By Lori Karpman
When you are looking to move from employment to self-employment, there are a variety of business models to choose from and franchising is just one of them. Thousands of people have bought franchises and prospered through this form of self-employment, but you will need a basic understanding of this specialized business model before you can make an informed decision as to whether or not franchising is right for you.
When a company decides to franchise its business, it is making a financing decision—i.e. instead of funding its growth through the bank or more investors, it finds individual investors who can operate ‘carbon copies’ of the corporate location. These investor/operators are called franchisees and they allow the franchisor to expand its number of locations very quickly, not just one at a time, and without the high cost of debt and interest from a bank loan or of having to operate many corporate locations. Franchise growth can be exponential.
Franchisees commit to operating their stores in accordance with the franchisor’s rules and procedures—i.e. the franchise system. An initial franchise fee covers the franchisor’s expenses for putting the franchisee into business and pays for the franchisee’s right to use the trade name, trademarks, tools and other elements of the franchise system to generate revenue.
The franchise fee is paid in full when the franchise agreement is signed. It is not refundable.
During the term of the agreement, you will pay a continual monthly fee of around five to nine per cent of revenues as your royalties, which enable you to use the system’s goodwill, trade names, trademarks and other elements on an ongoing basis. There seems to be a common misconception that royalties are paid in return for services.
For marketing services, your franchise agreement will generally require you to make two payments per month. One will be to the national advertising fund, which usually entails two to four per cent of your gross monthly sales. This fund is used to generate national brand awareness. Another payment of two to five per cent of gross sales is for local store marketing, which will generate brand awareness directly in your territory and, thus, drive sales locally for your franchise.
The success of a franchise system is based upon two intangible and invaluable principles: consistency and goodwill.
Consistency means customers can expect to have the same experience when dealing with every franchise unit. A Big Mac, for example, is a Big Mac wherever you may be—you know you are in a McDonald’s restaurant.
Potential franchisees should visit and compare a few existing units. If the experiences are not consistent, the franchise system is probably not a good choice!
Goodwill refers to the existence of positive brand awareness, so once a new franchise unit opens, customers will be attracted to it, by virtue of the awareness that has already been generated for the brand. This is the main reason people buy franchises, as it enables them to generate immediate sales.