Tweet

Buying a Franchise

Written by: Nolan Clark

Article Overview: Pitfalls to look out for when buying a franchise.

Buying a Franchise

When starting a business, you have three main options :
a) Start a business from scratch.
b) Buy an existing business.
c) Buy a franchise.

Buying a franchise is generally an expensive option, but mostly a safer option.

Let's first look at what is a franchise. Someone has started a business and it is running very successfully. He decides to expand the business. He now has two options, open another branch by hiring premises, staff, buying the equipment, etc., or franchise his business.

To open another branch means high initial overheads and the problems associated with managing staff from a distance, but it can bring in just as high an income as the first branch. If he decides to franchise, then the franchisee (person who buys the franchise from him) will take most of the profit, but the franchisor (person selling the franchise) doesn't have lay out the initial expenses and receives a smaller, but steady income from the franchise.

Why would you want to buy a franchise and why is a franchise more expensive?

Firstly the franchisor charges you a sum to set up the business. This sum normally includes the actual costs of setting up the business, initial marketing of the business, training in how to run the business, the right to use the franchisor's intellectual property, the advantage of the good will associated with the business and of course of profit for the initial services provided by the franchisor. Most of this makes sense except the intellectual property and good will bit. Buying the right to Intellectual property (IP) is buying the right to use the franchisor's name, logo, slogans, knowledge, systems, etc. Good Will (GW) is the amount of public recognition the brand has, eg., the better the product is known, the more likely the public will make use of it / buy it. If you now start selling that product, you will automatically get people that come in to buy it. You have thus profited from the good will of that brand. A well known brand like KFC charges a huge amount for IP and GW.

It is these costs that push up the initial price of a franchise. The advantage behind that initial cost is that you save way more than the price you paid in branding. Let's stick with the KFC example. If you start your own roast chicken business from scratch, you will have to spend huge amounts telling the public about your product. This doesn't only cost a lot, but it also takes time. People are creatures of habit and afraid of change. They would rather drive across town to buy a product they know than try a product nearby. This is why many companies hand out samples, this way the customer can try the product without spending anything or going out of his way to try it.

If, however, you pay ten times more for a KFC, you can be guaranteed that the customers will be lining up at your door on opening day, simply because they already know & love the product.

So here we have the first point to look out for when buying a franchise : Is the franchise established or not, and how does that reflect in the initial purchase price.

Many people try and franchise their businesses, the problem is that many of these businesses are not even established themselves yet. Most businesses fail within their first three years. If you are buying a franchise where the entire business hasn't even been in existence for 5 years, you are taking a huge gamble. That business could collapse at any time and take you with it. If the business has been running for 5 or more years though, then it could be a good proposition. If the business has been running for more that 10 years, then it probably is a good proposition.

Beware of franchises that are charging high initial start-up costs and low, or no, monthly royalties. Chances are these guys know that the business doesn't make much money so they have to make their money up front. Also beware of franchises that charge high monthly royalties. The worldwide standard is around 13% of turnover or less. Anything more and you will be living on the bread line while the franchisor is coining it. A franchisor that cares more about his franchisees and the business as a whole will charge a lower royalty (6% to 10%) as he knows he has a good business where the franchisee can make a good living, while he can also make a good living from many franchisee's royalties.

Related Articles
  Buying A Franchise
  Franchising with all its Success
  Reselling Your Franchise
  Things to Watch Out for When Buying a Franchise
  Why Use a Franchise Consultant?

Article Tags:



Related Forum Posts
Re: Enticing Franchises - Top 9 List - All Franchise listed above are in millions of dollars. Do you have the list of Franchise in thousands
Re: Info for would be franchisers... - [quote="Sebastien":1d29sdv1]Like Franchise Times, Franchise Update is a very practical magazine. There is no blah blah, just straight facts that anyone in the franchise community can relate to. I just want to mention that all these magazines are NOT franchisee oriented. I mean these magazines are for franchise professionals. If you're looking to buy a franchise, you won't find much information in there. To answer your question, getting published in Franchise Times was fairly easy. I don't want to brag too much but I think I am known in the franchise industry. I was the marketing guy at Franchise.com for a few years before joining my new company, the World Franchising Network. So people know me and I have a very good relationship with Nancy Weingartner, the Managing Editor at Franchise Times. I was talking with her at the last Franchise Expo South in Miami and she mentioned she'd like me to be profiled. I was like "ok, sure!". I like this franchise executive profile thing in Franchise Times as it is rarely BS. People are usually really natural in there.[/quote:1d29sdv1] Thanks for the follow up Sebastien! And I can't say that I'm surprised that networking with the right people and managing your relationships with them properly are the keys to being published. I guess the old adage holds true of "it's not who you know, but who knows you" that's important.
how much for a franchise fee? - Dear Colleague There is no easy answer to this question. Things to consider: [list=] The sizeof the Franchise Clent base Expected Turnover Intellectual Property costs (recoup) Number of Franchises Number of employees Original Set up costs Franchise admin costs An example: A franchise that I was involved in setting was to a simple "lawn mowing/home repair" franchise. The Franchise included national/local advertising - preparation of client lists - general admin - central accounting etc The Franchise involved 300-500 clients - and an annual turnover of about $300,000 . The annual franchise fee was $30,000. Hope that this gives you some idea Take care Ian[/list]
Re: Franchise Surveys - Another good tool to researching a franchise is to speak with their existing franchisees. This contact information is included in most Franchise Disclosure Documents. In order to get a Franchise Disclosure Document or FDD as it is often referred to, you will have to complete a basic franchise application. The franchisor will then usually provide you with the FDD at that time. Included in that book of information is a list of the existing franchisees, the contract, the investment information etc... This information is required by Federal Law to be disclosed to your prior to making a purchase. So be sure to do your research and start with the Franchise Documents to get the initial information.
Re: Info for would be franchisers... - [quote="Sebastien":2gam0klq][quote="BuzzAroundBooks":2gam0klq]Like Franchise Times, Franchise Update is a very practical magazine. There is no blah blah, just straight facts that anyone in the franchise community can relate to.[/quote:2gam0klq][/quote:2gam0klq] That is really what I look for in any industry publication. We lead busy lives and when people fill their magazines with fluff, not only does it benefit no one, but it makes us truly appreciate those that don't. Thanks!


Share this article with your friends. Fund someone's dream.

Leave a comment below or share on the left and you'll help support entrepreneurs in Africa through our partnership with Kiva. Over $50,000 raised and counting - Please keep sharing! Learn more.

Tweet

Newsletter

Get advice & tips from famous business
owners, new articles by entrepreneur
experts, my latest website updates, &
special sneak peaks at what's to come!

Name:
Email:

Popular Articles

How Promotional Caps became a Fashion Trend

10 Steps to a Great Support Team

What If You Had a 100% Success Rate?

Suggestions

Email us your ideas on how to make our
website more valuable! Thank you Sharon
from Toronto Salsa Lessons / Classes for
your suggestions to make the newsletter
look like the website and profile younger
entrepreneurs like Jennifer Lopez.