Why Do Small Businesses Fail? Jim Penman CEO of Jim's Group tells Joel Kleber why they do.

In terms of helping people, it would kill bad franchises so quickly you could not like Grease Lightning. They'd just be gone. They'd be wiped out.

So this one is a great, interesting topic, which I know Jim's touched on a little bit about before, but we'll try and do this again with some more other questions and some stats thrown into it. So this is why do small businesses fail? So, just some facts. The franchising sector is worth more than $180 billion to the Australian economy. The 97,000 franchise businesses in Australia that actually employ close to 600,000 people. There's 2.1 million small businesses in Australia, 44% of total employment in small business, 5 million people. From the 600,000 franchise owners, 54,992 small businesses failed last financial year. And the Google search term small business peaks just before the Christmas holidays. So let's start off with the first question, which was why does a business. Why do businesses fail at such an alarming rate?

Well, actually, they don't. If you look at those statistics, for example, we've got 2.1 million small business in Australia and 54,000 failed. Now, actually, that is about 1 in 40. So that means to say on average, you know, a small business might last for 40 years. That's not bad at all.

It definitely isn't bad. So I'm just going up the nuts not to produce here, which is why he's.

That's what I see about statistics. It's not actually a particularly terrible statistic.

Let's rephrase this question. So let's say, like, obviously the first year is the toughest year in business. So why do so many. We obviously know if you're, if you get past that first year, obviously, and then the third and the fourth and the fifth. But why do so many businesses fail in that first year?

Well, I can't speak with knowledge about retail business and others. What I can speak about is the service industry, which obviously we know very well. The best statistics we have is that between 90 and 95% of businesses fail in their first year. And this is official. If you look at the Cleaning and Janitorial Service association in America, which is an American body, and you have a look at their notes, they say 95% failure in the first year. The main reason for that is simply that it's very difficult to get Goodwill going in a hurry to find customers. I have a good friend who's part of my Bible study group, who was an electrician and he's actually a supervisor so he's a smart guy, he's got good ethics, he's a great guy. He tried to start his own electrical business, just couldn't get it off the ground. Couldn't get enough business to live in that intervening period. The lucky thing about me is that I started off because I was a student and I wasn't relying on it for my income. So I started off doing part time gardening and gradually developed it. So over a period of like 12 years before I started my gardening business to going full time, I knew what I was doing, had customer basis, all kinds of things like that. And the other thing of course is learning how to do it. So the principles of business is not easy. How do you advertise for business? How do you look after customers? How do you do the job in an effective manner? So we start off, people, when they're doing jobs, they're often very slow in the beginning. They don't know how to do it, but they have to be shown how to do that to do it properly, pick up their speed and so forth. So, you know, there's a good reason even very good people can fail through no fault of their own, just simply because of the difficulties of those two things.

Are you surprised at the number of the. How many actual, let's say the franchises employ, you know, 600,000 people out of the Australian, let's say working economy are actually employed by franchises, which I think is a quite massive number and it's worth $180 billion. Yet the regulation involved in franchising, which we have talked about before is pretty pathetic, just left so much to be desired. So let's talk about the traps of the actual franchising code. Obviously the things retail food Group we have mentioned before, subway dominoes. Let's talk about that. Because it's such a massive industry, $180 billion is governed by this franchising code, conduct. Right. And you know how frustrating that document is. Yet we allow it to regulate or to be the main instrument there to govern behaviour in a $180 billion part of our economy.

First of all, franchising is a great system. It really is. It does things in the way the kind of services that we offer to householders. You just could not offer it effectively in any other way. Big companies couldn't do it. They're too difficult. A big company. Just take Lon Mung as an example. If you've got a big huge complex with a contract that's going to cost $200,000 a year to look after having a Team of workers run by a big company would make some kind of sense. But when you're talking about individual households where your typical lawn mower job might be 50 bucks, there's just no possible conceivable way to do it. So small business is totally in its element. The thing about franchising is that it's phenomenally useful in doing the two things that make businesses fail. The first is obviously to provide clients and the second is to provide the training and the expertise and not just upfront, but ongoing. Which is why, against the figure of 1995 Pennsylvania, our first year, failure in gyms franchises across the board is currently 11%. In other years it's like 10.5%. But it's always around about that figure, which is a fraction of. And that's because of those two simple things, plus the fact that we're a bit selective, we do tend to knock people out who shouldn't be in a franchise in the first place. So franchising is a great concept and you look at something like the fast food industry. McDonald's, which is a company I admire enormously, not for the food, but for the business structure, they do it very, very well. They provide good support, good training, consistency. They're innovative within a structured environment. They have fantastic training systems for staff. I would be delighted if my kids wanted to go and work at McDonald's to get to learn about how to, how to, how to succeed in the workforce. They do remarkable things with teenagers. They put them into positions of leadership and so forth.

