Starting a business is a difficult and complicated process. Many first-time entrepreneurs choose to buy a franchise rather than build a brand-new business from the ground up so they can benefit from brand recognition and a proven business model.
For more information, please visit our website.
From Subway to 7-Eleven to the UPS Store to RE/MAX, franchised businesses are all around us, even though we may not always realize it.
Many businesses that are commonly thought of as national chains are actually independently owned franchises, and for aspiring entrepreneurs, these brands represent the opportunity to own and operate a market-tested business in their own backyard.
Opening a franchise appeals to many entrepreneurs, even those who plan to one day build their own business from scratch. By starting with a franchise, a first-time business owner can learn how a successful, well-branded business operates from the inside out and later integrate these insights into the development of their own company.
In a technical sense, a franchise is a contractual agreement between the owner of a brand (a franchisor) and a business operator (a franchisee) that allows the business operator to own and run a branch of the franchisor&#;s business using the brand&#;s unique identity, logo, reputation, marketing materials, and proprietary business model to sell the brand&#;s products and services to consumers.
In other words, a franchise is a mutually beneficial joint business venture through which a brand empowers an entrepreneur to own and operate a branch of that brand&#;s business in exchange for a startup fee and a percentage of the branch&#;s revenue.
Conversationally speaking, however, the word franchise is used most often among the public to describe either a franchised business at large (e.g., Wendy&#;s the brand) or any given location of a franchised business (e.g., your local Wendy&#;s restaurant).
Each location of a franchised business is essentially an independently operated outlet that benefits from the brand recognition, marketing efforts, and established operational model of the franchisor.
A franchisor is the owner of an established, successful original business with some degree of brand recognition. This could be a relatively small, regional business run by a single proprietor (like a roofing company with 12 branches around the Midwest), or a well-known, multinational brand with tens of thousands of locations (like McDonald's). In either case, the franchisor represents an established brand and its products or services.
A franchisee, on the other hand, is an individual who pays for a license to operate a branch of a franchisor&#;s business. A franchisee invests in a franchise by paying a franchisor for the right to use its business&#;s name, brand, operational model, and other assets for a period of time defined in the franchise agreement. In exchange, the franchisor receives a one-time franchise payment and ongoing royalty payments from the franchisee.
Owns brand and brand assets
Owns the right to use brand and assets for a period of time
Exerts influence over all branded locations
Owns and operates one or more business locations for a set period
Earns franchise fee and royalties from all franchisees
Pays an initial franchise fee and ongoing royalties to the franchisor for the right to use the brand and its model
Provides guidance, training, materials, and other assets to franchisees to help them succeed
Receives training, guidance, and other assets from the franchisor and uses them to succeed
Franchise agreements are essentially investment opportunities, both for the franchisor and the franchisee. The franchisee exchanges money for a brand&#;s assets (recognition, products, services, and strategy), while the franchisor exchanges brand assets for an initial lump-sum payment (the franchise fee) and an ongoing income stream (royalty payments).
If the franchisee&#;s location of the business is successful in their community, the franchisor not only receives periodic, dividend-like royalty payments but also gets the added bonus of increased brand awareness and customer goodwill.
In many cases, a prospective franchisee must apply and be approved to open a franchise in their area, but since that isn&#;t always the case, the first real step for both parties is the signing of a franchise agreement.
A franchise agreement is a legally binding document that, once signed, grants the franchisee the right to operate their branch of the franchise for a certain number of years. This document also outlines the franchisee&#;s responsibilities, which can include upholding the brand&#;s standards, generating a certain amount of revenue, using only approved suppliers, and other provisions. If the franchisee violates the terms of the contract, the franchise agreement may be revoked by the franchisor.
The franchise agreement also details the franchise fee and royalties that must be paid to the franchisor as well as the resources and support the franchisor pledges to offer to the franchisee, both during the new branch&#;s opening and on an ongoing basis.
To start a franchise, a franchisee must typically pay a franchisor a one-time franchise payment for the right to begin doing business under the franchisor&#;s brand. Franchise fees vary quite a bit and can depend on the length of the franchise agreement (how long the franchisor grants the franchisee the right to use its brand system), but most range between tens of thousands and hundreds of thousands of dollars.
In most cases, the franchisee also needs to purchase or lease a building and equip it to operate as a branch of the business, which often means purchasing equipment and paying for custom renovations to the space. Between a franchise fee and these startup costs, opening a franchise can require a very expensive initial investment, and since there is no guarantee of success, this investment is very risky for the franchisee.
That being said, this risk is offset to some degree by the fact that the franchisor&#;s brand has already proved to be profitable in other markets and the brand&#;s products or services likely already have a customer base. Most new businesses fail, but new franchises may be more likely to succeed because their brand is recognizable, their business model is tested, and demand for their products already exists.
