Buying A Franchise:
A Consumer Guide
When you buy a franchise, you often can sell goods and services that have instant name recognition, and get training and support that can help you succeed. But purchasing a franchise is like every other investment: there’s no guarantee of success.
This article explains how to shop for a franchise opportunity, the obligations of a franchise owner, and questions to ask before you invest.
I. The Benefits and Responsibilities
of Franchise Ownership
II. Advance Work: Before You Select
a Franchise System
III. Selecting a Franchise
IV. Finding the Right Opportunity
V. Investigating Before You Invest
VI. Before You Sign the Franchise Agreement
I. The Benefits and Responsibilities
of Franchise Ownership
A franchise enables you, the investor or franchisee, to
operate a business. You pay a franchise fee and you
get a format or system developed by the company
(franchisor), the right to use the franchisor’s name
for a limited time, and assistance. For example, the
franchisor may provide you with help in finding
a location for your outlet; initial training and an
operating manual; and advice on management,
marketing, or personnel. The franchisor may
provide support through periodic newsletters, a
toll-free telephone number, a website, or scheduled
workshops or seminars.
Buying a franchise may reduce your investment risk
by enabling you to associate with an established
company. But the franchise fee can be substantial.
You also will have other costs: for example, you may
be required to give up significant control over your
business while you take on contractual obligations
with the franchisor.
Typically, franchise systems have several components.
Costs
In exchange for the right to use the franchisor’s
name and assistance, you will pay some or all of the
following fees.
Initial Franchise Fee and Other Expenses
Your initial franchise fee, which will range from
several thousand dollars to several hundred thousand
dollars, may be non-refundable. You may incur
significant costs to rent, build, and equip an outlet
and to buy initial inventory. You also may have to
pay for operating licenses and insurance, and a “grand
opening” fee to the franchisor to promote your new
outlet.
Continuing Royalty Payments
You may have to pay the franchisor royalties based
on a percentage of your weekly or monthly gross
income. Often, you must pay royalties even if your
outlet isn’t earning significant income. As a rule,
you have to pay royalties for the right to use the
franchisor’s name. Even if the franchisor doesn’t
provide the services they promised, you still may
have to pay royalties for the duration of your
franchise agreement. Indeed, even if you voluntarily
terminate your franchisee agreement early, you may
owe royalties for the remainder of your agreement.
Advertising Fees
You also may have to pay into an advertising fund.
Some portion of the advertising fees may be allocated
to national advertising or to attract new franchise
owners, rather than to promote your particular
outlet.
Controls
To ensure uniformity, franchisors usually control
how franchisees conduct business. These controls
may significantly restrict your ability to exercise your
own business judgment. Here are a few examples.
Site Approval
Many franchisors pre-approve sites for outlets,
which, in turn, may increase the likelihood that your
outlet will attract customers. At the same time, the
franchisor may not approve the site you’ve selected.
Design or Appearance Standards
Franchisors may impose design or appearance
standards to ensure a uniform look among the
various outlets. Some franchisors require periodic
renovations or seasonal design changes; complying
with these standards may increase your costs.
Restrictions on Goods and Services You Sell
Franchisors may restrict the goods and services you
sell. For example, if you own a restaurant franchise,
you may not be able to make any changes to your
menu. If you own an automobile transmission repair
franchise, you may not be able to perform other types
of automotive work, like brake or electrical system
repairs.
Restrictions on Method of Operation
Franchisors may require that you operate in a
particular way: they may dictate hours; pre-approve
signs, employee uniforms, and advertisements;
or demand that you use certain accounting or
bookkeeping procedures. In some cases, the
franchisor may require that you sell goods or services
at specific prices, restricting your ability to offer
discounts, or that you buy supplies only from an
approved supplier even if you can buy similar goods
elsewhere for less.
Restrictions on Sales Area
A franchisor may limit your business to a specific
territory.While territorial restrictions may ensure
that you will not compete with other franchisees for
the same customers, they also could hurt your ability
to open additional outlets or to move to a more
profitable location. In addition, a franchisor may
limit your ability to have your own website, which
could restrict your ability to have online customers.
Moreover, the franchisor itself may have the right to
offer goods or services in your sales area through its
own website or through catalogs or telemarketing
campaigns.
Terminations and renewal
You can lose the right to your franchise if you breach
the franchise contract. Franchise contracts are for a
limited time; your right to renew is not guaranteed.
Franchise Terminations
A franchisor can end your franchise agreement for
a variety of reasons, including your failure to pay
royalties or abide by performance standards and sales
restrictions. If your franchise is terminated, you may
lose your investment.
Renewals
Franchise agreements may run for as long as
20 years. At the end of the contract, the franchisor
may decline to renew. Renewals are not automatic,
and they may not have the original terms and
conditions. Indeed, the franchisor may raise the
royalty payments, impose new design standards and
sales restrictions, or reduce your territory. Any of
these changes may result in more competition from
company-owned outlets or other franchisees.
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II. Advance Work:
Before You Select a
Franchise System
Before you invest in a particular franchise system,
think about how much money you have to invest,
your abilities, and your goals. Be brutally honest.
Your Investment
- How much money do you have to invest?
- How much money can you afford to lose?
- Are you purchasing the franchise alone or with
partners?
- Do you need financing? Where’s it coming from?
- What’s your credit rating? Credit score?
- Do you have savings or additional income to live
on while you start your business?
Your Abilities
- Does the franchise require technical experience
or special training or education (for example,
auto repair, home and office decorating, or tax
preparation)?
- What special skill set can you bring to a business,
and, specifically, to this business?
- What experience do you have as a business owner
or manager?
Your Goals
Write down your reasons for buying a particular
franchise:
- Do you need a specific annual income?
- Are you interested in pursuing a particular field?
- Are you interested in retail sales or performing a
service?
- How many hours can you work?
How many are
you willing to work?
- Do you intend to operate the business
yourself or
hire a manager?
- Will franchise ownership be your primary source of income
or a supplement to your current income?
- Do you get bored easily? Are you in this for the
long-term?
- Would you like to own several outlets?
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