10 Questions to Ask When Franchising Your Business
Your business is booming, easy to duplicate and ripe for growth. You’ve always dreamed of expanding to multiple locations. You decide the time is right -- you’re making the leap to franchising.
Like tying the knot, becoming a franchisor isn’t an endeavor you rush into. With so many opportunities for failure, it’s critical that you do your due diligence when researching how to properly franchise your brand.
From budgeting for up-front costs, filing the right legal paperwork, vetting trustworthy franchisees, to scheduling royalty payments, there’s no shortage of challenging tasks ahead. But, if you play your cards right, your brand could one day be the next Supercuts or Subway.
Here are 10 essential questions to ask when franchising your business:
1. What are some resources I can look to as I start out?
Joel Libava, a Cleveland-based professional franchise advisor and author of Become a Franchise Owner! (Wiley, 2011), suggests that you reach out to a franchise development company or a consultant who specializes in helping people franchise their businesses. They can boil the basics down for you fast, and some can also pair you with potential franchisees when you’re ready. Bear in mind, however, that these are fee-based options that could cost you upwards of $50,000 to $100,000 each.
The International Franchise Association (IFA) is another smart first stop for getting up to speed on franchising. The organization provides a wealth of helpful free and fee-based online educational resources.
2. What are the ballpark startup costs involved?
Initial costs can range anywhere between $100,000 to $150,00 and oftentimes higher “to really do it right, mainly in marketing, legal and operations fees, just to launch your franchising operation from Day One,” says Libava. “Know from the outset that it’s not cheap to turn your great business into a great franchise. This is no time to cut financial corners if you want to succeed.”
Expect to fork over beaucoup bucks up front for everything from professional consultation fees, franchise location design, construction and equipment. Then heap onto that paying for initial inventory and insurance. The list of expenses trails on.
3. How much of a franchise royalty percentage should I collect?
Charging your franchisee a perpetual royalty percentage is generally how you’ll make money from franchising. This is a pre-agreed upon cut of their gross sales -- typically between 4 percent and 6 percent, though some franchise royalty fees climb as high as 25 percent. Libava says 5 percent is a “pretty normal royalty to charge for the privilege of using your brand and everything that entails.”
Franchise royalty payments are typically collected on a monthly basis. You will also charge franchisees a one-time franchise fee, typically ranging between $30,000 to $35,000. The fee covers the cost of entry and purchasing a license to operate the business. Franchise fees can exceed $100,000 for advanced development deals and master franchises.
4. How much do I stand to make?
There’s no one-size-fits all number. Profit margins will range depending on how successful your franchise business becomes. However, to whet your appetite, Libava offers this scenario, which he says is fairly typical at the top of the franchising food chain: “If I’m a franchisor with 500 franchisees who each own one store, and if every store does $500,000 a year in gross sales, and I’m getting five percent of that from each franchisee every year, I’d get $25,000 a year times 500. And, boom, that’s $12.5 million in all, not a bad payday.”
5. What basic legal considerations do I need to be aware of?
Franchising is littered with complicated legal issues. It is best to consult with an experienced attorney whose area of expertise is franchise law. It’s also important to note that certain states have registration requirements that you must comply with in order to legally franchise your business.
Related: Is Franchising the Best Option?
6. What is a Franchise Disclosure Document and why must I have one?
The FTC mandates that all franchisors provide prospective franchisees with a Franchise Disclosure Document (FDD) at least 14 days before partnering. It’s a complex 23-section legal document, sometimes topping hundreds of pages and best completed by an attorney.
The document informs franchisees of your company history and financials, about the various ins and outs of your franchise system (trademarks, patents, copyrights, etc.), as well as the specific agreements and contracts franchisees are required to sign to buy in. FDDs -- which typically cost between $10,000 and $35,000 to have drawn up -- are designed to help franchisees make the most informed decision possible when considering investing in your franchise.
7. How can I attract potential franchisees?
One of the best ways is to clearly explain within your company’s various marketing materials and on your website what they stand to gain by investing in your brand. To further get the word out about your franchising opportunity, you’ll also want to set up booths at, and perhaps even be present at, franchise industry trade shows like the International Franchise Expo.
You might also consider contracting with a franchise broker to generate franchisee leads for you. If they make a match that results in a sale, Mark Siebert, founder and CEO iFranchise Group, a Homewood, Ill.-based franchising consultancy, says you can expect to pay them a fee between $10,000 and $15,000.
Related: Is My Business Ready to Franchise?
When marketing to potential franchisees, Seibert says it’s best to present your opportunity as a mutually beneficial relationship. “You don’t ever want to present yourself as the kind of franchisor whose going to ram directives down people’s throats,” he says. Rather, assure prospective franchisees that you won’t have a one-sided, my-way-or-the-highway style relationship. “Show them you’re open to a give-and-take partnership between two business owners and they’ll come.”
8. How should I screen prospective franchisees?
“It’s really hard as a young, new franchisor to turn down a $30,000 check from someone who has the money,” Libava says, “but you have to be really careful, you have to interview them in person and you have to get to know them and you have to make sure that they have the right look in their eyes.”
To further establish trust -- and to weed out bad apples ahead of time -- Libava also recommends that you run background and credit checks on all potential franchisees. Be on the lookout for red flags like past lawsuits, fraud charges or convictions and bankruptcies.
9. How many franchise locations should I open at first?
You have two choices here:
You can opt for a single-unit (direct-unit) franchise, which is when you allow franchisees to operate one franchise location.
You can offer franchisees multi-unit arrangements, enabling them to run multiple franchise locations.
Both Libava and Siebert suggest that first-time franchisors bite off only one single-unit franchise operation. If your inaugural franchise effort earns enough profit to make the venture worthwhile, and you’re comfortable with the amount hard work involved, only then should you consider adding additional units.
Related: How to Franchise Your Business
10. What are some common rookie mistakes to avoid?
Libava says the worst mistake he’s seen is consulting with a franchise attorney only, without seeking the additional advice of a franchise development firm or consultant. “It’s called being cheap and it can really cost you in the long run, sometimes your entire operation.”
Another common blunder is turning your business into a franchise without opening a second guinea pig location first, he says. “That’s your prototype location, how you see if franchising is even doable for you in the first place.”
Kim Lachance Shandrow is the former West Coast editor at Entrepreneur.com. Previously, she was a commerce columnist at Los Angeles CityBeat, a news producer at MSNBC and KNBC in Los Angeles and a frequent contributor to the Los Angeles Times. She has also written for Government Technology magazine, LA Yoga magazine, the Lowell Sun newspaper, HealthCentral.com, PsychCentral.com and the former U.S. Surgeon General, Dr. C. Everett Coop. Follow her on Twitter at @Lashandrow. You can also follow her on Facebook here.