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What Is Franchising
Franchising is a business arrangement.The franchisor grants the franchise operator (the "franchisee") the right to distribute certain products or services in a particular way, at a particular location,and for specified periods of time.In return, the franchisee pays the franchisor fees and royalties. There are two types of franchise arrangement:

Business Format FranchiseWhen most people use the term "franchise," they mean a business format franchise. A franchisee buys the right to market and sell  particular products or services in connection with an entire system of operation.The franchisee pays the franchisor fees for the right to use the franchisor's trademark and marketing plan. In some cases,the franchisee buys an entire system -- buildings, equipment, supplies, bookkeeping, uniforms, training, and so on. This is known as "turnkey" operation. Fast-food chains are good examples of this kind of franchise. In other cases, the franchisee is not provided with all aspects of the business operation and must provide other items at its own expense under guidelines from the franchisor.

Product FranchiseA product franchise is a business arrangement in which the franchisor manufactures and distributes a physical product offered to consumers through retail dealerships. The franchisor/manufacturer specifies to the franchisee/dealer how to conduct the dealership business. Examples include soft drink bottling companies, gasoline stations and automobile dealers.
When you're considering starting your own business, you have a choice of either starting from scratch, buying an existing business, or looking at a business opportunity like a franchise. Owning and operating a franchise can be as much work as other options, and it can also be quite profitable.
There are thousands of franchised businesses, covering nearly every conceivable industry, from well-known national brands to smaller, local opportunities. The challenge is to decide on one that both interests you and is a good investment. Many franchising experts suggest that you comparison shop by looking at multiple franchise opportunities before deciding on the one that's right for you. Use the answers to the questions below to help you learn more about the concept.

What is a franchise? How does it work?
When you buy a franchise, you are buying the right to use a specific trademark or business concept. The business you run is essentially the same as all other business being run under the same name. In order to do this, you may have to buy things like products, tools, advertising assistance, and training from the franchisor (the company that owns the rights to the business).
While you own the business, its operation is governed by the terms of the franchise agreement. For many, this is the chief benefit of franchising -- you are able to capitalize on business format, trade name, and support system provided by the franchisor. The oft-quoted line is that franchising allows people to go into business for themselves, not by themselves.

What are the benefits of being a franchise over starting my own business?
You get a number of advantages when you purchase a franchise:
  • Reduced risk - Franchises traditionally have a much lower failure rate than other start-up businesses. The reason? You're buying a business concept where most of the kinks have already been worked out by someone else.
  • You get a complete package - The guesswork usually associated with starting a business is taken care of. You total package can include trademarks, easy access to an established product; a proven marketing method; equipment; inventory; etc.
  • Strength in numbers - When you're become a franchisee, you have the buying power of the entire network, which can help you get product and compete with larger national chains.
  • Business processes - Many franchisors provide their franchisees with various proven systems including financial and accounting systems; ongoing training and support; research and development; sales and marketing assistance; planning and forecasting; inventory management; etc. They'll show you the techniques that have made the business successful and help you utilize them in developing your own business.
  • Financial and site selection assistance - Some companies will help you finance your initial franchise, letting you get by with as little upfront cash as possible. They also may help with site selection, making sure that your business is located in an area where it can thrive.
  • Advertising and promotion - Not only will you benefit from any national or regional ad and promotional campaigns from the franchisor, but they may also help out in other areas -- from providing camera-ready copy for your own advertising efforts to developing in-store point-of-sale materials designed to drive customers through your business. It would cost you a great deal to develop these materials on your own.

Is there a downside to being a franchisee?
Franchising is certainly not for everyone. Here are some of the potential disadvantages:
  • Lack of control - The essence of a franchise -- buying and operating a proven concept -- can make it seem like you're more of a manager than a boss. This may be difficult for some people, especially those that are more entrepreneurial. This type of person may find it hard to conform to someone else's system.
  • Cost - It can take a good deal of cash to open and operate a franchise. Upfront costs can be significant, and you may find that ongoing royalty fees will have a major impact on your cash flow.
  • You're not alone - Just as a franchisor's reputation can benefit your individual business, the franchisor's problems are also your problems. So if the parent company comes upon hard times, your individual franchise may also suffer because of how closely you're tied in.
  • You're committed - Your franchise agreement is a binding contract, and can be quite restrictive. You're locked in to certain business practices, fees, and even the look of your business. If you don't agree, you may have no recourse except to adhere to these guidelines.

