Why On Earth Would I Pay A Franchise Fee?

In dealing with clients, without a doubt the most common objection to choosing to purchase a franchise is the concept of paying a franchise fee. To many, especially those that have never owned a franchise, the concept of paying a franchise fee can be puzzling, overwhelming and sometimes even borderline insulting. Before I address the value in franchise fees and some tips on comparing them, I’d first like to make a few points about franchise fees in general.

What is a franchise fee?
A franchise fee is a one-time fee charged to a new franchisee when purchasing a franchise. Franchise fees can range from a few thousand dollars to over $50,000 depending on the franchise, with an industry average currently around $30,000. Franchise fees are usually paid at the time of signing a franchise agreement and in most cases, non-negotiable, at least in the case of single unit franchises. Provided the franchise is truly a strong opportunity the franchise fee is a legitimate fee and despite what many people believe are rarely a profit center for the franchisor.

What does one get for the franchise fee?
When exploring a franchise opportunity it is important that you know exactly what you are getting for your franchise fee as what’s included and the true value of each will vary from franchise to franchise. The most common things that are offered in return for a franchise fee are inclusion in the system, rights to use a franchisors brand, trademarks, marketing materials, etc. Franchise fees also typically include comprehensive training to run the business, access to proprietary systems and business processes, rights to utilize negotiated vendor products and services, software, operations manuals and location selection and build-out assistance. While these are the more common things included with a franchise fee sometimes franchisors will include other items and services such as a grand opening campaign, computers, software and supplies for the trade.

Is there really value in a franchise fee?
The honest answer is with all franchises, not necessarily, but for a true world class franchise the answer is almost always a resounding yes. What I like to have my clients do is create a comparison checklist of what’s included with a particular franchisor’s franchise fee and the costs associated if they started an independent business and went out and purchased equivalent products and services.

Some Examples…

How well known is this franchisor’s brand? Not just across the country, but in my desired market. How much would I invest to create a brand this well known in my market place? Branding is not cheap nor created overnight so sometimes the answer to this question is in the millions and would take years to achieve.

Knowing what I know now, how much teaching and training would I require to be as prepared and educated to run my business as competitively as if I were a franchisee? There are consultants, courses, associations, books, etc. to teach just about anything these days. If you did enroll in some sort of educational service or hired consultants to teach you this business how much would it cost you? A few hundred? A few thousand or tens of thousands?

Who will help me design my corporate identity, logos, color schemes and marketing materials? Could you just sit down at your computer and create your own or would you hire a professional agency to assist you with this?

Who will help me choose and design my store or location? Provided your business is a location based business you will want it properly designed so that it flows correctly for your customers, while also meeting any safety requirements for both clients and employees. How much will an architect or consultant charge for this?

How much will software cost to run my business? Does your potential franchise offer you proprietary point of sale and operations software or is it off the shelf? If you went the independent route how much would this software cost?

What’s the value of any pre-negotiated vendor and supplier services? Many franchisors have the ability to leverage group buying to negotiate attractive rates for products and services required to run your business. What is the value of that? If you didn’t have the group buying leverage how would it affect your break even point and profit margins?

What else is included in the franchise fee and how much would it cost if I just went and bought it? Take a look at anything else included in the franchise fee and simply tally up the retail prices for such products and services. How much would you be investing?

Maybe that franchise fee isn’t such a bad deal after all?

Yes, there are plenty of franchises out there that consider their franchise fee little more than the price to play but with a strong franchise opportunity I find that far more often than not, the independent route would cost exponentially more to acquire the same products, services, training, branding, etc. that’s included with a franchise fee. Of course you can always just “wing it” and build a business on a shoe string budget but most consumers are attracted to polished and professional products and services and tend to be brand loyal shoppers. If you are wanting to start a business on the same competitive level that a world class franchise can offer I think you will find that most franchise fees actually offer a tremendous bang for your buck!

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Top Down Vs Bottom Up Franchises

With over 3,000 franchise opportunities to choose from researching for the best opportunity can be a confusing and overwhelming task. Before deciding which franchise is the best fit for you, it’s important to determine which franchises are best for anyone and truly provide a proven successful business model. While there are many factors used in determining this, one key element I look at is a concept I like to call “Top Down Vs Bottom Up” franchises. While there are always exceptions to the rule I’d like to share with you this theory on top down vs bottom up and explain why “bottom up” franchises are generally a much safer investment and offer that critical element of a proven successful business model.