They do. I worked at McDonald's when I was younger. It's their really good training.

Training stop notch I enormously respect. So a good franchise is fantastically useful. The weaknesses in the franchising industry is simply that it's run by franchisors for franchisors and it's one area where the government should absolutely take a greater role. And the thing like I've talked about these things in the past but, but very simple things like giving franchisees a veto over changes to their own manuals, which we do at gyms quite routinely and it works fine. We just had a referendum last week. We came back and they actually knocked back one. We put three clauses out, three proposals out there. They accepted two knock back one. It wasn't by. We only got about 40% respond, but the majority of those who responded said no, we don't like this. So we took it out. That's one very big change. Automatic right of renewal at the end of a franchise. You can't get Kicked out. Why should you be if you're compliant controls against having rack rendered extortion. They can put the franchisor could control the head lease and they can put the rates up way past the rate of inflation or the rate of property increase or anything, or market rates. They can just do whatever they like. They can force people to buy equipment and stuff at ridiculous prices. They can do appalling things. The kind of protections that we have in gyms, if you made those legal. And they work very well for us. And I think it's one of the reasons we have been successful, because we do protect our franchisees. I think actually would be great for the industry as a whole.

But every time they do those inquiries, like in every couple of years they do it and you do your submission, nothing gets ever implemented. And what I find very funny is they take these submissions from companies I've never even heard of or lawyer group employed on someone who's got hardly any franchisees whatever, and I do a massive long winded submission. They get all these recommendations but nothing ever gets put in place.

So they do make changes, but they're changes that have no impact effectively on the people that are actually being ripped off. What they do is they get complicated legal documents. They need to put a disclosure document together. Now this is a typical thing that they do. Why is a disclosure document good? Because it provides. It's a rampant feeding trough for lawyers. They love disclosure documents. My own lawyer in house lawyer who's got 12 years of experience in the franchising industry says she would struggle to understand the disclosure document. How on earth if she's struggling, can somebody who's not tutored in business law possibly make any sense of these things?

So for anyone watching the disclosure documents, what provided with the franchise agreement will be disclosure document. And it basically has, you know, all previous franchisees or current franchisees, blah blah, blah, blah. And it's a massively long winded document.

99% of people don't even read them.

They don't read, definitely don't read them.

They have no effect at all, except they're worth billions to the legal industry.

And then when things go wrong, they say, well hang on, didn't you read the disclosure document?

Right, exactly.

And that's what generally has always said.

I mean whoever reads contracts, you get it all the time online. You get these massive page, like 50 page agreement about something. Who reads that? Who ever reads anything like that? I don't read them and I'm better versed in the law than most non lawyers. So it's crazy what they do. They just don't see it from the point of view of a franchisee. They think of it from the point of view of lawyers battling in court. But if you get to the courts with lawyers, you've already lost. Everybody's lost. Because. Because the legal system is so atrociously complicated, there should be simple ways of doing it. One of the things I mentioned for year after year after year, I said to these inquiries, I said the simplest thing you should do is you should, at the expense of the franchisor, you should interview every franchisee you can get onto every year and put them into a document and make it available to anybody who wants to buy a franchise. I said that one simple thing. Now, I know it would not bring billions of dollars to the legal industry, financial advisors, all those other parasites. It wouldn't help them one little tiny scrap. But in terms of helping people, it would kill bad franchises so quickly, you could not, like Grease Lightning, they'd just be gone. They'd be wiped out. And the quality ones would have a chance to grow and help people. And everybody would know that if you rip off a franchisee next year, your survey is going to come like black. It's going to hurt you badly, and you would do everything possible to protect them. Now, this is a really simple, cheap system. Would they think about it? No. But all this garbage with these disclosure documents and all these legalisms and stuff. Yes, we'll have as much of that as possible.

