Buying a franchise can be a fantastic way to own your own business. When you buy a franchise, you buy the right to use an already established brand; as well as all the systems and processes you’ll need to run that business on a day-to-day basis. You will also receive training and support from the franchisor who will teach you everything you need to know to run the business successfully. The obvious question then is, “how much does all this cost?”
Initial license fee
Franchisees are typically expected to pay an initial license fee when they first purchase the franchise. The initial license fee should cover the costs to the franchisor of providing the training, inventory and equipment that make up the start-up package. The license fee must not include any element of significant benefit to the franchisor. This is because if the franchisor makes most of their profit from the license fee, they will have a strong incentive to simply sell new franchises rather than support their existing franchise network.
In a well-run and ethical franchise network, the franchisor will make a profit from the fees charged to the franchisee. In this way, the franchisor has a direct interest in the success of its franchisees: the more the franchisee earns, the more the franchisor earns. The franchisor should not need to make a profit on the license fee.
ongoing charges
After the initial fee, the franchisee is expected to pay a regular charge for ongoing rights to use the business system and support from the franchisor. These fees will generally be a service charge, calculated as a proportion of the franchisee’s turnover and payable each month. This could be anything up to 10-12% of franchise turnover. This means that for a franchise network to be successful, there must be enough profit margin for both the franchisee and the franchisor to take a cut and still be able to offer competitive products and services to customers.
In some networks, the franchisor will make money from the sale of products to the franchisee instead of charging a proportion of the turnover. This is particularly common in retail food franchises where the franchisor charges a premium on the cost of menu items supplied to the franchisee.
There is a growing trend for franchisors to make the service charge subject to a minimum fee. In a pure franchise model, the franchisee’s charges would not be subject to any minimum. This is because if the franchisee is required to pay a minimum fee, then the franchisor is guaranteed to receive payment, even if the franchisee does not make any money. This goes against the general principle that the franchisee and the franchisor are together; and that the success of the franchisor must depend on the success of his franchisees.
Other charges
Franchisors will often charge for additional services provided to the franchise network and it is important for the franchisee to understand what additional payments may be required of them. For example, many franchise networks require franchisees to make a contribution to the national advertising budget. This could mean up to 2% more of the franchisee’s turnover.
Franchisees will be required to attend regular trainings and events organized by the franchisor. While some franchise networks do not charge for the training or event itself, the franchisee is expected to pay their own travel and living expenses. This could mean that the franchisee must budget for hotel accommodations and meals, as well as travel costs to and from the event.
Additional charges may arise in particular circumstances. For example, one-time fees may arise at renewal, or if the franchisee decides to sell their business.
Counting the costs
All of these fees and charges will add to the costs of buying stock and raw materials that any company needs. This means that the costs of running a franchise business will be higher than those of an independent business. Having said this, many franchisors are able to harness the buying power of the network as a whole to negotiate better terms with suppliers than an independent company could. This may go some way towards offsetting some of the costs; though it is not uncommon for the franchisor to retain the benefit of vendor rebates or discounts rather than pass them on to their network.
The crucial point for franchisees is that before you invest in any franchise business, you need to make sure that you are aware of all the fees that you are expected to pay; And you should budget for all of this when preparing your business plans. You will need to identify any hidden costs and assess whether, overall, the franchise network offers good value for money.
If you are a franchisor, the lesson is to be transparent in the fees you charge. There is nothing inherently wrong with making money from a franchise network. In fact, a franchisor must ensure that their fees are high enough to finance the support, training, and other services that they must provide to their network. However, it should be clear from the outset what is included in the standard rates and when additional charges may apply. Similarly, if the franchisor is receiving benefits from the suppliers, these must be declared to the network.
Ultimately, as with any business, the numbers must add up. This applies to both the franchisee and the franchisor, as both must be able to make a reasonable profit from the business. If one of the parties benefits at the expense of the other, the business model will not be sustainable in the long term.