What franchising laws do I need to be aware of?
You should consider having your attorney, accountant or other advisor review the disclosure documents and proposed contracts before entering into any agreement. This advice, coupled with your own research, can help save you money and keep you from making a bad investment.

What should I look for in the disclosure documents?
The disclosure document provided to you by the franchisor can serve as a window into the company's operations. It is important to review it completely (preferably with the assistance of an attorney, accountant or business advisor) to learn all you can about the franchisor.
Some things to look for:
  • Does the franchisor have a track record of success? - Learn all about the franchisor's personal and business names, its organization; its background; and its financial history. You'll also need to determine whether this success can be duplicated in your area.
  • What will it cost me? - The circular should have complete list of fees that you will be required to pay both to start your franchise and operate it. It will also tell you other obligations, such as inventory or equipment that must be purchased from the franchisor.
  • Will my territory be exclusive? - You will want to determine whether or not the franchisor can open other stores in your area, or even sell its product by mail order to customers in your region. You also might have to meet certain sales criteria to maintain your exclusivity.
  • What products can I sell and how can I sell them? - You may only be allowed to sell certain products that are on the franchisor's approved list. And you may be limited in the ways you can sell them. For instance, you might be allowed to handle walk-in traffic to your store, but you may be prevented from selling outside your location.
  • What services will the franchisor provide to me? - Look for what services will be provided to you prior to opening, and after you're open for business. You'll also want to read about what training is necessary, where it will take place, and what it will cost you. Also, check to see what trademarks and patents you will receive.
  • Is there any bad news I should know about? - The documents must disclose any actions involving violation of franchise law, fraud, embezzlement, or unfair business practices. They also must disclose whether the franchisor, any predecessors, or any partners or officers have declared bankruptcy in the past 15 years. And be sure to read financial statements closely.
  • How much can I expect to make from this business? - The circular contains hypothetical profit projections, along with the formula for how these figures were created. Be aware that economic conditions vary from region to region, so these figures do not assure success of a particular outlet. Instead, use these figures combined with estimates of costs and expenses in your area.

What should I look for when selecting a franchise?
Here are some of the things you should look at when evaluating a franchise:
  • Profitability - Make sure that both the franchisor and individual franchisees are healthy.
  • A track record of success - Is this concept viable? Has it succeeded elsewhere? Does the franchisor have a good credit rating?
  • A strong USP - You'll want a business that stands apart from the competition, since you don't want to be perceived as selling the same old thing.
  • Effective financial management and other controls - A strong monitoring system will help you identify your problems and deal with them more effectively.
  • A good image - It's important that the public has a positive image of the franchisor, since you're basing your business on its reputation. Also, look for a concept that can expand nationally so your business can grow locally.
  • Integrity and commitment - You actually want the franchisor to spend a lot of time checking you out, because you want to make sure it has strong requirements for all its franchisees, since your success in intertwined with its.
  • A successful industry - Look for opportunities in industries that are growing.

Is there other research I can do to learn more about a particular franchise?
It's important to learn as much as you can before purchasing any kind of business so you can make an informed decision. There are a wide variety of sources you can approach to learn about a franchise opportunity. Here are some things you can do:
  • Interview the franchisor - Make sure that you feel comfortable with the franchisor, and that all your questions can be answered to your satisfaction.
  • Interview existing franchisees - Speak with current franchisees to see how they feel about the business. Are they happy with their investment? Are they making as much money as the expected?
  • Read the business and trade press - Spend some time in the library or on the Internet looking through the media. Often, you'll learn a lot more about the company than they volunteer in disclosure documents.
  • Check references - Don't just speak to franchisees. Call bank and other business references supplied by the franchisor.
  • Go to independent agencies - Find out whether any complaints have been lodged against the company.
  • Get a credit report - Get a report on the franchisor from Dun & Bradstreet, TRW/Experian, or one of the other credit reporting agencies. You'll learn a lot about how the company conducts business.

