Once you understand the basics of a franchise relationship, it’s easier to assess and compare franchise deals.
Have you been thinking about starting a family restaurant, a gym or a corner convenience store? For some who’ve wanted to open these or similar businesses, a franchise has been the answer. Instead of starting fresh, entrepreneurs join forces with a brand like Applebee’s, Planet Fitness or 7-Eleven to reach their business goals.
What is a franchise?
A brand licenses its identity and business model to an entrepreneur, the franchisee. The brand gives guidance in setting up and promoting the business. As part of this business agreement, the franchiser can include certain requirements. For example, you may be contractually required to, among other stipulations:
- Buy equipment from the franchiser or a specified vendor
- Train employees using a specific curriculum
- Design your space—everything from layout to company-specified colors
- Participate in all marketing and promotional programs.
The U.S. Department of Commerce reports that the franchise business model accounts for about 12% of all U.S. businesses with more than one employee. This group covers many sectors, among them food service (the largest franchise sector), gas-station convenience stores (second), real-estate agencies (seventh), and gyms (eighth), according to the most recent U.S. Economic Census.1
Franchising by the numbers.
In exchange for benefiting from a well-known name and formula, a franchiser charges an initial startup fee, calculates the capital required to launch, and requires that you meet other financial criteria—all specified in its Financial Disclosure documents.
Startup costs vary widely, depending upon the franchise’s equipment requirements, location, physical size, and other variables. For example, to start a location for the Sbarro Italian pizza restaurant, would-be franchisees need to have at least $125,000 in liquid capital. However, fitness-minded franchisees looking to establish a new Planet Fitness location must have about $1.5 million in liquid capital.
Once operating, the franchisee pays a percentage of its gross revenues, also known as a royalty fee, to the parent company. This amount differs, though the average fee is about 5%.
Is the deal right for you?
Consider these questions as you determine if a particular franchise is right for you:
- Does the franchise offer a high degree of initial and ongoing support? Franchiser 7-Eleven, for example, provides location assistance, store design and construction services, equipment installation and assigned consultants
- What’s its mortality rate? Insist on knowing what percentage of the company’s franchises fail over the course of a year, two years and more–and why
- Will you be required to buy specific supplies from a designated source? Many franchisers, especially in the food service category, require that you use their resources–a weight-management center’s support materials, or an eyeglass store’s frames and lenses–and in many cases it’s part of the brand’s success
- Have you researched the company? Beyond the numbers, do you like what you’ve read about its management philosophy, values, and ethics? Be sure to visit sites such as industry observer Sean Kelly’s Unhappy Franchisee to get the scoop on current franchise controversies
Create an expert team
No matter which franchise you may chose, you’ll need to know more about any state or federal tax deductions, and other details. Before you lock in the deal, be sure to have a lawyer and accountant, both with experience in representing franchisees, on call to crunch the numbers and read the fine print. Once you’ve done your franchise homework, you can make a confident decision and move ahead in making your dream a reality.
Talk with an M&T Business Banking relationship manager to get more insights on starting a new venture. Visit a branch or call us at 1-800-724-6070.
1 Franchises account for 12.7 of businesses with more than one employee, based on following statistics:
744,437 (total # of franchises)
5,881, 267 (non single-employer businesses).
This article is for informational purposes only. It is not designed or intended to provide financial, tax, legal, investment, accounting, or other professional advice since such advice always requires consideration of individual circumstances. Please consult with the professionals of your choice to discuss your situation.