A franchise is a system of distribution which enables a franchisee to handle or sell a specific product or service under certain mutually agreed-upon conditions. Three main types of franchise systems are available:
- Manufacturers, such as car manufacturers, who use franchises as a way of distributing their products;
- Franchise companies who sell products at wholesale to franchisees who then retail those products;
- The currently most common franchise system, where a franchisee is given a name, an image and a standardised method of doing business – examples are Abrakebabra, Snap Printing, etc.
The main attraction of entering business in this way is that the franchisee has a business format or product which has already been market-tested and found to work.
Franchises may offer other benefits to the prospective entrepreneur:
- A recognised name which the public is already aware of and which has credibility with suppliers;
- Assistance during the start-up period;
- Established operational standards;
- Assistance with site location and development;
- Management and operational training;
- Rights to the franchise in a given area.
While the advantages may appear to be very attractive, the prospective franchisee must weigh them against the drawbacks. With business format franchising there is virtually no scope for individual initiative in matters relating to the product, service or design. In addition, the franchiser can demand high standards of maintenance, appearance and packaging in whatever the franchise entails. As well as paying for the name, the franchisee must pay a regular royalty, based on gross turnover or on profits, to the franchiser.
While the franchisee in many respects operates the business independently, they may not be at liberty to sell the franchise. Because a proven track record may exist for a product or service, a franchise may be a very good way of starting a business. However, there are many matters that the prospective entrepreneur should take into account when evaluating a franchise. These include:
The Product or Service Offered
There is nothing wrong with a product or service being new. However, it should have been tested and found to work, at least for a couple of years, in a location similar to that for which it is now being offered.
The franchisee should check to see whether the franchise is already in existence or not.
The Franchise Package
To a large extent the package outlines the nature of the franchiser/franchisee relationship. Given that the franchiser is selling a package of proven know-how, it follows that it should:
- Reduce the inherent risks of starting up a new business;
- Enable a franchisee to be his/her own boss by using a pre-designed business format with the full support of the franchiser;
- Provide precise details of how the business should be run by way of an operational manual. The manual should not only cover general business operations but also advise on most possible scenarios identified as problems during the initial pilot scheme.
The Financial Implications
An important financial consideration is the franchiser’s initial capital franchise fee. The franchiser is usually entitled to recover research and development costs by such means. Careful examination of how the franchiser obtains his profit is also necessary. Normally, the income is from one source, either a percentage of turnover or as a mark-up on goods supplied. In addition, the franchiser may place a levy on turnover as a contribution to overall franchise advertising.
The Experience of Other Franchisees
The most reliable method of evaluating a franchise is to contact other franchisees to ascertain their relative success. Ideally, they should have been in business for a few years with an operation similar to the one you are contemplating.
Finally, the prospective franchisee should examine the contract. The franchise agreement, which details the purchase terms and the operating conditions, should be drawn up by a solicitor with experience in this area.