Introduction to Franchising

The franchising model is specific in nature, and must be understood clearly by the potential entrepreneur before investing in a franchise. Crucially, you don't buy the franchise itself. You are buying a licence, which gives you the right to operate a franchise - usually within an agreed territory, and according to a defined existing system.

The franchise relationship is business based, and it exists when a franchisor (the individual or company that owns the system) grants the licence rights to an investing franchisee (a person or company who enters into a contract to use the franchised system) the rights to use the franchisor's operating system and brand, for an initial fee. In return for this fee, the franchisee will return a share of income to the franchisor, which is known as the royalty.

The license between franchisor and franchisee is usually contractual, and will be for a defined period of time. The franchisor will select candidates, who will become strategic network partners to implement the overall franchise business plan. These candidates will sell the franchise's products or services to customers, using the defined and agreed business model, or other proprietary products. Policies & procedures will be in place, to ensure consistency across the various locations and ensure the integrity of the operating model.

Franchising offers certain key benefits for strategic growth. Firstly, it gives franchisors the oportunity to gain rapid market share, by maximising their distribution points. This leads to greater brand awareness and exposure. Franchisors can grow, thanks to their network of committed franchisees, operating the model and driving business at their location. For franchisees, the model offers a route into business with full support, a recognised brand name and an established business model - thereby reducing the risks associated with a new start-up.

Franchising is also a recognised business model across the majority of industries. The most common industry may be fast food, but the model exists across service, retail, business services, automotive, lodging and real estate industries to name but a few.

Various aspects of a franchise are unique and must be carefully considered. Crucially - you don't buy the franchise. You buy the license to operate it. You don't gain ownership of the franchise name - but again, you acquire the license that allows you to own the name. You don't purchase the business model - but you do purchase the rights to use it for an agreed period of time. The model has been compared to rental properties and tenancies, whereby the tenant doesn't earn the rented space, but does have use of it for the contract period.

Also fundamental to the franchise concept, is uniformity. Every franchise must be operated consistently within the business. Its vital that the franchisees sell the same products or services, in similarly presented outlets and with defined standards of service, so that the franchise overall can build trust, awareness and confidence in the customer's mind and encourage brand adoption. Customers will always gravitate towards brands that they are familiar with and trust.

To create this uniformity, franchisees operate according to defined standards, processes and procedures which will be clearly defined in the franchise manuals and documentation. Each franchisee will be obliged to follow this set system for operation, use the same product suppliers and undertake the same training. By keeping system, training and suppliers consistent, the customer benefits from clear brand expectation and experience - building the brand's impression and the customer's expectations of it.

To enforce this uniform approach, the franchising license exists. This gives the holder the right to use both brand and system. The license comes with additional obligatons, such as to follow the systems and standards defined in the business model. Franchisees who fail to follow these standards can loose their licenses. A compliant system benefits the franchisee as much as the franchisor - enhancing the investment and driving the market. Some franchisors comment on the heavy control detailed in their franchise agreement, and believe it to be strongly favoured for the franchisor. However, this is normal - and neceessary - to permit the franchisor to control the brand's integrity for all investors. As a potential franchisee, you must understand that you will be obliged to work within a controlled system, and conform to it. The success of the franchise is dependent on its brand - and that in turn, is dependent on consistent customer experience.

Despite this control however, strong and established franchise companies do value the imput of their franchisee network and have their own internal advisory groups to capture feedback and input from the franchisees. This will be used to guide the company's strategic direction. A good franchisor will view their franchisees as partners in a strategic business sense. Of course, the partnership doesn't exist in the legal sense - ultimately the franchisor has final say, although they may take input. The franchisor effectively acts as the senior partner within this strategic franchising partnership. They are wise to take the feedback and suggestion of their network however, as franchisees are the front line operation and will have a strong sense of what the customer needs and wants. For example, the franchisees at McDonalds led to the creation of the Egg McMuffin, after listening to customers.

Hallmarks of a Franchise

There are many benefits to franchising, which can include:

  • Becoming part of a pre-established brand
  • Adopting a proven & time-served business model
  • Benefiting from group purchasing power
  • Benefeting from group - or 'co-operative' purchasing power
  • Support with running the operation
  • Good training
  • Ongoing corporate level research & development
  • Corporate level market testing for new services and products
  • Easier access to finance
  • Access to high profile / key outlets & sales locations

Indicators of a strong franchise include:

  • Evidence of strong management and leadership
  • Participative management, guided with Franchise Advisory Councils
  • Ongoing training
  • Ongoing brand development
  • Continuous investment and development of operating systems
  • Systematic communication
  • Supportive corporate culture

General Information on Franchise Fees

Franchising fees are usually paid for both use of the branding and the system. This usually takes the form of a single fee, as well as an ongoing royalty fee. This ongoing fee may be charted weekly or monthly - or at different times, depending on the nature of business sales. Most franchises will also charge additional fees for the pool advertising fund for regional and national advertising. By approaching this through pooled investment, the network can purchase more effective / expensive advertising than they would otherwise be able to afford individually.

Why do some have franchise fees and others do not?

Initial franchise fees vary, from £5,000 to £50,000 as a general guideline. This fee will depend on factors such as the amount of support and training required to get the new location running successfully. Alongside this initial support, the fee will cover the cost of recruitment, site identification and territory analysis, the opening launch and some recovery of the corporate development costs. As a rule, the larger and more established the franchise brand, the higher this initial fee is likely to be.

Ongoing royalties will vary between 0-20% of the gross sales figure. The actual amount will vary according to the level of ongoing services and support provided by the franchisor. By way of example, some provide central contact centre operations with order processing. This requires higher operating costs, which is matched through higher royalties. Where these royalties aren't charged, the cost will be built into the product or service sales in the form of a centralised mark-up or rebate system. As a rule, the more involved the franchisor will be with the franchisee network operation, the greater the fee.

Certainly, franchisors must make both revenue and profit to be a in position to provide ongoing services and support. The royalty system ensures that the franchiser retains a vested interest in the success of the franchisee network.