, hospitals, property portfolios, shopping centres or distribution infrastructure. Perhaps the investor has access to overseas markets or government-linked infrastructure. At that point, the relationship begins to look less like an ordinary franchise arrangement and more like a genuine strategic partnership.
The Question Is Not Whether JV Is Better Than Franchise
I should make one thing clear. I am not suggesting that Joint Ventures are automatically better than franchising. That would be far too simplistic.
A badly structured Joint Venture can create enormous problems. In some cases, it can be worse than having a powerful franchisee.
A classic example is the 50:50 Joint Venture. It sounds fair because each party owns half of the company. But fairness of ownership does not necessarily mean functionality of governance. What happens when the two shareholders disagree on the annual budget, dividend policy, borrowing, expansion plans, appointment of the CEO or further capital contributions? If neither party has the power to make a decision and there is no proper deadlock mechanism, the business can become paralysed.
Similarly, an investor taking only a minority shareholding may still negotiate extensive veto rights over key corporate decisions. If those rights are too broad, the founder may discover that he technically owns the majority of the company but cannot actually make many important business decisions without investor approval.
Therefore, the issue is not simply choosing between a franchise agreement and a shareholders’ agreement. The real issue is understanding what rights each party should possess and where those rights should sit within the organisation.
The structure should follow the long-term strategy.
When Franchising Still Makes Very Good Sense
Franchising remains one of the best methods of expanding a proven business using third-party capital. It is especially powerful where the business benefits from local entrepreneurship and owner involvement.
A franchisee invests his own money, operates his own business and has a strong personal incentive to ensure that the outlet succeeds. This can be very different from a corporate outlet managed by a salaried manager. A strong franchisee often knows the local market, understands customers, develops local relationships and responds quickly to operational problems because the capital at risk is his own.
That entrepreneurial energy is one of franchising’s great strengths.
My preference, however, is usually for a diversified franchise network rather than an excessively concentrated one. I would rather see a system with many capable franchisees owning manageable portfolios than one system where a single operator dominates most of the network.
A healthy network may contain single-unit operators, five-unit operators and perhaps several larger strategic multi-unit franchisees. The critical issue is maintaining balance.
This is why I often prefer progressive development rights. Instead of granting an investor an unconditional entitlement to open 100 outlets from the beginning, the franchisee may first develop three outlets. If those outlets perform well and comply with the system, the development right can increase to another five, then perhaps ten or twenty.
This allows the franchisee to demonstrate operational capability while giving the franchisor an opportunity to assess whether further concentration remains commercially sensible.
Growth should be rewarded, but it should not automatically become an unlimited entitlement.
When I Would Begin Considering Corporate or JV Investment
The discussion becomes different when the investor is committing capital that could materially transform the company. If somebody wants to invest RM500,000 into one outlet, the franchise structure may be perfectly natural. But if somebody is prepared to deploy RM20 million, RM50 million or RM100 million to build a network across the country, then I would at least consider whether this person is really a franchisee or has become a strategic capital partner.
The same applies where the investor wants exposure to the growth of the overall brand rather than merely the profitability of individual outlets.
A franchisee normally earns his return from operating outlets. A strategic investor may be more interested in enterprise value. He may want the brand itself, the corporate structure, the management platform and the overall network to grow because his eventual return may come from a future sale, recapitalisation or listing.
Those are very different economic objectives.
If the investor is genuinely thinking at enterprise-value level, corporate investment may align the parties more naturally. Instead of the investor building an external 200-outlet business whose value grows independently, the investor participates directly in increasing the value of the franchisor itself.
Think About Private Equity and the Future IPO Story
This becomes even more relevant when private equity enters the discussion.
Private equity investors normally think about value creation and eventual exit. They will want to understand how enterprise value can be increased over a defined investment period and how that value can later be realised. That exit may come through a trade sale, secondary investment, management buyout or eventually an IPO.
Therefore, when founders say that they hope one day to bring in institutional investors or list the company, I encourage them to think about what the organisation will look like when a future investor conducts due diligence.
The investor will not merely ask how many outlets the brand has. The investor will want to understand who owns those outlets, where the revenue comes from, how concentrated the revenue is, who controls customer data, who owns key leases, whether supply-chain income is dependent on a few major franchisees, and what happens if the largest operator leaves the system.
Imagine presenting two businesses to a future institutional investor.
Business A has 300 outlets with 100 meaningful franchisees, a substantial corporate outlet network and several balanced strategic partners.
Business B has 300 outlets but 200 of them are controlled by one franchisee.
The headline outlet number may be identical. The underlying risk profile is not.
The second business potentially contains a very significant concentration risk. Any sophisticated investor would want to understand what would happen if the relationship with that franchisee deteriorated.
This can affect not only operational risk but also valuation.
Outlet Numbers Alone Can Be Misleading
Another mistake is to focus entirely on the percentage of outlets.
Suppose a franchisee only owns 15% of the total number of outlets. The founder may consider this perfectly safe. However, those outlets might be the highest-volume stores in the system. They may contribute 35% of total system sales or 40% of the franchisor’s supply-chain revenue.
Perhaps those outlets dominate the Klang Valley, Singapore or another highly strategic market.
In that situation, the franchisee’s commercial influence may be substantially greater than the simple outlet percentage suggests.