It's quite frustrating because we obviously, we obviously in gyms, if anyone's thinking about buying a franchise, we obviously say call the franchisees, call former franchisees, even that area. We did a video with one guy. I think he spoke to 13 or 12. He spoke to 12. He had to speak to 12 people, which is great, before he made that decision.

The only good thing the franchising code has done is, is, in my view, is actually required franchisors to give a list of current franchisees.

Yeah. Oh, that's, That's.

And that's. And that's valuable. And that's useful if you do it because it wasn't the case in the past. We used to do it. I did it from the very beginning of gyms. I've always done that. And we used it as a sales tool. But I always tell people, if you're going to buy a franchise, check it out. But the fact is, not everybody does. And if they do, they don't. They don't study it carefully enough. But a clear Survey. And I have said this to so many. I know they get sick of me and they just completely ignore, don't even mention what I say. They just couldn't give us stuff because it's not what franchisors on the whole want.

Well, do you think the barrier, do you think the barrier is too low for people just wanted to start a franchise. So, for example, if you have an existing business, whatever it may be, right, let's say Jim's watching McCall's or whatever, you can just go and go get some contracts drawn up and then all of a sudden you can start franchising.

Yeah.

Do you think the barrier is too low?

No, I don't. Because the trouble is if you put it things in place, what you're going to have is bureaucratic legalistic guidelines. You have to go through a whole thing. They have to do some get some consultant and pay the half a million dollars to go through this complex bureaucratic procedure. None of which has got anything to do with whether you look after your franchisees or not. All you do is cut down the competition in the industry. I'd be dead against that. Anybody should be able to launch a franchise system, but they should be monitored. People are not stupid. If they look at a franchise system and they see the fact that two thirds of unhappy with it, they're not going to buy it. You don't need to spend a half million dollars. The trouble is you can do all the bureaucracy in the world you like, but it doesn't actually have anything to do with the real performance of the thing. It's like these laws that says you've got to have a lawyer look at the contract. Well, yeah, okay, but what's the lawyer going to do? Because for a start, they're not going to change the contract. Nobody ever does. And they're all much the same except Jim's contract, which are a lot better. But the fact of the matter is, the kind of contract that you have has almost nothing to do with how good you are as a franchisor. I know that within gyms, most of our franchisees, franchisors are pretty good in terms of support. Some of them are absolutely brilliant. And there's a few that I wouldn't buy a franchise off. They always use the same contract. Now these are the ones we tend to breach and push out. But in the meantime they're still able to sell franchises. So even within my own company, I can tell you it doesn't. The contract itself doesn't tell you what you need to know. It's the actual support and what we do in gyms is we do what I say everybody should do. We actually interview our franchisees. Every year we do a survey, we get 90% to respond and we make that public.

I think it's quite interesting aggregating results and having them like an online sort of like let's say choice or you know, those sort of online review places and having each franchise system could go in there and type in the one and they could see how it's rated from one to whatever for basically, you know, support, let's say communication, all that sort of stuff, which I think is quite a good idea. And what frustrates me though is that all these councils and these regulatory bodies in the franchising space, whenever you look at who's on those bodies, it's always from franchise systems that I've never heard of. We've probably got less than 10 franchisees, five franchisees and they're in these all high important regulatory advisory positions and they seem to be representative of an industry which is quite frustrating because ones, let's say like Jim's, obviously the largest home service in Australia or you have big. Ones, let's say like McDonald's or whatever, you never see them. Anything to do with these sort of industry associations which I find quite frustrating. And if there is a dispute between a franchisee and a franchise or that process itself, as you would know, it's very, very against the franchisee. And if you've put all your hundreds of thousands of dollars that's into a retail based one. Yeah, you just, you just start.

It's shocking when they try and take them on legally there's no recourse and there should be, there should be, there should be simple ways that are affordable for people to have a go at franchisors who've deceived them or done the wrong thing.