Top Down vs Bottom Up

When you look at the history of most successful franchises, they almost always are the evolution of a very successful independent business that chose to grow through franchising rather than through opening and remotely managing corporate owned locations around the country or globe. This is what we refer to as a bottom up franchise. A bottom up franchise is in fact a proven business model, even to the very first franchisee that enters the system. As a young franchisor they may still have things to learn about selling and supporting franchisees, national vendor contracts, national marketing efforts, etc. but they have been striving to perfect the core business model for years before offering it as an investment to a new franchisee. Look at McDonalds, KFC, Subway and the countless other brands that are among today’s largest franchise systems… They all started as small independent businesses that operated and thrived long before moving into franchising and offering their brand and business model to other investors.

On the other hand we have what I call “top down” franchises that grow their business in an almost opposite fashion. Top down franchises are usually franchise opportunities started by franchising experts who identify hot markets or trends in franchising and jump in the race with their own invented brand, despite having little or no actual experience owning and operating the actual business which they are franchising. They know the industry is hot, they know how to sell and support franchisees, but for lack of a better word they are using their new franchisees as guinea pigs or beta testers to learn how to own, operate and succeed with the core business model. While there have been cases of top down franchises becoming very successful for both franchisor and franchisee, more times than not these are recipes for failure. After all, when you buy a franchise you are supposed to be buying a proven business model from an organization that can lead you from inception to success. If a franchisor has no actual experience building and operating the core business then where is the proof of a successful business model? Who is going to teach you to be successful if they themselves have never actually been successful with this business?

When looking at a particular franchise opportunity one key factor I look at right away is when the business was founded vs when the business was franchised. I like to see the business founded no less than 3 years before it was franchised which means it had at least 3 years to focus on the core business model before offering the opportunity to other investors. Some experts believe this period should be no less than 5 years. When researching a franchise you always want to know the history of the business before it was a franchise. Obviously the longer a franchise has been in offering it’s opportunity, provided its franchisees are successful the less this may matter, but so many of today’s hottest franchises are less than 10 years old and are not the mega brand opportunities most think of when they think franchising. One should never discount a franchise because they are young or don’t have hundreds of franchisees, after all, at some point the giants like McDonalds and Subway also were young and had only a handful of franchisees, but when exploring a young franchise take careful consideration of whether or not it’s a top down or a bottom up franchise system. This alone could be a big determining factor of your chances of success or failure with your next franchise!

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The Real Power In Franchise Validation

There are many critical stages to researching a franchise and determining if it’s truly the right opportunity for you, but few are as valuable as a stage called validation. This article will explain what validation is and what questions to ask, but also how to really read between the lines, filter your responses and truly determine if a particular franchise is a model you can not only be successful with, but happy as well.

What is Validation?

Validation is simply the process of speaking with current (and even past) franchisees in a particular system to determine overall franchisee satisfaction and financial performance of a franchise. In a nutshell it’s a method used to check up on a franchise to determine if they are delivering on their promises, supporting their franchisees properly and are offering a truly viable and successful opportunity. In all franchisors’ disclosure documents are the contact information for all other franchisees in their system, both current as well as franchisees who have gotten out of the business within the last 3 years. Most franchisors require that you spend a good bit of time speaking with other franchisees but even if they don’t require it – DO IT! These franchisees have nothing to gain or lose by your decision to purchase that franchise therefore have no reason to give you anything but honest answers about their experience owning that franchise. Many franchisors will give you a “suggested validation list” of franchisees to contact but keep in mind this is commonly a cherry picked list of satisfied, top producing franchisees. Use the contact list in the disclosure document and make it a point to speak with a range of franchisees including top producers, struggling franchisees, those that have owned their business for many years and those that are fairly new to the system. You want to get feedback from those in all phases of owning their business as you too will experience these different phases as well.

All franchisees have gone through the validation process themselves so they will understand why you are calling and for the most part be happy to speak with you and share their experience. That being said, understand they are most likely busy running their business so be respectful of their time. Be willing to speak with them at their convenience outside of business hours or at least during slower times of their day. If there are franchisees within driving distance of you, it’s also a good idea to offer to make the trip and take the franchisee to lunch or dinner for a face to face meeting. I would advise you to make a point to speak with 10 – 20 franchisees during your validation when possible.