Once a franchisee secures and equips their building (if applicable) and hires a team, the franchisor typically helps them market their business in the local community, hire and train staff, host a grand opening, and begin operating.
In many cases, the franchisor (or a member of their team) may work on-site at the franchisee&#;s new business for a month or so in order to help establish the brand&#;s operational model and provide ongoing guidance and support to the franchisee and their new team of employees as they begin to do business.
Once the franchisee and their team get the hang of things, they are typically left to their own devices but can reach out to the franchisor for guidance and resources on an ongoing basis.
As the franchisee operates their new business, they send periodic royalty payments to the franchisor. Royalty payments are usually a percentage of either profit or revenue and may be paid monthly or quarterly &#; the details of a franchise&#;s royalty payments can vary quite a bit and are outlined in detail in the franchise agreement.
Eventually, the terms of the franchise agreement come to an end, and at that point, the franchisor may offer to renew the franchise agreement, propose a modified franchise agreement (sometimes with higher royalty percentages), or simply terminate the franchisee&#;s right to continue doing business under their brand.
In most cases, successful franchisees are asked to sign a renewed or updated franchise agreement and continue doing business on behalf of the franchisor's brand. Those who are particularly successful may even be asked if they would like to open additional branches in adjacent geographic markets.
Many in the franchising industry claim that franchises have a 95% success rate, citing a s study by the Department of Commerce. The data used to produce this statistic came from a voluntary survey of 2,000 franchisees, only 5% of whom said their franchises failed within the first five years of operation, indicating a 95% rate of success (compared to the 45% five-year survival rate for new businesses at large).
The 95% figure has become so notorious in the franchising industry that it is colloquially referred to as &#;the Stat,&#; but it is widely considered inaccurate due to the fact the data was self-reported, and successful franchisees may have been more inclined to submit responses than those whose businesses folded.
Interestingly, no particularly thorough research has emerged in the decades since the Department of Commerce study to replace the 95% statistic. That being said, most in the industry agree that while the success rate for new franchises probably isn't even close to 95%, a new franchise of a well-known national brand with established demand and corporate operational training (like McDonald&#;s or Wendy&#;s) is more likely to succeed than a brand-new business in the same industry built from scratch.
Chick-fil-A has become one of the most popular franchise opportunities for aspiring franchisees, as they tend to be quite successful, but the brand has become known for its rigorous and selective application process and training requirements.
Joe Raedle/Getty Images
Every franchise is different, and they vary quite a bit in terms of startup difficulty, cost, franchisor controls, franchisee support, site selection, and other details. Some franchised businesses are very strictly controlled by the franchisor in order to uphold the brand&#;s standards across locations, while others give the franchisee more leeway in terms of how they run their business. These specifics are best demonstrated using real-world examples.
As far as franchised businesses go, Chick-fil-A is known for maintaining particularly rigorous franchisee selection and training processes &#; not only do prospective franchisees need to demonstrate their qualifications, be selected from a large group of applicants, complete an intensive multi-week training, and pledge a $10,000 initial investment; they also have to be willing to work long hours in the restaurant as a hands-on team member. Chick-fil-A&#;s leadership specifically notes that prospective franchisees seeking passive income via a hands-off investment opportunity should look elsewhere.
Subway, on the other hand, only requires that prospective franchisees pass a relatively simple, one-hour skills test focused on basic math and English. This means that most anyone with the requisite capital ($10,000&#;$15,000 plus startup costs) can open a Subway in their area without going through a rigorous application process.
Subway is also unique in that the brand holds the leases for all of its franchised branches and then subleases the locations to the franchisees. It also requires all franchisees to source their supplies and ingredients from the brand&#;s approved distributors in order to maintain quality across all locations.
Many franchised businesses, like Subway, are fairly lax about franchisee selection (so long as investors have enough capital to open a branch), offering plenty of initial and ongoing support when requested by the franchisee but requiring little of them but their initial and ongoing financial investments and adherence to the brand&#;s standards.
In some cases, franchisees of these sorts of businesses can hire an on-site manager to run the business&#;s day-to-day operations so that they can collect passive income without working on-site all that often.
Chick-fil-A
Fast food
$10,000
The UPS Store
Shipping/retail
$9,950&#;$29,950
Ace Hardware
Retail
$5,000
McDonald&#;s
Fast food
$0&#;$45,000
Wendy&#;s
Fast food
$5,000
Snap-on Tools
B2B automotive tool sales
$8,000&#;$16,000
Matco Tools
B2B automotive tool sales
$8,000
RE/MAX
Real estate
$17,500&#;$37,500
Express Employment Professionals
Employment & staffing
$0&#;$40,000
Wild Birds Unlimited
Retail
$40,000
Century 21
THE MIDI. are exported all over the world and different industries with quality first. Our belief is to provide our customers with more and better high value-added products. Let's create a better future together.