Well, I think the, the retail based one's a problem. You know the traps of the franchise that we had down here is a question like retail food groups, one that you always mention before happens there, which is just.

But there have been some, there have been some extraordinary rip offs in the service industry too. I'm not going to mention names in particular but there was one particular Queensland one which is I think almost disappeared now.

Yeah, I haven't seen them now they've gone, I think which is.

Which was simply, I will say the name is Express.

Yeah, they'll set to make a quick buck basically.

Yeah. And it was a complete and utter fraud. And where's the marketplace to do with that kind of stuff. And I know they got a lot of people involved.

They just heaps cause it was $10,000. So they were selling, they'll promote. Their point of difference was basically they spent a lot of marketing. I don't know where they got that money from. They were pretty good with using FB ads or whatever. But it was always 10k. 10k business. 10k business.

And the end of it was nothing.

And the end of it was nothing. And the annoying thing is the type of person that would go for that because based on price, you know, is the most vulnerable person. Right.

Who hadn't done their research.

Correct. They won't do their research because they're sold by salesman. The salesman on the phone. Really good. Don't worry about that. Just some documents, sign them off and away we go. Ends in disaster. And it's very concerning. So what are some safety guards? Does franchising have over an independent small business now these days, in your opinion? Well, you mentioned a couple before.

I mean a good franchise is simply a great way of getting into business. Your chances of success are overwhelmingly greater. They simply are the difference between the 90 to 95% failure and the 11%. And that's quite reasonable. I know that because I know people who've tried it by themselves. Back in the early days of gyms, we had one of our girls in the office, Karen Gilliat, had a husband who actually decided to buy a franchise. And his friend said no, don't get into franchise, go independent. Why would you waste your money? Well, Andrew fortunately ignored his advice and did. And the other guy spent the same amount of money on equipment. Andrew succeeded and didn't have the other guy failed. He just didn't. Franchising done properly is a very, very good system. And on the whole, mostly it works fine. It's just that there's not enough protection against the people who do the wrong thing.

You're quite right. The comment I always see on socials, which I've mentioned before is basically why pay the franchisor? Why give Jim all this money? All that sort of stuff. Right, but which is the common mentality that I think that people don't know franchising they have that they think you're just paying fees to someone else to make them rich and you're poor. Which is definitely not the case. So maybe you want to explain real quickly about how the fees, let's say in gyms work not exactly going to it too much. But in general, how does that operate? It's obviously not you getting all that money. So when the fee goes every month from the franchisee, how does that all work?

Well, typical franchisee probably pays about 700amonth, of which bit less than half would actually go to the franchisor. And that pays for things like the fact that the franchisor is there to answer calls.

24, 7 support we know from most.

Of them, run meetings, ring the franchisee regularly, help with technical issues, maybe go and inspect jobs. A whole range of different things that they do to support the franchisee. And it's actually the main reason why franchisees succeed is because of all the stuff. Plus they run the advertising and work to keep them busy. They have a very strong incentive to keep their franchises happy, especially in gyms because they can be voted out and people can change regions and all kinds of things. So that's where just under half the money goes. We pay the call centre, that's a fair chunk coming out. And of course that's expensive because it's run in a way that's, that's not, not commercial. We don't, we don't put it offshore to the Philippines, we don't underman people are waiting online. We have it. So it's in Australia with people who are well paid and we have very, very good staffing levels so people don't have to wait. So it's expensive to do it that way. Then you have a chunk of money goes into advertising, of course, to keep them busy. And then you have odd things like with technology fee and branding fee and things like that. A few other odd charges.

But regardless of our expensive year, it's very minimal, especially with the advertising. For example, if you're trying to be an independent business now and go and do a digital marketing campaign, good luck finding a digital advertiser who will touch you for less than, let's say a grand spend a month and out of that grand spend you've probably got $600 going to management fee, consultants fee. Right. So it's very, very hard and you gotta hustle hard. I think another thing about a franchise is just when we talk to a lot of people who are in it, it's the support and I feel as though they're part of a family now. For example, we had Jim's handyman who were doing a HIA certificate for in building construction here course. So you had, I think it was around 15 business owners twice a week getting together. You know what I mean? Some of those blokes might not have a social. Not saying they don't have a social life, but that social aspect for them was really, really important. You hear it from franchisees, a lot of them team up in buddies of two or three and they might meet at the bunnings or something like that and get a snag and do some go look for some gear and stuff like that. They have that support in business. Whereas if you're alone and something goes wrong, who do you turn to?