General Questions to Ask When You Validate

When speaking with other franchisees you of course want to get feedback about their experience owning the business but remember, your ultimate goal is to determine if this is the right opportunity FOR YOU, not for them. No business is right for everyone so never forget that one man’s trash is another man’s treasure. Below are some good questions to ask other franchisees during your validation process:

  • What did you do before you invested in this franchise?
  • What other franchises did you explore before making your decision to go with this one?
  • What were your key reasons for choosing this franchise over the others you were exploring?
  • How long have you been in business?
  • Do you feel your initial training adequately prepared you to launch your business?
  • Did the franchisor provide adequate support during your grand opening and launch phases?
  • How often are you in contact with the franchisor?
  • Are you pleased with their efforts to continue to support you as a franchisee?
  • How often are you in contact with other franchisees?
  • Do you find the other franchisees in the system to be of value to you in achieving success with your business?
  • Do you feel the franchisor is doing a good job of recruiting top quality franchisees?
  • What more could the franchisor be doing to help you be more successful with your business?
  • What have been your biggest headaches and challenges to running this business?
  • What do you feel it takes to be a top producer with this franchise?
  • What advice would you give me as a new franchisee just starting out?

Financial Questions to Ask When You Validate

Remember, if you are validating properly you will be speaking with franchisees in all phases of their business ranging from those who are wildly successful to those that are new and still grinding it out to break even. Also keep in mind when talking numbers that people structure their businesses in different ways. Some pay themselves salaries, drive company owned cars, take frequent business trips and work out of posh office space, while others take only dividends or distribution and operate the business on as lean of a budget as possible. Be prepared for a wide range of methods and responses when discussing the financial picture of a particular franchise. These questions will also vary depending on which phase of the business a particular franchisee is in.

  • What can a typical franchisee expect to produce in gross revenues in year one, year two and year three of this business?
  • What are the top producers doing in gross sales?
  • What are the lower producing franchisees doing in gross sales?
  • Currently what is your gross revenue and how much of that is going into your pocket?
  • How long did it take to break even for you?
  • How accurate were the franchisors operating capital projections? Did you spend it all? Did you need to go into pocket for more?
  • What are the typical cost percentages of sales? Labor? Occupancy and other overhead?
  • Assuming a franchisee is running a fairly streamlined operation what should I expect typical margins to be before taxes, debt service, etc?

And Of Course the Big Question…

  • If you had it to do all over again, would you?

Filtering Your Responses

When you validate keep in mind you will not receive 100% satisfaction from every franchisee you speak with. No franchisor has a 100% satisfaction rate and all business owners have bad days at the office. You will too! While it is easy to do, resist getting too hung up on negative or less than satisfactory responses. Negative feedback will resonate more with you than positive, that’s just human nature. Focus on the overall percentages of your feedback from everyone you speak with and rate the franchisor accordingly. Look for trends more than specific experiences to get a sense of overall franchisee satisfaction.

Reading Between The Lines

Probably the most over-looked concept in validating is striving to identify with the different people with whom you speak. As you speak with franchisees, constantly ask yourself, “am I like this person”, “do we share similar values”, “do we have similar strengths or weaknesses”. The bottom line is this… if you are cut from the same fabric that the majority of the super satisfied, top producing franchisees, there may be a great chance this is the right opportunity for you. On the other hand, if you find you are more like the less than satisfied franchisees who are the under achievers of the group, then there’s a chance that particular franchise may not be the right opportunity for you. We all have strengths and weaknesses and finding the franchise that best leverages your strengths while compensating for your weaknesses is critical.

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The Power of Goal Setting

In Mark McCormack’s book, “What they Don’t Teach You at Harvard Business School” he discusses a study conducted of Harvard MBA grads between 1979 and 1989. Graduates were asked if they had set clear, written goals for their future. 84% had not, 13% said they did have goals but surprisingly only 3% had actually written them down. Ten years later in 1989 they went back to these grads and found that the 13% with non-written goals were earning on average twice as much as those who had no goals at all. The amazing part is that the 3% that had true written goals were earning on average 10 times as much as the average from the entire remaining 97%! Obviously Harvard does not graduate dummies so it’s pretty clear that goal setting made the difference, not intelligence.

Here is a system and some tips for writing, tracking and achieving your goals:

Write down your goals! This is critical – and when I say “write” I don’t mean take mental notes nor do I mean typing in on your computer or smart phone. I mean the good old fashioned way with pen and paper. When setting your goals always follow the S.M.A.R.T. system. Here’s an explanation…

S for Specific
Your goals need to be specific. “Make a ton of money” or “have more free time” are not specific goals and won’t push you into action. Specific goals are “Make $250,000 this year” and “attend 10 of my son’s little league games this season”.

M for Measurable
No point in setting goals if you can’t measure them. If your goal is to make $250,000 in 2010 then you know that by July 1 you should have made $125,000 or you could be off track and need to kick it into high gear. If you can’t measure your progress with your goals then success or failure may be open to speculation. We either hit or miss our goals – no in between.

