What is a Franchise?

What is a Franchise?

Imagine that your soul mate arrived home from work excited about starting a new business. Imagine that the new business would involve picking up dog poop.

In 1999, listening to talk radio during his work commute, Jacob D’Aniello heard a caller talking about a dog poop problem. Once home, he eagerly told his fiancé Susan about his plans.

And yep, they still got married. They placed a classified ad in a local newspaper describing a service called DoodyCalls. By 2004 both had quit their jobs and were working full time at DoodyCalls, headquartered in Charlottesville, Virginia.

Overwhelmed with calls, they soon began franchising. Today DoodyCalls operates in 23 states, covering 57 territories.

The company estimates that more than 10 million “deposits” are scooped per year. And a lot of money is also deposited!

What is a Franchise?

Simply put, a franchise is a clone. One entity is the franchisor. The franchisor allows another party, the franchisee, to operate a clone of the original business. The franchise can involve products or services.

The franchisee is the person or company that can do business using the franchisor name and business model. The franchise is usually allowed to do business in a specified location or territory, which is described by the franchisor.

Franchise Business Model

The franchisor allows the franchisee to open and run an offshoot of the original business. The franchisee has the right to use the brand and the proven business model.

Of course, the name of the brand along with the proven system of doing business isn’t free. There are initial and ongoing fees applied in franchise systems.

In return, the franchisee doesn’t have to start a business from scratch. Along with the right to use the brand, the franchisee can get advice, training and support while running the franchise.

Is it a franchise or a license? In the franchising business, the franchisee uses a brand name and business model. In licensing, a company sells licenses to other companies to use intellectual property, brand or design or business program. Licenses can be sold to companies that compete with each other.

1. Franchise System

Whether the franchise involves products or services, the initial fee and ongoing fees that the franchisee pays are usually based on the franchisee’s turnover. The ongoing fee can be as low as 4% or 5% or the fee can be as high as 20%.

The franchising fees are often based on the level of support the franchisor provides. For example, the franchisor may help with invoicing, or help use the brand to build sales and bring new customers to the franchise.

Do you want to buy a franchise or do you want to franchise your business? Studies have proven a franchisee is more likely to be successful than someone starting a business on their own.

No matter what the system of doing business is, almost any model can become a franchisor. Whether your business provides services, such as a beauty shop or a cleaning service, or makes a product, you shouldn’t consider franchising unless your business is already successful.

Franchising Is Not a Solution for Struggling Businesses

Franchising is not a solution to help a struggling business. Franchises run using the elements of the first successful business, such as sales and marketing, staff, accounts and operations.

If you’re considering becoming a franchisor, make sure it is the right fit for a franchise system. Could your business do just as well with someone else running it? As a franchisor, are you able to recruit, train and support the franchisees?

If a business generates enough profit for a franchisee to earn a living, it is ready to become a franchise. If not, the franchisees will not be able to pay you, the franchisor. Before you sell others the right to use your company name, you want to make sure the franchisees uphold the value of the brand and any associated services for your franchise business.

If you’re one of the franchisees, you are responsible for running the franchise in compliance with standards set by the franchisor. You are representing the brand and must provide stellar customer services.

As one of the franchisees, you are responsible for maintaining staff and training employees. If the franchisor has included guidelines about how to promote the brand or services, you must advertise and promote as spelled out in those instructions.

2. Franchise Disclosure Document

A franchise disclosure document (FDD) is a legal document that is presented to prospective buyers of franchises in the pre-sale disclosure process. Before 2007, it was called the Uniform Franchise Offering Circular (UFOC) (or uniform franchise disclosure document). The legal document was developed by the Federal Trade Commission.

If you’re thinking about buying a franchise, you can never have too much information. Carefully study the franchise disclosure document. The franchisor should provide documentation to support earnings claims in its franchise system.

Franchising is a contractual business relationship. The franchisor is selling the franchisee the right to use the brand and defined method of doing business or providing services for the business, in exchange for a fee. Each franchise may have different requirements in its business model.

Do you need an attorney to review the FDD? Before you sign on the dotted line to become a franchisor or buy a franchise, have an attorney specifically trained in franchise contracts to review the documents.

The FTC has The Franchise Rule. The Franchise Rule requires a franchisor to provide the franchisee with the information needed to weigh the risks and benefits of franchising. The Franchise Rule requires the disclosure document include information about 23 specific items.

Individual states also have laws on their books related to franchising and franchises. If you’re in the United States and buying a franchise from another country, or planning to operate a franchise in another country, there will undoubtedly be additional legal requirements.

3. Due Diligence

Have all the franchises been successful? Talk to other franchisees to find out what they’ve learned. Did the franchisor provide the promised support? Were the fees charged fairly?

While you are doing due diligence to purchase a franchise, the franchisor is also checking into your background. Any good franchisor wants the business brand to be successful. Before selling you the right to become one of the franchises, the franchisor will want to know about you:

  • Are you a fit for franchising?
  • Do you excel at learning new things?
  • Are you going to adhere to the requirements of running the business?
  • And, are you ready – financially and mentally – to make the change from regular employment to running a franchise business?

4. Franchise Agreement

If the vetting goes well on both sides, both the franchisor and the franchisees will sign an agreement. Buying a franchise can be extremely complicated, with lots of legalese to ponder in the agreement.

The agreement should spell out the franchisor’s degree of involvement and support in the franchising venture. One of the most attractive facets of franchising is the defined territory, which reduces competition for franchisees. Ask for information about neighboring franchises for the same business, and make sure you understand how boundaries are defined.

5. Fees

The franchisee pays an initial fee to buy into the franchise, usually a lump sum paid to the franchisor for the right to operate the business. The franchisee also pays ongoing fees, called royalty fees or commissions. The franchisor may also require that you purchase products or materials that you’ll need to provide services.

6. Ongoing Relationship

What is a franchise? For the franchisee, it’s a new beginning. Once you get past the research and contractual obligations, buying a franchise is an exciting venture. One of the best things about franchising is that you’re not on your own.

The franchising business model requires an ongoing relationship between the parties, often lasting a decade or more. Both sides have to meet contractual commitments and work together in order for there to be success in the franchising venture.

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This article, "What is a Franchise?" was first published on Small Business Trends



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