Yeah, that's right. Well, look, it's a valuable service. What I say is average arrowage fees have a franchisee is making 100,000 a year, which is probably fairly average. We think of that roughly about $8,000 would go to the franchisor who would. And they'll pay for things like advertising and support and call center and everything else. And of that $800 a week, something like $12 will come to us.

Only 12 bucks.

It's not much.

Yeah, there we go. So everyone online always says that it's quite frustrating because I know how that works. I just want to get that out there for everyone because people think they say the same thing. Why make a franchisor rich? You know, why give all your money to head office, you know, go keep it for yourself. But if that was the case, everyone would be doing it right, wouldn't they be? And that's what it comes down to, I think the model with us as well, which is a. Not trying to advertise it, but it's a flat fee, which I think is very unique, plus the lead fee and the lead fee as well. So. But flat fee, right? So if someone is earning 100 grand, someone maybe is earning 500 grand. They essentially could pay depending on lead fees and whatever else, but they could pay essentially the same yearly fee.

Well, some top franchisees would be paid in the millions. Yes, the millions of dollars a year and they still pay probably $10,000 a year. The other thing too about us, and this is what I always say, is that just by me being Jims and putting this badge on, you can raise your prices 10% because that's the comfort factor. So in fact, which is less than what most franchisees pay in fees, but.

Inbuilt in that for customers, just so if a customer is watching, is that the gym's work guarantee? So if something does go wrong and actually Jim himself does personally get involved on a daily basis with complaints. So you have that in there. So no risk of having a cowboy come to your home and smash something in. You can't get a hold of them. All of A sudden.

Or people put money down on a job that doesn't get done.

Yeah, that happens a lot.

Yeah, that's right. And we make it up, we'll chase the franchisee. If they're gone, we will simply make it up out of what we call a warranty.

And that's a massive external problem all the time for people paying tradies and.

Then things like police checking and so forth too. You know who's coming to your house has been checked to some extent and.

Fully insured as well because we have an on site insurance brokerage. So they're all in there.

So to me it seems a fantastic deal. I don't know why anybody would go.

Yeah, I just think it's funny. I just think, look, I think the typical Australian, there's an us against the men mentality and reason why I say is because we had, when we had you go, you had a Current Affair story where you went on A Current Affair and you had all these people going, oh, gyms in my area, they take away all my local business or why pay fees to someone else? Or I'm a struggling little business owner, I don't want big gyms coming in there and taking this. People also need to remember that the franchisees are actually local business owners. They're not from a big conglomerate. They do have the Jim's brand, but end of the day they are a local business in there. Just choose to use the franchise and the brand name to help elevate their business and get them ahead. Or maybe the typical independent bloke starting from scratch. But I just think it's a jealousy mentality too as well. I'm not going to, I'm not trying to poke fun at some of the other. Let's say if you're an independent business, there's a lot, there's obviously a lot that are very successful. But the bloke who's there thinking it's okay to charge, let's say 20 bucks for a lawn, then get cracks because the gym guy comes in and gets $50 a lawn and his professional knocks up in a suit and all that sort of stuff.

Mind you, some independents don't mind us because we do tend to put the prices up.

Yeah, well, it does fall if it does help them, doesn't it? So it does help in a way.

Look, I had a friend who had a windscreen business actually and he was telling me how good it was that he could keep all his money himself and not have to pay any franchise suits or anything. But 25% of his income went in advertising.

There we go. That's one aspect of the thing. Right. And purely just doing it and advertising alone, I think the average advertising Levy is around 100, let's say 160 to $200, depending on a division. Right. A month?

Usually a bit less than that, but.

Yes. Yeah, usually it can, but it depends on the division. I know some division is a little bit higher because it might be harder to generate.

Like something like antennas.

Yes, correct. It might be.

I think my cleaning is mostly about 140, 150, something like that.