A for Attainable
Your goals need to be worthwhile and possible otherwise you won’t be motivated to pursue them. I’d love to make a billion dollars a year but despite being a fairly confident and optimistic guy I know that’s hardly an attainable goal. Set ambitious goals but always remember it’s a whole lot more motivating and gratifying to over perform on your goals than it is to fall short.

R T for Realistic Timetable
Goals have to have a deadline otherwise they won’t motivate or inspire commitment. It’s hard to really be motivated to take action on something we want to achieve someday. It’s much easier to take action on something we want to achieve by the end of the month or year. Give yourself a fair time frame to achieve your goals otherwise you will set yourself up to fail but also remember that most humans are not wired to think more than a few years out. 1, 3 and 5 year goals are what I generally try to set.

End Goals vs Means Goals

There are basically two types of goals… end goals and means goals. End goals are your ultimate goals, for example, earn $250,000 in 2010. That goal should be set but to really kick yourself into action you will also want to create means goals. (as in a means to an end). What goals will you need to set on a daily – weekly and monthly basis to achieve that $250,000 in 2010? How many leads, sales calls, candidate introductions, etc. will it take to achieve my ends goal? In addition to writing out these goals, take an extra few minutes to also write down how it will make you feel when you achieve your end goal. How will it make you feel if you don’t achieve it. Leverage your fear of failure to motivate you and visualize your success.

In my 20 or so years of striving to be a successful entrepreneur I have read books, attended seminars and sought advice from so many of the greats including Anthony Robbins, Zig Ziglar, Steven Covey, Brian Tracey, Chet Holmes and more. While the general styles and focus of these people may vary I have never read one of their books or attended one of their seminars where true goal setting was not a key focus. If you have not already done so – go get yourself a plain spiral notebook and a pen and get busy setting your goals. I guarantee it will change your life.

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Is Your Franchise a World Class Marketing Machine?

For most owning a franchise offers numerous advantages over an independent business. Things like brand awareness, proven business model, initial training, ongoing support, etc. When researching a franchise these are all things you need to consider but of them all there’s one that needs to be at the top of your list… A serious marketing machine!

The truth is most of us can be taught to do just about anything. Whether it’s cooking delicious food, cleaning an office or restoring someone’s home from water damage a franchisor can teach just about anyone with average intelligence how to do it. The truth is with most business owners the biggest challenge is not providing the products and service, it’s acquiring the customers. Yes, like most other skills we can learn to market but lack of marketing or incorrect marketing is sure to lead any business to failure. Trial and error marketing can be costly and ultimately do more harm than good and marketing in one industry may be different than marketing in another. The point is that unless you are a serious marketing guru you need to make sure that the franchise you invest in offers a top notch marketing machine.

When you research a franchise you need to ask specific questions of both the franchisor and several of their current franchisees about their marketing machine. Don’t buy smoke and blue sky! Buy into a system with proven results. Here are some specific questions you need to ask your potential franchisor.

1. What will the franchisor do to help me build my brand?
Brand awareness is a very powerful competitive advantage and one of the most compelling reasons for choosing a franchise. What is your potential franchise doing to build its brand? Only a small percent of franchises are household names like Subway or McDonalds but you want to be a leading brand in your industry.

2. How does the franchise help me acquire customers?
Without customers a business can’t exist so obviously this is critical. What does the franchise do on the franchisor level to help you acquire customers? What sort of system do they provide? How do they teach you to acquire customers on a local level? Do they have personnel who will come to town and help you gain momentum acquiring customers?

3. Does the franchise help me acquire the right customers?
Acquiring customers is important, but acquiring the right customers is paramount. I have actually seen franchises with a so-called marketing machine that acquired $50 customers at a cost of $100 per customer. While the franchise felt they were growing their marketing machine was actually putting them out of business. A real marketing machine acquires the right customers at a cost that makes a profit.

4. How does the franchise help me retain customers?
Depending on your industry it can cost a business up to 6 times as much to gain a new customer as it does to retain one. Not to mention depending on why you lose a customer could be damaging your reputation thus making it even harder to acquire new customers. Ask your prospective franchisor about their methods of retaining customers, creating repeat business and up-sells to increase your revenues.

In summary, when it comes to franchising, and most businesses in general strong sales and marketing are an element that all success stories have in common. A world class marketing machine can and should be one of your greatest assets in the franchise you choose. Ask very specific questions of your franchisor about their marketing machine then speak with their franchisees to see just how well they really do stand by their promises. A world class marketing machine can send your franchise to the top – lack of it will most likely lead to failure.

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