Big restaurant franchises are outperforming other chains coming out of the pandemic, generating higher cash flows, increasing market share and getting stronger valuations, according to a report this week by the investment bank Rabobank.
Large-scale franchises have increased their market share in the foodservice industry over the past decade—to 28.4% in 2021, from 19% in 2012, according to the report, “Franchising the American Dream.”
By comparison, non-franchised restaurants have decreased their market share by 11% over that same period.
“The state of franchising is incredibly strong,” Tom Bailey, senior analyst, consumer foods with Rabobank and the author of the report, said in an interview. “There’s record cash flows for franchisees, and great performance financially for a lot of franchises. It shows the resilience of the business model.”
Franchises grew absolute sales globally during the pandemic. The largest franchisees are up 12% versus 2019, according to the report.
Franchises have been able to ink better deals with delivery companies, in part because of their already-immense size. The report notes, for instance, that McDonald’s negotiated better terms with third-party delivery providers this year in a bid to improve the profitability of such orders. Smaller companies do not have the ability to do that.
Delivery orders, and the companies’ focus on technology overall, such as mobile ordering, helped drive sales over the past two years. The focus on technology, through tabletop tablets and kiosks as well as mobile ordering and other tools, helped many of these companies offset rising labor costs coming out of the pandemic.
Franchise brands also worked to keep their franchisees’ doors open during the pandemic, cutting menus and giving breaks on royalties and other fees. Indeed, franchisors’ willingness to buy stores when they struggle has also proven to be one of the primary strengths of the business model, at least when it comes to large-scale brands. The franchisor’s willingness to buy struggling operators often provides a backstop against some store closures.
The brands’ performance through the pandemic and their growing market share is driving up valuations, both among franchisees and the brands themselves.
Demand for franchisees is high at the moment and valuations of large-scale operators has soared—some brands, such as McDonald’s and Taco Bell, fetch valuation multiples of 10 times earnings before interest, taxes, depreciation and amortization, or EBITDA, historically high for a franchisee. Private equity has been active in the space.
The five largest franchisees in the U.S., led by Flynn Restaurant Group—which acquired NPC International last year—accounted for $7 billion in sales in 2021, according to data from Franchise Times. The Rabobank report expects further consolidation among franchisees, in part because of generally low unit growth among large franchisees.
Franchisors, too, have higher operating margins—highly franchised brands averaged 31% operating margins last year, compared with just 3% for primarily company-operated concepts.
They also tend to have higher valuations. Valuations for mostly franchised brands averaged multiples of 23 times EBITDA, versus 19 multiples for company-operated restaurants.
One reason franchise brands have been able to thrive has been their global growth. International growth for companies like Yum Brands, McDonald’s, Domino’s and others have helped drive more earnings.
But domestic unit growth has been slow or nonexistent. Many major brands have relied more on international markets for new restaurants. They’ve instead found new channels to get people to buy burgers, chicken and tacos in the U.S., such as delivery and mobile ordering. And more recently they’ve encouraged people to order more items per visit.
Thus, brands like McDonald’s and KFC have grown even as their unit count shrunk. McDonald’s, for instance, has closed more than 1,000 units in recent years, including about 400 last year.
Many of these brands plan to pick up the pace of unit count growth. KFC and McDonald’s in particular expect to add locations this year. But these brands could find that road more challenging.
“With this amount of money, there’s going to be growth,” Bailey said. “But there’s limitations in terms of cost of growth. There are limitations on equipment. There’s limitations on labor. Everybody’s got money and is planning to grow. But can it be achieved when you have rapidly rising costs?
“I expect strong growth. But some of the edge is going to be taken off it by the environment.”
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