Buy and build is a strategy that has served many small businesses well over the years. AIM-listed Franchise Brands is adopting a similar path, but with a twist.
As the name implies, the operations the group owns are franchises and for its purposes it is less the type of business rather than the structure that matters.
That factor helps explain a current portfolio that includes drain cleaning, dog sitting, car body repairs and oven cleaning. The common link is they can all benefit from one, central support services function.
As more brands are added, more benefit (and profit) is extracted out of the management hub so that the sum of the parts becomes greater than each business individually.
If that model sounds familiar it may be because Franchise Brands is the vehicle of one-time Domino Pizza UK boss Stephen Hemsley and his business partner, Saracens rugby club owner Nigel Wray.
Hemsley enjoyed a 20-year career at the UK arm of Domino’s, where he helped steer the group from start-up to a market cap of £1.6billion.
Finance director at first, he became chief executive and finally chairman and still retains links to Domino’s through a non-executive seat on the board.
A strong core and infrastructure were key to the pizza group’s success and he is confident he can repeat the trick with Franchise Brands.
Related: Domino’s Pizza U.K.: A Safe 3.3% Dividend Yield With More Dividend Hikes Expected
There is one significant difference. Domino’s UK had an exclusive licence with the US owner, a master franchise, but this time Franchise Brands owns the brands itself, which crucially gives it complete control of marketing, branding and the other support services.
The four bands currently in the portfolio are Metro Rod (drainage and plumbing); ChipsAway (minor car paintwork repairs), Barking Mad (dog sitting) and Ovenclean (cleaning ovens).
All brands and IP are owned by the company, with direct franchises to operators in most cases, though ChipsAway does have some master licences overseas.
MetroRod is the most profitable currently and the most recent addition, having been acquired for £28.4million in April 2017.
Hemsley says the potential of the business has been a nice surprise, especially the fact it is in effect two businesses.
Metro Plumb, a specialist plumbing service, was almost thrown in for nothing and ultimately might have even more potential than Metro Rod, which specialises in drain cleaning and maintenance.
Both companies are B2B business, not domestic, working for utilities and businesses supplying emergency repair services and there appear to substantial opportunities for each.
Plumbing business: MetroRod is the most profitable currently and the most recent addition
At Metro Rod, the initial thought was it would be competing in a market dominated by four large groups.
In fact, Franchise Brands has found that the market contains up to 1,500 smaller players and a lot of scope to build market share.
‘Out of a business worth £750million, we have a market share of £35million,’ said Hemsley.
Metro Rod has also been a little neglected. Formed 30 years ago, it has changed hands a few times since, but this is the first time a specialist franchising team has held the management reins for more than 20 years.
Brand building features heavily in Hemsley’s rejuvenation plans.
‘It’s all in the sales and marketing – professionalising this to raise the profile of the brand and the understanding of what we do.’
Adding Metro Rod has also allowed Franchise Brands to strengthen both the central IT infrastructure – it never had the scale previously – and finance function with a chief financial officer now on board as well.
That has freed up the three managing directors, which now includes one to run Metro Rod, within the business just to focus on building the franchise networks not the back-office or admin stuff.
One other brand in the portfolio is Ovenclean
These investments will dampen profits in the short term – as the additional central costs will outrun the growth in the income received from franchisees.
As sales pick up or more brands are added, the rewards will come through and should increase rapidly. That was how it worked at Domino’s, Hemsley says.
Initially, royalty income from franchise businesses struggle to keep up with central costs, but once the system is in place and annualised, any further expansion drops straight to the bottom line.
‘At Domino’s we had five years of growing overheads as costs rose as fast as income.
‘But once everything was in place, profits went from £5million to £100million.’
Franchise Brands’ is still a way off that, but house broker Allenby Capital is pencilling in profits in 2018 to rise to £2.81million (from £2.1million) and to £3.5million in 2019.
Cash generation is good as commercial risks and capital expenditure are borne by the franchisees. There is a dividend, 0.5p in 2017, while Hemsley and Wray still own stakes of 26.4 per cent and 27.8 per cent respectively.
Executing the strategy for Metro Rod will take 18 months, says Hemsley, but after that point the incremental turnover starts to come through on annualised overhead costs.
‘From 2019 onwards – it will start to get interesting’.
At 69.5p, Franchise Brands is valued at £54million.
Source: This is Money