"Franchise Fee" Made Simple
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Q: I am in the process of buying a franchise and am curious. What exactly am I supposed to get for my franchise fee?
A: Let's start with some basics.
In the language of franchising, when you use the phrase "franchise fee," most insiders understand that to be the initial check you write to the franchisor when you sign your franchise agreement. It's the cost of joining the system and is usually a fairly large flat fee.
My sense of your question, however, is that you're really referring to all the fees-and there can be many. The principal fee in franchising-other than the franchise fee-is the royalty fee or, in some systems, the continuing royalty. This refers to the checks you'll send to your franchisor on a routine basis throughout the term of the agreement. You pay this for staying in the system. While it varies from franchisor to franchisor, the royalty is typically calculated as a percentage of your sales. You may be required to send the payment each month, each week or on some other regular schedule to the franchisor. Many franchisors today don't even need you to send them a check. When you sign the franchise agreement, you give them permission to reach into your checking account and wire transfer the payment directly to them.
Before I get mail from some franchise purists, the other routine fee is usually the advertising fee. This is the payment you'll likely make on the same frequency as your royalty payments and also as a percentage of your sales. While we call it a fee, and it is money out of your pocket, practically speaking it isn't really a fee. The advertising fee is almost always a contribution you're required to make to an advertising fund that the franchisor manages for the franchise system. The franchisor customarily uses the fund to create advertising and marketing materials or, in some cases, to actually place the advertising and often to reimburse itself for the costs of administering the fund.
Now that we've identified the two principal fees-the franchise fee and the royalty fee-why are you paying those two? Simplistically, you pay the franchise fee for the right to join the club. The franchisor won't let you into the system unless you pay him the initial fee. You pay the royalty each week or each month to stay in the club. In most well written franchise agreements, that's actually all you get-entrance and continual access.
To determine what you'll receive from the franchisor, you need to read the written franchise agreements closely. Remember, in franchising, as in most other contractual arrangements, you only get what your written contract says you get. If there's something your franchisor said they'd provide that's important to you, and it's not in your written contract, have them amend the contract. They may not be legally bound to provide you that service if it's not in the written agreements.
Also essential to remember: Don't ever-ever-invest in a franchise without the advice of an experienced franchise lawyer. Franchising is a specialty area in the law and, most general practitioners may not have sufficient knowledge to decipher a franchise agreement. Also, and maybe even more important, don't ever accept the advice of franchise brokers. They may act like your friends and even refer to themselves as "franchise advisors or consultants," but they don't work for you. They work for and get paid by the franchisor only when you buy a franchise. They have a bit of a conflict when it comes to giving you advice.
What You'll Get
You'll find most of the franchisor's obligations detailed in Item 11 of the Uniform Franchise Offering Circular (UFOC), the thick legal document the franchisor probably gave you during your first meeting with them. Item 11 is a useful place to look, since it's written in plain English and typically lists the obligations of the franchisor broken out into two broad categories-those services they provide before and those services they provide after you open your location. Some people equate the franchise fee with the initial basket of services and the royalty fee with the continuing basket of services. Legally this isn't accurate, but for our purposes it doesn't really matter.
As an individual unit franchisee, what should you expect to see? It varies widely from franchisor to franchisor. Within the franchisor's initial obligations, most franchisors provide you with:
- The right to use the franchisor's system, including trade name, service marks and trade d?cor and operating system
- Services to help you acquire and develop your location, including site specifications, sources of demographic information, site approval visits and architectural assistance (may only be a set of standard plans for you to customize)
- Sources of equipment, fixtures, furnishings, signs, and products required for your business
- A copy of the franchisor's confidential operating manual
- Initial training for you, your manager and sometimes your staff
- Information and assistance in conducting a grand opening marketing program
- Computer software
- On-hand assistance and training at your location prior to your opening
Within most mature franchise systems, this is just the start of the assistance you're likely to receive. How much or what types of assistance you get depends on the franchisor.
Say two franchisors provide a month of initial training to you and your staff. However, one franchisor has a training complex that gives you both classroom training and on-the-job training in a qualified training facility for not only you and your manager, but also your initial crew. The other franchisor only arranges for you to work in a local franchise location for the month. Both offer a month of training. Which one would you prefer to receive?
During the early days of your business, you may need a lot of handholding, and later on, as you become more experienced, your needs will change. Great franchisors provide services differently to different types of franchisees. However, expect to see many of the following services within a franchisor's continuing obligations:
- A requirement to frequently updates the operations manual
- Continuing management and staff training opportunities and/or requirements. Great franchisors continually offer training to their franchisees and staff
- Advertising and marketing creation, placement and support locally and systemwide
- Research and development on new merchandise and services you'll be allowed or required to offer. Good franchisors are always looking for ways to evolve their system in order to stay competitive.
- If you're a retail business, expect to see things like merchandising standards and plan-o-grams.
- The opportunity and sometimes the requirement to participate in group purchasing programs for inventory, supplies, insurance, etc.
- An obligation for the franchisor to establish a franchisee advisory council or sub-councils, so you can have input into the management of the franchise system.
- Individual or group counseling to help you improve the operation of your business. Most franchisors provide field visits as well as other types of headquarters and field support. Often these services are provided in a number of ways that don't always include lengthy personal visits by the franchisor's staff. You may get certain services by telephone, by seminar, or by newsletter or bulletins or even via the Internet.
There is no standard list of services. Franchisors like McDonald's, Burger King, Arby's and Wendy's are established and mature franchise systems and can provide an immense level of support before and after you open your doors. The types of services they provide will even change as you mature in the system.
Other smaller franchisors may work just as hard for their franchisees but cannot afford to provide the same level of services as the big boys. However, if you join a newer franchisor and your support comes directly from the founder of the system, there can often be some real advantages. Smaller franchisors by necessity often offer a level of personal services that more than makes up for the range of services provided by larger systems.
What you get, therefore, is not exactly what you pay for. What you get is what the franchisor and you agree to when you sign the written franchise agreement. Every franchise is different, and you can't assume two similar franchisors will provide similar levels and types of services.
Michael H. Seid is managing director of Michael H. Seid & Associates, a West Hartford, Connecticut- and Troy, Michigan-based management consulting firm specializing in the franchise industry. Seid co-wroteFranchising for Dummies(IDG Books) with Dave Thomas, the late founder of Wendy's, and serves on the International Franchise Association's Board of Directors.
Kay Marie Ainsley, managing director of Michael H. Seid & Associates, consults with companies on the appropriateness of franchising; assists franchisors with systems, manuals and training programs; and is a frequent speaker and author of numerous articles on franchising.
The opinions expressed in this column are those of the author, not of Entrepreneur.com. All answers are intended to be general in nature, without regard to specific geographical areas or circumstances, and should only be relied upon after consulting an appropriate expert, such as an attorney or accountant.