But even purely. And that's. But purely from an advertising benefit just for a business, let alone, like, if you're a current business struggler, people just think you don't have to be. If you want to come to gyms, you can have an existing business and basically use gyms to take to your next level and just take away the marketing thing for your own sake.

I know one of the things people do say to us sometimes is the reason they want to be independent is because they want to have a business that grows without limit. Whereas in a franchise you're constrained. But in actual fact, it's quite the opposite. It's far more likely for gyms franchisees to put workers on because it's so easy to get extra work. You just have to turn yourself on for work in the season and work comes flooding in and then if you lose your worker, you just turn the work off.

That's true. A good example of that is dan Kahlo is 26 and he hasn't turned leads off since he started two years ago. So I think he's taking like nearly 700 leads or something now, and he's just scaled his business up to have four or three workers with him full time. So you're not. And you could go to more, couldn't you? There's never. Well, let's say this is a question for you. What's the largest business you have heard of in gyms as a franchisee level?

I don't know the exact number, but I do know certain franchisees are turning over in the millions.

But what about an operational side in terms of numbers of employees? Do you have any rough idea? But you do say there's some currently that are turning over millions.

Millions, yeah.

Right.

I heard about a guy in New South Wales, in Sydney, who was doing $2 million a year.

What service was that? In mowing. In mowing. So Jim's mowing. A franchisee is turning over $2 million a year.

That's what I was told, yeah.

Well, there you go. So what other services? I think most services. What services could be conduced to that sort of level? If you want to really push yourself.

Business wise, fencing would be another good one. Yeah, fencing would be a particularly good one because there's so much work around and because also the jobs tend to be fairly large. So it's a great one to have a team of workers on the site. So you could have somebody go around. Does the quote, organize the workers? They go in, they come and inspect it, make sure the job is correct, but go off and they can travel around. I'm surprised that our biggest franchisees aren't actually. There aren't some multimillion dollar fencing franchises around. Every time somebody comes to training, I talk to fencing, I say put on workers, build teams.

Well, it's a different skill set, isn't it though? Because the actual doing the fencing, they might like doing that, but actually running the business outside of it where you're.

Doing, you always find some people who've got those kinds of abilities. And it's a great way to start. I think if becoming wealthy in this day and age, I cannot think of a better opportunity than somebody than the service industry. I think it's just brilliant. Somebody paid to work with their hands and learn the job from the basics, then grow from there.

And we had one guy, I remember from Jim's live, watched around eight weeks in a row and he was thinking about a guy called Polozoi in western Melbourne for fencing. He took like 67 leads in his first two weeks, which you shouldn't do because we know there's no way he could actually.

They do tend to get flattered sometimes.

However, we're just saying that, you know, he was wrapped. You know, he's like going, we make all these. Well, we see this stuff online. Jim's got leads from ready to go, 180,000 uncertainty leads. It's all true. If you don't believe this, you know, unserviced lead report you can get from a franchisor as well, which I recommend if you are that. And it's not just people who want to get out of the rat race. It's also if you've got an established business in that area and you want to look at it to expand, just take away maybe even the marketing hassle, which is something we can do.

Doesn't happen a lot, but it should.

It should happen more. And we hope it does happen more because the work is there and we need you to.

Well, I spoke. There was a guy I was talking to at last training. I was having dinner with him and he was a. He'd actually got what we call Jim's plus lead, which was overflow leads. And he said they're so good that he actually decided to come in and be Jim's himself.

Really?

Yeah. Wow.

Which division was that?

Attendance.

Well, good on him. That was the plan, wasn't it? That's the plan of it. So that's really good to hear.

We would like to draw quality independence in the gyms if we could and show them the advantages.

Absolutely. I think from a marketing point of view, if you're an independent business and you're paying all that money for Google AdWords a month or whatever, literally, gyms free is a fraction of what you.

It sounds like a great idea. It doesn't happen very much in practice. Usually people who come to gyms come from the beginning.

True. But however, if you are existing, please know if you are watching this on the off chance that come in, it's all come to training and take away that headache off the marketing and all that sort of stuff and help accelerate your business. So we'll leave that there this week, Jim. So thanks for that. If you are liking these episodes please let us know on social media and subscribe to us and leave us a rating in the itunes store.