What fees should I expect to pay for my franchise?
There are basically two types of fees you should expect to pay for your franchise -- upfront fees and ongoing fees.
The first is the initial upfront fee, which is what you pay the franchisor for the rights open your franchise. Essentially, you are purchasing the rights to use the franchisor's trademarks, business methods, and distribution rights. This licensing charge can be significant, especially for a well-known, established franchise -- it's not unusual for it to be in the tens of thousands of dollars. Often, it is also based on the value of the territory or trading area, so the larger your market, the more you could end up paying.
Be aware that this upfront fee may be in addition to any other start-up costs you will have to incur. The initial franchise fee may or may not include things like training costs; start-up promotional fees; inventory; build-outs (some franchisors require your space to have specific architectural elements); equipment/fixtures (you may be required to purchase or lease specific equipment and fixtures from the franchisor); and any other costs that are necessary to open your business.
You will also have to pay ongoing fees to maintain the rights to your franchise. Most franchisors charge a royalty fee, typically a percent of your gross sales, not your profits. This royalty fee can range from 1 percent to as much as 15 percent, although 5 percent is typical. Remember, you are paying this royalty on gross sales (your total receipts, less sales tax, returns and refunds), so it can potentially take a significant bite out of your profits.
Some franchisors charge a regular fee (payable weekly, monthly or quarterly) in lieu of royalty payments. This type of fee may also be part of the mark-up you are charged for goods or services you are required to purchase.
It is also common for franchises to pay a portion of the franchisor's local, regional and national advertising and promotional costs. These fees are usually put into a cooperative advertising fund that ultimately benefits all franchises through increased exposure to your trade name.

Should I look into established franchises or rising stars?
This is one of the key decisions you will need to make if you decide to go the franchise route. There's a trade-off you will need to evaluate in terms of risk and ultimate pay-off.
A franchise with an established track record has many benefits -- significant name recognition; proven marketing methods; entrenched business plans and training systems; strong management; and a history that is easy for you to investigate. On the downside, you might find that the franchisor has already saturated your market (so good locations may not be available, or other outlets may encroach on your area); fees may be higher; and you may find that the larger the company, the harder it is for you to be heard should any disagreements arise.
An emerging franchise gives you the chance to get in on the ground floor of what could be a highly profitable growth opportunity. Newer franchises also tend to have lower upfront and royalty fees, and they may be more willing to negotiate and accommodate individual franchises. On the other hand, smaller franchise opportunities may lack name recognition; they may not have enough experience to make their system work; you may find yourself being a test-case for their procedures; and the chance of franchisor failure could be much greater.

Advantages of Franchising
The advantages of franchising include access to a successful business model of operation, trademark recognition, management and employee training, ongoing research and development, proven profitability, and a higher business success rate than individual start-ups.

Franchising can be a great way to start your own business. And the failure rate for franchises is much less than for non franchise start-ups. But you still need to do your homework and ask and be satisfied about many questions which you might not think about in your enthusiasm to start your own business.
The franchise agreement from a major franchisor will generally be on a take it or leave it basis.
That is the agreement will not be negotiable as the franchisor can't afford to negotiate individual agreements with each franchisee.
But that does not mean that you should not ask the right questions and satisfy yourself that the situation that arises when there is a dispute or the franchisee is incapacitated or dies is provided for.
1. What law governs the agreement?
Many successful franchises in your country may be international companies...........the law applicable for an international franchise may well be another jurisdiction.
2. What happens if the franchisee dies?
Is there provision for the franchisor to provide staff to run the business to keep the show on the road?
3. Is there a renewal option when the agreement ends?
If there is are you happy to commit to sign an agreement in say, 10 years time, having no opportunity to see the new agreement? What are the terms?
4. Can you sell the business? Can the franchisor veto your purchaser?
5. When the agreement is terminated is there a non compete clause? For how long?
6. If the agreement is terminated and the premises is yours, how much will it cost to debrand?
7. Is the training and system manual up to date? When was it last updated?
8. Is there an advertising fee payable? Can it be justified? Is there marketing spend on the brand?
9. Is there a management services fee? How is it calculated?
10. Does the franchisee have to inform the franchisor of any improvements he has made to the system?
11. Is the franchisor the owner of the trademark? And if not will he provide a licence to the franchisee for the use of any trademarks and intellectual property?
12. Who will own the premises? Will the franchisor provide any advice in relation to location and premises?
13. How long has the franchisor been carrying on business? How many company owned outlets?
14. If the franchisor is supplying goods is there a credit limit? Will a minimum stock of products be imposed? Is a vehicle required? Will it have to be branded?
15. What books and records will the franchisee have to supply to franchisor?
16. Will a confidentiality agreement be required?
17. Who will pay for initial and ongoing training?
18. Is there a territory? Is it exclusive?
19. How long will the agreement last? Is it compliant with competition law requirements?
20. Is training provided for staff? Is it ongoing?
21. Is more than 10% of the initial fee for use of the name and trademark? Can this be justified?
22. What initial stock will be needed? Will the franchisee have to purchase equipment, stationery from the franchisor?
23. What ongoing obligations have the franchisor in relation to problem solving, management, finance and marketing, provision of staff in an emergency, research and development and maintaining and improving the manual?
24. Will franchisee be required to advertise locally?
25. Does the franchisor have the right to communicate with the franchisee's customers?
26. Has the franchisor the legal right to purchase the franchise from the franchisee? On what terms?
27. Is the franchisor entitled to appoint a manager if the franchisee dies or is incapacitated?
28. Who is entitled to terminate the agreement? On what terms? What events will bring this about?
29. What will happen when a dispute arises? Is arbitration provided for? Litigation?
30. Does the franchisee have to enter into any restrictive covenants.

