Franchises: new deal for tenants

The four years since the smoking ban of 2007 have seen the tenanted pub companies wobbling like those plates on top of poles in the familiar circus act. There has been a need for new answers, a proper entrepreneurial approach, the taking on of more risk by the pubco. With massive property portfolios, it is no longer good enough, or realistic, to sit on your hands — and hope licensees arrive with outstanding retail skills and vision. It's not going to happen. The answer lies in creating ready-made retail solutions — and de-risking the tenanted opportunity.

Marston's has led the way, by applying a franchise offer, the Retail Agreement, to its most marginal pubs (otherwise unsaleable in bulk in a bombed-out mergers and acquisitions market). At the start of this month, the company won British Franchise Association (BFA) accreditation for the scheme. The deal here is simple — new licensees are able to tap into all of Marston's managed scale and expertise.

Early feedback indicates very high levels of franchisee satisfaction. Greene King now has nine franchised pubs — and hopes to receive BFA accreditation by around September. Greene King's franchise is being tested in the suburban locals market where prospects for tenanted licensees have diminished as the managed operators have sharpened their pencils on value offers. Its tenanted pubs in this arena tend to have medium-plus trading space, which means they come with high business rates — and relatively high break-even points of around £5,000 a week.

But by adopting managed division price-points, franchisees are able to take market share in their local marketplace. Franchisees pay around £35,000 for fixtures and fittings. Rent is set at half to two-thirds of fair maintainable trade, plus an annual RPI-linked rent increase (RPI is capped at 4.75%).

There's a franchise fee of 4% of turnover and a marketing fee of 2% of turnover, with Greene King paying 50% of the cost of Sky Sports (the franchise fee reduces by 1.5% if franchisees pass retail audits and flexes up by 1.5% if they fail them). Greene King franchised pubs are high-quality "heartland" sites and will have takings in the range of £7,000 to £11,000 net per week, which allows the company to indicate to franchisees they will earn at least £45,000 per annum.

Halley's Comet in Milton Keynes, Buckinghamshire, has been open for seven weeks. The pub is now taking around £11,000-a-week compared to £1,500 in its "pre-franchise days" — when one Greene King executive visited it and felt less than safe. It's actually being run by Greene King itself at the moment as the company seeks to hit all the metrics that will allow it to win BFA accreditation. There has been a modest refurbishment, costing less than £100,000, with the sales surge down to the plugging-in of managed division price-points, marketing expertise and retail disciplines.

To give an example, it's offering fish and chips at a similar price to JD Wetherspoon, lower than £4, as part of an overall offer that makes the pub a very affordable, comfortable neighbourhood diner (food sales stand at between 20% and 25% of overall turnover). There's evening activity across the week, offers, live sports and a medium-to-large beer garden.

All in all, the offer will keep its drinkers happy while building a wider Wetherspoon-style customer base around a host of value food items.

It's very early days for Greene King's franchise, but the first opened six months ago — and is still building sales. And during April (with its exceptional weather), the nine franchised pubs averaged weekly takings of £11,000 net of VAT. Greene King plans 50 franchise sites this year and the same number next year. The BFA accreditation will also allow it to apply the franchise format to other market segments in future. Marston's is, you'd estimate, around 18 months further along on franchising, with more ambitious plans in the pipeline.

By the end of this year, it will have 330 franchised pubs — slightly more than halfway to its plan to have 600 franchised pubs by the end of 2013. Although Marston's started applying franchise to its most marginal pubs, it is moving rapidly up the estate quality table and is (or soon will be) working on pubs comparable to Greene King franchised sites. It's a feather in Marston's cap, though, for starting at its most disadvantaged pubs. If franchises work there, they'll work almost anywhere. It's worth considering what dark clouds might eventually scud across the azure sky of the tenanted franchised sector.

Franchise/franchisee income needs to be kept in sensible balance, Domino's Pizza aims to ensure franchisees earn two-thirds of the profit pie, compared to the company's one-third. Tenanted pubs are a different world with a different set of historic property costs, and 50:50 might be a far more achievable and realistic split of income. Greene King is still in trial mode, but I doubt whether RPI rent increases are sensible. More generally, sustainability in franchising is achieved through a marriage of franchisee graft and ability, with franchisor retail innovation.

Both Marston's and Greene King have solid track records on growing sales within their managed division, so here is some comfort that they will be able to refresh retail content in a way needed to retain and recruit consumers in the medium and long-term.