“Franchising can be defined as a system based on a close and ongoing collaboration whereby a company, the franchisor, gets into partnership with one or several companies, the franchisee(s). Its prime aim is to develop a franchise concept designed in the first place by the franchisor.” (Internet, 1)
In order to better understand the concept of franchising I will first explain several commonly used terms in this concept.
ØFranchise is a legal agreement that allows one organization with a product, idea, name or trademark to transmit some rights and information about a business to an independent business owner, which in return pays a fee and royalties to the owner.
ØFranchisor is a company that owns a product, service, trademark or business format and provides this to a business owner in return for a fee. Franchisor often is the one that makes the conditions under which a business owner operates, however he doesn’t control the business.
ØFranchisee is a business owner who purchases a franchise from franchisor and operates a business using the name, product, business format and other items provided by the franchisor.
ØFranchise fee is a one time paid fee by the franchisee to the franchisor, and is paid for rights to use trademark, management assistance and some other services.
ØRoyalty fee is a fee continuously paid by the franchisee to the franchisor- usually paid as a percent of gross revenue earned.
ØFranchise trade rule is a law by the Federal Trade Commission that places several legal requirements on the franchisors
ØTrademark is a distinctive name or/and symbol used to distinguish a particular product or service from all the others.
In practice we have four types of franchising- Product Franchise, Manufacturing Franchises, Business Opportunity Ventures, and Business Format Franchising. In the case of Product Franchise, manufacturers use the product franchise to govern how a retailer distributes their product. The manufacturer grants an owner of the store the authority to distribute goods by the manufacturer and he is allowed to use the name and trademark of the manufacturer. In return the storeowner has to pay a fee or purchase some inventory of stock in return for the rights given. Manufacturing Franchises provide an organization with the right to manufacture a product and to sell it using the name and the trademark provided by franchisor. This type of franchising is usually seen in food and beverages industry.
Business Opportunity Venture usually requires that a business owner purchases and distributes the products for one specific company, which must provide him with the customers. In return business owner has to pay a fee or some other type of compensation. Finally, the Business Format Franchising, the most popular type, is the approach where a company provides a business owner with a proven method for operating a business using the name and the trademark. The company has to provide assistance to the owner of the business at the beginning, and the business owner has to pay a fee in return.
Usually people are asking what makes one company to offer a franchise, so it is important to understand the franchisor’s perspective. First of all, franchising is an opportunity for more rapid expansion. Many companies may experience of lack of capital and skilled employees, so the franchisee can offer all of that. At the beginning the franchisor assists a franchisee with obtaining financing for a new business, however the franchisee is liable for repayment of the funds. Franchisor is selecting its franchisees by their experience and skills, and in that way he/she is minimizing its risks. Another reason for franchising is higher motivation. This is because when the company franchises its operations it acquires a group of new, motivated managers, which are more accountable for actions since as an owners they are completely responsible for business outcomes. Further more capital is another reason for getting involved in franchising. The company, by franchising, is raising the money without selling an interest in the business, and the franchisor is using the franchisee money for further business expansion. This way the company is avoiding the risks, which may come out from issuing stock and taking the loans.
The company’s image and name are at certain risk when sold to other individual. So, a franchisor is very particular about the standards that franchisees are obliged to meet, and therefore franchisor indicate specific practices that other party must follow. Because of all that risk the franchisor reserves the right to buy back the franchise operation. On the other hand franchisees can take comfort in the fact that most franchisors want to see them succeed, which is motivation for providing necessary help. Another disadvantage for franchisor is the sacrifice of profits, because a company’s owned shop is much more profitable than a franchise. Also the franchisee has to have in mind the future ambitions of the franchisor-if the franchisor is expecting to buy back the business after a period of time, when the franchisee has already invested the time and the money in the business. Franchising business also has the liability of training the competitors. This is because the franchisee may acquire know how and than decide to open the same kind of business on his/her own under the different name. The good franchisor will try to establish good relationship with its franchisees in order to avoid this kind of problems in the future.