Real estate
$0&#;$25,000
Minuteman Press
Printing
$32,500&#;48,500
The initial franchise fee and periodic royalty payments are just two of the expenses that come with operating a franchise. Every situation is different, but many other fees and expenses can come into play. Some larger franchisors charge all franchisees a mandatory fee for the brand&#;s ongoing advertising efforts, which may take place on a national scale but benefit all franchise locations.
Some franchisees purchase or lease their own equipment, but in many cases, specific equipment and supplies must be leased directly from the franchisor for a monthly or annual fee. Other common expenses franchisees may incur include payments for mandatory insurance or IT/network support provided by the franchisor.
Every franchise opportunity is different, and the best way to get a full sense of the expenses associated with operating a specific franchise is to look the brand up on Franchise Direct, which aggregates specific information and data about virtually all common franchises.
Below are answers to some of the most common questions investors and entrepreneurs have about franchises and the franchising process.
Turning an established business into a franchise is a complicated process, but some of the most important steps include creating a franchise disclosure document (FDD) for prospective franchisees as required by the Federal Trade Commission (FTC), distilling the company&#;s business model and proprietary knowledge into a cohesive and accessible operations manual, registering the brand&#;s trademarks, establishing a new franchising company, and registering the FDD with the states in which the franchisor wishes to operate.
Many well-known franchises are also publicly traded companies, including McDonald&#;s (MCD) , Wingstop (WING) , Domino&#;s (DPZ) , Valvoline (VVV) , Goosehead Insurance (GSHD) , Planet Fitness (PLNT) , The Vitamin Shoppe (VSI) , and other well-known national and international brands.
According to the International Franchise Professionals Group, a networking organization used by franchisors and franchisees, the best brands for &#;semi-absentee franchises&#; &#; those where the franchisee can typically hire a manager to run day-to-day operations after the startup process is complete &#; include the following:
According to Franchise Direct, an online franchise information aggregator, the following franchises represent the best opportunities for franchisees who want to do most of their work remotely, from home or elsewhere:
What Is a Franchise?
A franchise is a type of license that grants a franchisee access to a franchisor's proprietary business knowledge, processes, and trademarks, thus allowing the franchisee to sell a product or service under the franchisor's business name. In exchange for acquiring a franchise, the franchisee usually pays the franchisor an initial start-up fee and annual licensing fees.
Investopedia / Mira Norian
Understanding Franchises
When a business wants to increase its market share or geographical reach at a low cost, it may franchise its product and brand name. A franchise is a joint venture between a franchisor and a franchisee. The franchisor is the original business. It sells the right to use its name and idea. The franchisee buys this right to sell the franchisor's goods or services under an existing business model and trademark.
Franchises are an effective way for entrepreneurs to start a business, especially when entering a highly competitive industry such as fast food, or an industry that is established and requires time to develop its operating processes from scratch. One big advantage to purchasing a franchise is you have access to an established company's brand name, management knowledge, processes and procedures, financial toolbox, and metrics. You won't need to spend time and resources building them and getting your name and product out to customers.
The franchise business model has a storied history in the United States. The concept dates to the mid-19th century when two companies&#;the McCormick Harvesting Machine Company and the I.M. Singer Company&#;developed organizational, marketing, and distribution systems recognized as the forerunners to franchising. These novel business structures were developed in response to high-volume production and allowed McCormick and Singer to sell their reapers and sewing machines to an expanding domestic market.
Before buying into a franchise, investors should carefully read the Franchise Disclosure Document, which franchisors are required to provide. This document contains information about franchise fees, expenses, performance expectations, and other key operating details.
The earliest food and hospitality franchises were developed in the s and s. A&W Root Beer launched franchise operations in . Howard Johnson Restaurants opened its first outlet in , expanding rapidly and paving the way for the restaurant chains and franchises that define the American fast-food industry until this day.
There were 790,492 franchise establishments in that supported the U.S. economy, with an expected 805,436 for . These franchises contributed over $500 billion to the economy. In the food sector, franchises included recognizable brands such as McDonald's, Taco Bell, Dairy Queen, Denny's, Jimmy John's, and Dunkin'. Other popular franchises include Hampton by Hilton and Days Inn, as well as 7-Eleven and Anytime Fitness.
Franchise Basics and Regulations
Franchise contracts are complex and vary for each franchisor. Typically, a franchise agreement includes three categories of payment to the franchisor. First, the franchisee must purchase the controlled rights, or trademark, from the franchisor in the form of an upfront fee. Second, the franchisor often receives payment for providing training, equipment, or business advisory services. Finally, the franchisor receives ongoing royalties or a percentage of the operation's sales.
A franchise contract is temporary, akin to a lease or rental of a business. It does not signify business ownership by the franchisee. Depending on the contract, franchise agreements typically last between five and 30 years, with serious penalties if a franchisee violates or prematurely terminates the contract.