 

The Rules: Fees

There are two groups involved in a franchise, the franchisor (the person or company leasing the rights to the business name and system) and the franchisee (the person who purchases it).
The right to the franchise is sold by the franchisor to the franchisee for an initial sum of money, often called the up-front entry fee, or franchise fee. This money will be paid once the contract has been signed. The contract (franchise agreement) details the responsibilities of both the franchisor and the franchisee, and is usually for a specific length of time (typically several years). Once the contract expires, it must be renewed. State laws often have an impact on the options for this renewal.
This initial franchise fee doesn't include anything except the rights to use the name and system, and sometimes training, procedures, manuals, and other assistance like site selection. It doesn't include any of the necessary inventory, fixtures, furniture or real estate.
In addition to the franchise fee, the franchisee must pay the franchisor royalty fees, or other on-going payments. These payments are usually taken as a percentage of sales, but can also be set up as a fixed amount or on a sliding scale. The terms of these fees will be spelled out in the franchise agreement. These payments are for the on-going services and support that the franchisor provides. Franchisors may also sell supplies directly to their franchisees.
Advertising funds are also paid periodically. These funds are usually put into a general account and used for national and regional promotion for the entire chain.
PROCESS OF BUYING A FRANCHISE
The process of buying a franchise is a very long process that should be pursued very carefully. There are many factors to consider, and many steps to take during the franchise-buying process. The following 5 stages will help you better understand the franchise buying process.

1. Choosing the Right Franchise

This is by far the most crucial step of the franchise-buying process. Deciding which franchise to buy is very difficult since there are thousands to choose from. You should choose a franchise you have interest in, or choose an industry in which you have past experience. Also, you must choose a franchise that is financially right for you. Remember, this will be a life-changing experience, so make sure you make the right choice.

2. Deciding What Franchise You Can Afford

You must remember to ask a lot of questions and find out exactly what your overall investment is. If a franchisor is advertising “$50,000 Initial Investment,” this does not mean that this amount is all you are required to invest. This $50,000 will probably represent your down payment and possibly a part of your franchise fee. There are many other costs involved, including the franchise fee, legal fees, build-out costs, supplies and working capital. Get an overall list of the items that make up the total investment and make sure it is something you feel comfortable with.

3. Steps to Take After You Choose Your Franchise

Once you have decided on a franchise that fits your lifestyle and budget, the next step is to investigate the company. When you buy a franchise you are not only buying a system but you are also at the beginning of a (hopefully) long-lasting relationship. You want to make sure it is the right relationship. Take your time and investigate the company thoroughly. Meet with all of the top executives in the company. Track down existing franchisees on your own and ask lots of questions.

4. Hiring a Franchise Attorney

Anyone who is considering buying a franchise should consult with a franchise attorney. This will help you to make sure you understand exactly what is expected of both you and the franchisor. You will do this by reviewing all of the franchise documents with your franchise attorney. It is imperative that you understand all of the terms and all of the documentation up front.