Furthermore it is important to look at the situation from the franchisee’s point of view, concerning the benefits and costs. Some of the major benefits of franchising are the following:
ØLower Risks-according to the expert opinion and some statistics the franchising business is more likely to succeed and less risky.
ØEstablished product and service- the product offered is already established and sold in the market so comparing to the independent business, that is based on untried idea and operation, is much better. However franchisee should look at the number of franchisees in business, for how long they are operating, and the number of franchisees that have failed in conducting the successful business.
ØExperience of Franchisor- the experience, often-offered trough the training of the employees, that franchisor has increased the possibility for success.
ØName Recognition- the franchisee is getting the name that is already well recognized locally or internationally.
ØManagement Assistance- this is the benefit because the franchisor is providing the franchisee with necessary professional helps. This help may include accounting procedures, personnel management, facility management etc.
ØBusiness Plan- very often franchisor is providing franchisee with the help in developing business plan.
ØStart-up Assistance- since the most difficult aspect of a new business is a start-up it is very helpful to have professional help.
ØMarketing Assistance- the franchisor can provide and pay for the development of professional advertising campaigns.
ØAssistance in Financing- new franchisee is able to get financial help from some institutions due to the agreement between the institution and the franchisor, since the institutions might find such the agreement profitable due to the high success rate of franchise business.
Another issue that franchisee should keep in mind is the cost. The first cost that will occur in this agreement is the payment of franchise fee, and it can range from few thousands to several hundred of thousands dollars. Another fee is on going royalty fees. This is the fee required by franchisor to be paid continuously as a percentage of the gross income from the business. This percentage is usually less than 10%. Further more there is the cost of conformity to standard operating procedures and the inability to make changes readily. The franchisor may prohibit franchisee from selling products or services other than the ones approved by him/her. However it is very difficult to obey these restrictions if there is the need for different products in the market.
Another issue is the duration of the relationship. Typically, there is no way to clear away from the business other than sell it, however there might be some restrictions about that issue. Also the future franchisee should pay attention to the question of franchisor buying back the business.
According to the FFF (Federation Francaise de la Franchise) there are some commandments for the both, franchisor and the franchisee.
The 10 Commandments for the franchisor
1/ The necessary capital, you shall have.
5/ Your know-how and brand image, you shall develop.
6/ The first clause of the Doubin act, you shall abide by.
7/ The Code of Ethics, you shall put into operation.
8/ The franchisees, you shall carefully choose.
9/ The respect of the brand image, you shall control.
10/ The everlasting existence of the network, you shall secure.
The 10 Commandments for the franchisee
1/ The needs of the commercial world, you shall be aware of.
2/ The necessary capital, you shall have;
3/ The system of franchising, you shall learn.
4/ The spirit of franchising, you shall incorporate.
5/ The Code of Ethics, you shall assimilate.
6/ A study of the relevant brands, you shall make.
7/ With full responsability, you shall sign.
8/ The brand image, you shall represent.
10/ The consumer, you shall satisfy.
However before commandments, in order for one to see if he is able and ready for franchising business, one can test himself/herself by answering some basic questions (Internet, 2) like:
ØDo I prefer to limit my risk as much as possible?
ØAm I willing to operate the business in exact accordance with the instructions of a franchisor?
ØAm I willing to forgo sales on new ideas and products because of franchisor restrictions?
ØAm I comfortable with sharing my success, including profits, with franchisor?
ØWill I enjoy being part of a well-known organization?
ØDo I feel like needing the management experience and assistance that a franchisor can provide?
ØDo I need assistance in developing a business plan?
ØIs my experience in marketing limited, so the franchisor would help in overcoming this weakness?
ØAm I willing to pay a franchise fee to obtain a proven business operation?
ØAm I comfortable linking my success with the success of the franchisor?
Since the franchising is very old kind of trade during the time it attracted some inexperienced and occasionally fraudulent franchisors, so the federal government implemented the law in order to protect the consumers. According to my Internet source (Internet, 3) there is the basic, simple, process for evaluating and protecting the investment. The following process, consisting five steps, can help in avoiding disastrous mistakes made by others, and can help finding the right franchisor. First step in this process is examining the opportunities. This step is very important because there are hundreds of franchises in the market, in all types of businesses. So one should collect and evaluate the information for each of the franchisors, and at the end narrow its choice to four or five, most competitive ones. The finalist should be examined even further with the steps 2-5.