That is why concentration should be analysed across several dimensions. The franchisor should understand not only how many outlets one franchisee controls, but also how much revenue, purchasing volume, regional exposure and system importance are concentrated within that group.
A franchisee does not have to own half the network before dependency becomes a concern.
Founders Usually Think About Entry. They Should Also Think About Exit.
Whenever a large investor enters the picture, most negotiations naturally focus on getting the deal done.
How much will the investor inject? How many outlets will be opened? What territories will be granted? What are the franchise fees? What is the royalty? When will the first outlet open?
Those are important questions.
But I think there is another equally important question that should be asked at the beginning:
How does this relationship eventually end?
Suppose the 200-outlet franchisee becomes tremendously successful. Ten years later, the franchisor may want to consolidate its network before an IPO. Perhaps the franchisor wants to buy back some of those outlets.
What price will it pay?
The answer may no longer be based merely on equipment and inventory. Those outlets may carry substantial goodwill and recurring profits. The franchisee may insist on an EBITDA multiple or fair market valuation. Suddenly, buying back 200 successful outlets could require hundreds of millions of ringgit.
The very success of the franchise system may make the exit extraordinarily expensive.
For this reason, large multi-unit arrangements should contemplate future exit mechanisms from the beginning. The agreement may need to consider call options, rights of first refusal, valuation methodologies, changes of control, assignment rights, lease structures, ownership of equipment, employee transfers and other matters that may appear remote when the first outlet opens but become critical when the network reaches maturity.
The best time to negotiate a divorce mechanism is when everybody still likes each other.
A Hybrid Structure May Sometimes Be the Best Answer
The answer does not always need to be either pure corporate ownership or pure franchising.
In many cases, a hybrid structure may produce a healthier network.
The franchisor may continue operating a meaningful number of corporate outlets. Strategic developments may be undertaken through Joint Ventures. Strong operators may be granted multi-unit franchise rights. Other parts of the market may continue to be developed through ordinary independent franchisees.
That creates a system containing corporate outlets, JV outlets and franchised outlets.
I personally like this type of diversified structure because it allows the business to benefit from the strengths of several expansion models without becoming overly dependent on any single one.
Corporate outlets preserve operating capability and allow the franchisor to test new products, technology, manpower models and store concepts internally.
Franchise outlets provide entrepreneurial capital and local management.
Joint Ventures allow the company to work with strategic capital partners where the opportunity may be too large or too important for a conventional franchise relationship.
The key is to ensure that all three structures ultimately strengthen the same brand architecture.
Corporate Outlets Are More Important Than Many Franchisors Realise
I also believe franchisors should be cautious about becoming companies that merely collect franchise fees and royalties while operating almost nothing themselves.
Corporate outlets are important because they preserve the franchisor’s operational DNA.
They allow the franchisor to experience first-hand what franchisees experience. When labour costs increase, when a new supplier fails, when delivery platforms change their commissions, when consumers reject a new product or when a POS system causes problems, the franchisor experiences those challenges directly through its own outlets.
Corporate outlets also provide a place to test ideas before requiring the entire franchise network to adopt them.
This becomes particularly important where the system contains large multi-unit franchisees. If the franchisor operates only a handful of stores while one franchisee operates hundreds, the practical operational knowledge of the network may gradually migrate towards the franchisee.
Over time, the franchisee may begin to understand the operating business better than the franchisor.
That is not a position I would want the brand owner to reach.
Ask What Kind of Company You Want Ten Years From Now
Ultimately, I think founders need to stop looking only at the immediate expansion opportunity.
When somebody offers to fund 100 or 200 outlets, the natural reaction is to calculate how quickly the brand can grow.
I would instead ask:
What kind of company do you want to own ten years from now?
Do you want a business that earns royalties from a network mainly controlled by one enormous franchisee?
Do you want a diversified franchise network supported by meaningful corporate operations?
Do you want a strategic investor helping to build corporate enterprise value?
Do you want to prepare the company for private equity, institutional investors or eventually an IPO?
There is no universally correct answer.
But there is usually a structure that better reflects the founder’s long-term objective.
This is why I do not believe expansion models should be selected simply because they produce the fastest outlet count.
Fast growth is useful.
But sustainable control, corporate value and strategic flexibility may ultimately be more important.
My Personal View
My view may be different from that of another franchise consultant, corporate adviser, investment banker or lawyer.
But if I were the owner and somebody came to me saying, “I am prepared to put enough money behind your brand to build 200 outlets,” I would certainly welcome the conversation.
I would welcome the capital. I would welcome the locations. I would welcome the investor’s experience and network.
But I would not immediately conclude that he should therefore become the owner of 200 franchise outlets.
I would ask whether at least part of that investment should instead be channelled into the corporate structure so that the money strengthens the franchisor itself.
Because the objective should not merely be to make the network bigger.
The objective should be to make the company stronger.
To me, that is the fundamental distinction.
A strong franchise system should create many successful entrepreneurs operating under one strong brand. It should not accidentally create one giant franchisee whose financial and operational strength eventually exceeds that of the franchisor.
So when the big guns come knocking, perhaps the first question should not be:
“How many outlets can you open?”
The more important question may be:
“Where should your capital sit so that both of us are still aligned ten years from now?”
Because the structure you choose when the money first arrives may eventually determine who controls the business after the expansion is complete.