5. Preparing Your Business Plan

If you are borrowing money to buy your franchise you will need a business plan. Creating a business plan will not only help you receive financing, it will also become your guideline for success. Another reason you need to create a business plan when buying a franchise is to set your own personal goals. Any investment you make should always be researched, well thought-out, and follow a certain structure. Creating a business plan will keep you on the right track and help you focus on achieving your goals.
COMPLETE STEP BY STEP PROCESS
 Once you contact a franchisor for more information, these are the steps that will typically follow:
  1. The franchisor will send you brochures and other materials, and most likely request that you complete a questionnaire. You will proceed based on the outcome of that exchange of information.
  2. The next step will be your evaluation of the company's Uniform Franchise Offering Circular (UFOC). The Federal Trade Commission (FTC) requires this document be provided to disclose detailed information about the franchisor at least 10 days prior to any franchise purchase. That information includes:
    • The franchisor, its predecessors and its affiliates
    • Business experience/history
    • Litigation
    • Bankruptcy
    • Initial franchise fee
    • Other fees
    • Initial investment
    • Restrictions on sources of products and services
    • Franchisee's obligations
    • Financing
    • Franchisor's obligations
    • Territory
    • Trademarks
    • Patents, copyrights and proprietary information
    • Obligation to participate in the actual operation of the franchise business
    • Restrictions on what the franchisee may sell
    • Renewal, termination, transfer and dispute resolution
    • Public figures
    • Earnings claims
    • List of outlets
    • Financial statements
    • Contracts
    • Receipts
    For more information about deciphering the UFOC, visit Franchise411.com.
  3. Visit as many of the franchisor's existing franchisees as you can. Meet directly with the owner of each establishment, and pay close attention to opinions of the franchisor. Ask the owners about the support they get on an ongoing basis, as well as the training and assistance they received when they first purchased the franchise. Did the franchisor help them with the location decision, and assist with initial set-up? What about the promotional efforts of the franchisor? Does the individual franchisees benefit from their investment? Do they get any say in how the advertising dollars are spent or allocated? Are their earnings living up to their expectations? Did their total investment stay in line with what they were expecting? Ask specifically if they would do it again knowing what they know now. These opinions are very important to your research into each franchise. Look for trends that might indicate overall dissatisfaction with the company -- and avoid those like the plague!
  4. Review the franchisor's business plan, operations manuals, and market analysis. Try to meet with the franchisor in person. Make a point to meet the franchising operations personnel with whom you will be dealing. Keep these questions in mind while you are meeting with them:
    • Is the information you are given clear?
    • Does the training program appear to be thorough?
    • Does it match what you were told by their existing franchisees?
    • Does the market look strong?
    • Are there too many existing franchised locations in your area? If the area is already saturated, you may need to look elsewhere (either in location or business).
    • Are there no locations in your area? This may not necessarily be a good thing either. It may mean that the competition has a strong hold on that regional market and you'll have a difficult time getting a share of it.
Take careful notes about each franchise opportunity you are investigating. Make sure you understand all of their policies and have a good feel for the level of satisfaction their existing franchisees have. Then use this information to make your final decision.

Advantages of Franchising

According to the article "What is Franchising" by Robert Gappa, on the Franchise UPDATE Web site, there are over 2,500 franchise systems in the United States with over 600,000 units. This comes out to about 3.2 percent of all businesses, and 35 percent of all retail and service revenue in the United States.
The biggest advantage of franchising appears to be the reduction of risk you will be taking for your investment. This is because franchises typically get up and running faster, and are profitable more quickly. This can be a result of better management as well as a well-known name. According to the Small Business Administration (SBA), most small businesses fail because of weak management. It is in this area that the franchising option shines the most. When you lease a franchise, you are leasing that managerial know-how.
You also usually get better deals on supplies because the franchise company can purchase goods and supplies in bulk for the entire chain, and then pass that savings on to you and the other franchise units.
The often-instant recognition from customers is also a big plus. Customers are dealing with a "known" rather than an "unknown." Think about it: If you are driving through a town you've never visited before and have the choice of a "Billy Bob's Fried Chicken" or a "Kentucky Fried Chicken," which one are you more likely to stop at? Until you know that Billy Bob's is THE place for fried chicken, you may not want to take the chance.
For the customer, the advantages of a franchise include the comfort of knowing what you're getting. You know that the quality of the product or service at one location will be comparable to that of another location. You know what they have and you already know what you like about it. The questions for you as a potential franchisee are: Are you looking for something.

Franchise Financing

All franchises will require you to pay an upfront franchise fee. In addition to the franchise fee, you will need cash on hand for build-out costs and marketing, and enough money to support yourself and your family for the first year or two. You will most likely need to find financing or a franchise loan to cover the costs of opening your franchise.

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