licenses its business name and its operating systems to another person (the franchisee). In return for an upfront fee and an ongoing royalty, the franchisor agrees to provide the franchisee with the product or the service, as well as the business concept itself. This concept includes marketing strategy, operational standards, software systems, training and guidance.
A win–win relationship lies at the heart of franchising. Franchisors win because they can grow their business much faster because you (the franchisee) provide capital and ongoing revenue. And you, the franchisee, win because you gain a business with a proven formula and a substantially reduced risk.
Before you get stuck into checking out individual franchises, I suggest you take a step back and consider what’s good about franchising, and what isn’t.
Considering the positives
I like to start with the good things in life. You know, the red wine before the cooking begins, and the wild adventures overseas before settling in to a sensible university degree. And so, before considering the downside, here are a few reasons that explain why franchising is so popular:
You benefit from an established brand name and reputation: Assuming that the franchise has a well-established brand with a good reputation, your business is likely to have an intrinsic goodwill before you even open your doors for trading. Customers are going to recognise your business name and associate it with a consistent level of quality products or services.
You’re working with a proven formula: Working within a franchise model is like making a chocolate cake with a tried-and-trusted recipe — as opposed to concocting a creation from whatever’s sitting in the back of the cupboard. A company that already has successful franchisees has done the hard yards, proving the demand for its products or services and figuring out a system that works.
You’re off to a flying start: The decisions you make in the first few months of business are often the most crucial. As a franchisee, you receive expert guidance regarding trading location, shop layout, stock levels, product mix, software systems, signage and much more.
Your risk is reduced: One key benefit of a franchise is that you don’t waste your precious capital repeating someone else’s mistakes. Hopefully, the franchisor has ironed out the bugs and found solutions to the most common problems.
You get training to fill the gaps in your knowledge: A good franchisor is keen for you to succeed. Your initial training can help you to identify your weak points, shore up your knowledge and start your business in a much stronger position. However, if you’re really green to business, don’t expect that belonging to a franchise is going to completely compensate for a lack of experience.
You’re part of a group: When you’re part of a franchise, you get to share ideas and knowledge within your group and, hopefully, you have the positive experience of being part of a dynamic team.
You can increase profitability through economies of scale such as coordinated group advertising and bulk purchasing power: For example, if you have a Bakers Delight franchise, chances are the head office buys flour at the best possible price and quality, with its high-volume purchases providing leverage when negotiating with suppliers.
You can compare your performance with others in the same franchise in key areas such as wastage, margins and average spend: This ‘benchmarking’ helps you identify areas where you can improve.
Weighing up the negatives
You’re smart to weigh up the negatives of franchising before you consider signing on that dotted line. Franchising may not be your cup of tea for any of the following reasons:
You’re paying for goodwill, rather than exploiting your own creative genius: The significance of this downside depends on how much of a creative genius you really are.
You may be committing to something you hate: Like a blind date, you have no time for a slow build-up. What if you bought a shoe franchise and developed a pathological aversion to the smell of feet? Or you bought a lawn-care franchise and discovered your inner loathing of lawnmowers?
You have to abide by other people’s rules and decisions: Even if the franchisor’s decisions seem ludicrous, you have to stick by them. You may have to pay for advertising campaigns that seem like total duds, wear a uniform in a colour scheme you despise or sell a new product that you don’t believe in.
You have less control over your long-term future: No matter how well you run your business, you run the risk that other franchisees may not be so conscientious, acting in ways that damage the reputation of the brand. For example, if one cafe in a franchise chain has poor hygiene standards, disappointed customers are unlikely to patronise other cafes in the same chain when they’re travelling around.
You’re committed to ongoing costs: Almost all franchisees pay ongoing royalties in addition to the upfront fees. If these royalties are set too high, you can be left with only marginal profitability.
You face restrictions if you want to sell: All franchise contracts (called franchise agreements) contain some restrictions regarding the sale or transfer of the franchise, mostly with the intent of ensuring the quality of your successor. While the restrictions are understandable, you may find you can’t sell your franchise as readily as you would an independent business. (This limitation is partly outweighed by the fact that a franchised brand is often worth more.)
You face limitations regarding growth: If your franchise contract defines a specific territory, you can’t expand beyond this territory unless you purchase another franchise. Similarly, you may not be able to expand into selling online to customers outside your territory.
You may encounter a conflict of interest with your franchisor: Any franchisor–franchisee relationship is susceptible to conflicts of interest. For example, a franchisor may feel a franchisee is failing to exploit a territory adequately, thereby underperforming and leaving gaps for a competitor to establish itself. The franchisee, on the other hand, may be quite satisfied with the extent to which it is exploiting its territory.
Exercising Due Diligence
Despite my many positive experiences with franchises, I’ve also encountered a couple of situations where individual franchisees have failed, and either gone broke or sold their franchise for much less than they purchased it for. For this reason, it pays to spend time doing some research.
Wising up
Your first port of call is the Franchising Code of Conduct, administered through the Australian Competition & Consumer Commission (ACCC). I suggest you check out this code at www.accc.gov.au. The ACCC also publish an excellent document called the Franchisee Manual, which serves as a great introduction for understanding your rights and responsibilities as a franchisee.
Other useful references include:
Inside Franchise Business (www.franchisebusiness.com.au): An organisation dedicated to providing information for potential franchisees about the franchising sector.
Franchise Council of Australia (www.franchise.org.au):