In the U.S., franchises are regulated at the state level; however, the Federal Trade Commission (FTC) established one federal regulation in . The Franchise Rule is a legal disclosure a franchisor must give to prospective buyers. The franchisor must fully disclose any risks, benefits, or limits to a franchise investment.
This information covers fees and expenses, litigation history, approved business vendors or suppliers, estimated financial performance expectations, and other key details. This disclosure requirement was previously known as the Uniform Franchise Offering Circular before it was renamed the Franchise Disclosure Document in .
Advantages and Disadvantages of Franchises
Advantages
There are many advantages to investing in a franchise, and also drawbacks. Widely recognized benefits include a ready-made business formula to follow. A franchise comes with market-tested products and services, and in many cases established brand recognition.
If you're a McDonald's franchisee, decisions about what products to sell, how to layout your store, or even how to design your employee uniforms have already been made. Some franchisors offer training and financial planning, or lists of approved suppliers. But while franchises come with a formula and track record, success is never guaranteed.
Disadvantages
Disadvantages include heavy start-up costs as well as ongoing royalty costs. To take the McDonald&#;s example further, the estimated total amount of money it costs to start a McDonald&#;s franchise ranges from $1.3 million to $2.3 million, on top of needing liquid capital of $500,000.
By definition, franchises have ongoing fees that must be paid to the franchisor in the form of a percentage of sales or revenue. This percentage can range between 4.6% and 12.5%, depending on the industry.
For uprising brands, there are those who publicize inaccurate information and boast about ratings, rankings, and awards that are not required to be proven. So, franchisees might pay high dollar amounts for no or low franchise value.
Franchisees also lack control over territory or creativity with their business. Financing from the franchisor or elsewhere may be difficult to come by. Other factors that impact all businesses, such as poor location or management, are also possibilities.
Pros
Ready-made business formula
Market-tested products and services
Established brand recognition
Large decisions already made
List of approved suppliers
Training and financial planning provided
Cons
Success not guaranteed
Large start-up costs
Ongoing fees
Lack of territory choice
Lack of creative control
Franchise vs. Startup
If you don't want to run a business based on someone else's idea, you can start your own. But starting your own company is risky, though it offers rewards both monetary and personal. When you start your own business, you're on your own. Much is unknown. "Will my product sell?", "Will customers like what I have to offer?", "Will I make enough money to survive?"
The failure rate for new businesses is high. Two-thirds of businesses survive just two years, and 50% survive just five years. If your business is going to beat the odds, you alone can make that happen.
To turn your dream into reality, expect to work long and hard hours with no support or expert training. If you venture out solo with little or no experience, the deck is stacked against you. If this sounds like too big a burden, the franchise route may be a wiser choice.
People typically purchase a franchise because they see other franchisees' success stories. Franchises offer careful entrepreneurs a stable, tested model for running a successful business. On the other hand, for entrepreneurs with a big idea and a solid understanding of how to run a business, launching your own startup presents an opportunity for personal and financial freedom. Deciding which model is right for you is a choice only you can make.
Some of the widely recognized advantages of franchises include a ready-made business formula to follow, market-tested products and services, and, in many cases, established brand recognition. For example, if you're a McDonald's franchisee, decisions about what products to sell, how to layout your store, or even how to design your employee uniforms have already been made. Some franchisors offer training and financial planning, or lists of approved suppliers; however, despite these benefits, success is never guaranteed.
Disadvantages include heavy start-up costs as well as ongoing royalty costs. By definition, franchises have ongoing fees that must be paid to the franchisor in the form of a percentage of sales or revenue. This percentage can range between 4.6% and 12.5%, depending on the industry.
There is also the risk of a franchisee being duped by inaccurate information and paying high dollar amounts for no or low franchise value. Franchisees also lack control over territory or creativity with their business. Financing from the franchisor or elsewhere may be difficult to come by and franchisees could be adversely affected by poor location or management.
Typically, a franchise agreement includes three categories of payment to the franchisor. First, the franchisee must purchase the controlled rights, or trademark, from the franchisor in the form of an upfront fee. Second, the franchisor often receives payment for providing training, equipment, or business advisory services. Finally, the franchisor receives ongoing royalties or a percentage of the operation's sales.
The Bottom Line
A franchise can be a great way for an individual to enter the world of entrepreneurship, as the majority of the groundwork has already been laid and you are leveraging off an established, successful, and well-known business and brand name. There are also many businesses with franchises to choose from.
For a fee and start-up costs, you can be on your way to being your own boss and entering a possibly lucrative career. Though it must be noted that success is not guaranteed and franchises require a lot of work to be profitable.
For more retail franchise opportunitiesinformation, please contact us. We will provide professional answers.