Franchising pros and cons

Posted: 11th January 2017

TeamMany of the best known business names in the world started out as (or still are) franchises. Two of the most valuable brand names in the world (McDonald’s and Coca-Cola) have expanded rapidly using franchised restaurants and bottling and distribution rights respectively. Leading names in the car hire, food and many other industries are those of companies which use franchise arrangements to run at least some of their sales outlets.

 
Franchising clearly works, at least for the companies who grant the franchises! Here we compare the realities of franchising with 'going it alone'.
 
Franchise - A Ready-Built System
 
One of the hardest things about setting up your own business is devising the systems you need to run it efficiently and successfully. A franchise gives you a ready-made system and the training in how to use it. The advantage of having the major systems fully tested, set up and running should not be underestimated. Other advantages are:
 
  • Brand Name. Established franchises provide the franchisee with an established brand name, so the 'building up a name' exercise is not needed. The downside of this is that the value of the name effectively stays with the firm which grants the franchise, so no matter how well you build up the business, it will always have someone else's name. This can mean that the business is worth less when you retire than your 'own' business would be;
  • Sales and Marketing. Franchise operations typically invest heavily in marketing through their franchise charges (see below). Although many spend a higher percentage of turnover on marketing than many sole traders would find comfortable, they are scientific in their approach, using past experience to extract maximum 'bang per buck'. However, the ability of the franchisee to control marketing expenditure or to market independently is often limited;
  • Staff Training. A well known franchise makes staffing easier too. Not only is the well known name a plus, but once someone has been trained in 'the system', they can easily adapt to work in another branch of the same franchise with minimal training. This is a significant advantage where the business relies on part-time or mobile labour (e.g. students). It is estimated that in the USA over 5 per cent of the population have at one time worked for McDonald’s. That gives their franchisees an enormous advantage in hiring new employees. The independent faces starting employee training from scratch every time a new employee is hired;
  • A Shoulder to Cry On. Franchisees have the opportunity to share problems and experiences with their fellow franchisees (and often to go to conferences in quite nice locations with the cost being allowable for tax purposes). This is valuable: being a small businessperson can be very lonely if you have no one to bounce ideas off and learn from. In a franchise organisation, thousands of people have similar experiences, so there is likely to be someone you can talk with who has 'been there and done that' and is able to offer constructive advice. Most franchises have regular meetings of their franchisees to share information and act as mentors to one another;
  • Economies of Scale. Large franchise operations that sell things (as opposed to services) wield huge buying power in their sectors, so they can offer very good gross margins for their operators and drive down many of the costs of running the franchise. On the other hand, the franchise agreement will almost always have a percentage of turnover payable to the franchise company. This can often be substantial and/or there can be management or licensing fees on top, which can collectively take quite a big chunk out of the profits;
  • Finance. The financial institutions know that franchise operations are less likely to fail than owner-managed ones, so getting external finance is typically easier, despite the fact that the set-up costs are usually high. Also, if times are tough, a good franchise operation may be willing to offer assistance, but beware - the more unscrupulous can make matters worse;
  • Being Your Own Boss. One of the big differences between running a franchise, no matter how successful, and running a business that is entirely your own is the way you feel about it. Franchisees are unlikely ever to feel that the business is theirs in the same way as an independent operator does. This can be important for some people. On the other hand, some franchisees are comforted by the thought that there is 'something behind them'.
 

As in any business agreement, it is important to get good quality advice before committing to a franchise.