Detecting Franchisee Fraud

By November 4, 2015Fraud, Retail

stop franchisee fraud Do you suspect that your franchisees are misrepresenting their sales in order to pay less royalties? Or are they ordering from unauthorized third parties to reduce costs? While more prevalent in some franchise systems (where they are indicators of a larger systemic problem), fraudulent franchisees can be found in any system. Here are a few ways you can leverage data to preparing yourself for “the talk” – or worse: legal action.

The core requirement: collecting data

The techniques suggested here rely on having access to information. If you don’t have any information, you’ll be flying blind. Data lets you paint a more accurate picture of the situation. Most of this information should come from the operational solution that your franchisees use on a daily basis. Here’s some of the information you should be collecting – they don’t apply to all franchise concepts, but having more is better:

  • Real-time sales data from the point of sale.
  • Cost of goods sold from the point of sale.
  • Purchase orders from all the primary suppliers
  • Quotes from your customer relationship management tool
  • Schedules from your scheduling calendar

The core technique: benchmarking ratios

Noticing that a franchisee’s sales are substantially lower than your expectations doesn’t get you very far. All you have is a hunch. To validate that fraud is actually occurring, you need to compare two data points. Why? If you want to reduce royalties, it is easy to simply misrepresent top-level sales. Franchisees can “forget” a few transactions paid in cash or entered in a separate system.

What is much harder is to fudge two different indicators that are heavily correlated.


Benchmark the Purchases/Sales ratio across the system. When two locations have comparable sales but one buys much more raw product that the other, it means either they are highly inefficient, that there is some kind of theft going on (by the franchisee or by the employees) or they are purchasing goods from an unauthorized supplier. Instead of looking at the top level ratio, savvy franchisors drill-down to the specifics such as “Chicken purchases” / “Sales of all items containing chicken”. By looking at the ratios for certain proteins, they get a better idea of the store’s behaviour.


Retail systems allow you to track specifics on an item-per-item basis. For each item, you can compute the percentage of missing items as a (Purchased – Sold – In Stock)/Purchased. These items have either been stolen by customers or sold via some external system. By benchmarking ratios against a large number of locations, you’re able to pinpoint the most probably root cause.

Service franchises

In the service industry, one often cannot use the above ratios because no physical items are transferred between the franchisee and the customer. In these cases, two other ratios can prove helpful. First, the percentage of quotes accepted can be benchmarked across the system. Second, the percentage of time the franchisee (or one of their employees) is busy is also a good indicator. In both of these cases, low rates indicate a poorly performing franchisee and not necessarily a fraudulent one. However, if you drill-down to the root causes you’ll be able to determine if lost jobs (or jobs from other sources) are actually being secretly performed.

The silver-lining: improving performance

What’s interesting is that having access to this information and being able to benchmark these ratios across all locations can serve a broader purpose than just identifying fraud: it is a great way to improve performance across the system. The exact same indicators let you drill down into a unit’s weaknesses, giving you insights on what they need to do to improve.

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