Second step in this evaluation is examining of franchise and the franchisor. In addition the federal government has laws specifying the information that has to be provided to potential franchisee by the franchisor. The list of information should consist info about franchisor and its affiliates’ business experience, info about the business experience of all the franchisors employees connected and responsible for franchise services. Furthermore it should include the lawsuits, if any, in which the franchisor was involved, info about any bankruptcies faced in the past, info about initial financial fee and other obligatory payments. Information about continuing payments, restrictions on the quality of goods and services, and description of any assistance available from the franchisor or its affiliates in financing the purchase of the franchise should be included. After that another necessary descriptions are the description of restriction on the goods and services that the franchisee is permitted to sell, description on any restrictions on the customers, description on any territorial protection that will be granted to the franchisee.
ØDescription of training programs provided by franchisor
ØDescription of any assistance provided by the franchisor in choosing the site for the franchise
ØStatistical information about the number of franchises, franchisees planed for future and terminated in past
ØThe list of addresses and names of the already existing franchisees
However the franchisor, before providing the franchisee with this information, might want a prior approval from the franchisee. On the other hand the information must be provided to the franchisee before signing the agreement, so he can have a chance to evaluate and study the information. If at this point franchisor shows that he is upset, it might be the first sign that he might not be the right person for doing business with.
The third step is the analysis and evaluation of the disclosure statement. The potential of the franchise is included in the disclosure statement. On the other hand the franchisor also has to be investigated in order to be sure that all the information are truthful and accurate. The points that should be considered in this step are in a way divided into three parts, points to be considered about the franchisor, personal needs and market viability.
Points to be considered about the franchisors are:
ØExperience of management and directors
ØNumber of franchisees in operations
ØNumber of franchises no longer in operation
ØYears franchisor has been in operation
ØPlaning and constructing a building
Points to be considered about personal needs are:
Points to be considered about market viability:
ØAdvertising and cooperative advertising
According to my Internet source the fourth step is the investigation of the franchisor, which is very important. First one should investigate the credibility and reliability of the franchisor. Then one should talk with the franchisees about their experience with the franchisor. After that one should seek advice of professionals about the franchisor and franchise agreement, paying attention to the length and type of the contract, restrictions, criteria, etc. Also the banker should be contacted to give his opinion on the franchise, financial proforma and to point out the financing issues that will be involved during the life of the contract. Also it would be useful to contact accountant and to hear his opinion about financial information provided by franchisor and about financial potential of the business.
The last step in selecting a franchise is a decision-making, the last but most difficult step since there are a lot of questions to be answered and a lot of information to be evaluated. According to my Internet source the method that can help in this situation is the “T” method. In this method evaluator can put positive reasons on one side and negative on the other side of the paper, assigning the numbers from 1, for unimportant, to 3 for important. After completing the list and adding the numbers, one can be more certain in his/her decision. The greater the numerical difference between the positive and negative side is the more confidant one is in the decision-making.
“A Definition of Franchising” available at http//:perso.club-internet.fr/fff/def_.html
“The Ten Commandements” available at http//:perso.club-internet.fr/fff/tencom_.html
“Franchising-an Interactive Self-Test” available at www.betheboss.com/PF2/gstarted/f101/selftest.html
“The Five Steps of Selecting a Franchise” available at www.betheboss.com/PF2/gstarted/f101/fivestep.html
“Step 1- Examine your Opportunities” available at www.betheboss.com/PF2/gstarted/f101/step1.html
“Step 2-Examine the Franchise and the Franchisor” available at www.betheboss.com/PF2/gstarted/f101/step2.html
“Step 3- Analyze and Evaluate the Disclosure Statement” available at www.betheboss.com/PF2/gstarted/f101/step3.html
“Step 4-Investigate the Franchisor” available at www.betheboss.com/PF2/gstarted/f101/step4.html
“Step 5- Make a Decision” available at www.betheboss.com/PF2/gstarted/f101/step5.html