FRAN­CHISE FILE

HOW DO FRANCHISORS FUND ESSENTIAL SER­VICES, AND HOW MUCH SHOULD THEY TELL FRANCHISEES? SI­MON LORD HAS SOME AN­SWERS.

NZ Business - - CONTENTS - SI­MON LORD

TO BE sus­tain­able, a fran­chise net­work needs to be set up with a tried-and-tested model that al­lows for three things: 1. Suf­fi­cient in­come for franchisees to achieve an ac­cept­able re­turn on their in­vest­ment; 2. Suf­fi­cient profit mar­gin for the fran­chisor to re­tain their in­ter­est in man­ag­ing the fran­chise; 3. Suf­fi­cient rev­enue to fund the sup­port ser­vices that franchisees need on an on­go­ing ba­sis. None of th­ese is easy to get right, which is why new franchisors should al­ways use an ex­pe­ri­enced and trust­wor­thy con­sul­tant. Even if they get the in­come and profit mar­gin right, get­ting the third one wrong can cause con­sid­er­able grief fur­ther down the track.

Sup­port ser­vices come in a va­ri­ety of types. There’s re­search and devel­op­ment – keep­ing up with mar­ket trends, de­vel­op­ing new prod­ucts or ser­vices, or tri­alling new equip­ment or de­liv­ery meth­ods. There’s ne­go­ti­a­tion – get­ting the best deals from sup­pli­ers or find­ing new sup­pli­ers. And there’s fran­chise sup­port, which comes in a va­ri­ety of types, from hav­ing of­fice-based spe­cial­ists in, for ex­am­ple, mar­ket­ing or IT to field sup­port – vis­it­ing in­di­vid­ual franchisees to help them im­prove busi­ness prof­itabil­ity and com­pli­ance.

For an in­tend­ing fran­chisor, it’s easy to un­der­es­ti­mate the cost of pro­vid­ing each of th­ese ser­vices. Take field sup­port, for ex­am­ple. In the early days, with just a few franchisees to visit, it’s not hard for the fran­chisor or a se­nior staff mem­ber to ‘drop in’ on a few lo­cal franchisees – but once they have a na­tional net­work of 25 or more, they’re go­ing to need ded­i­cated field staff, all of whom will need a travel and ac­com­mo­da­tion bud­get. How are they go­ing to pay for this?

THERE’S MORE THAN ONE WAY TO SKIN A CAT

The truth is that, in many fran­chises, a fran­chise roy­alty of five per­cent or a flat weekly fee of $x doesn’t gen­er­ate enough rev­enue to pay for all the ser­vices re­quired, as well as a profit mar­gin for the fran­chisor. In some cases, there­fore, franchisors may charge ad­di­tional fees for spe­cific ser­vices such as train­ing, IT or ac­count­ing ser­vices. How­ever, in or­der to pro­vide the over­all ser­vice, many franchisors look to gen­er­ate rev­enue from other sources too. Th­ese in­clude: 1. A mark-up or mar­gin on prod­ucts pro­vided. This means that franchisees pay only for what they ac­tu­ally buy. If the fran­chisor is man­u­fac­tur­ing or whole­sal­ing prod­uct, a markup is rea­son­able pro­vided the prod­uct re­mains com­pet­i­tively (prefer­ably ad­van­ta­geously) priced com­pared to sim­i­lar prod­ucts avail­able on the open mar­ket. 2. A com­mis­sion or re­bate paid by sup­pli­ers. In some sys­tems, the franchisees pay no fees and the fran­chisor man­u­fac­tures no prod­uct, but the ap­proved sup­pli­ers pay re­bates to the fran­chisor on all prod­ucts sup­plied to franchisees. This works as long as franchisees buy only through the ap­proved sup­pli­ers, but franchisors need to au­dit care­fully to pre­vent ‘alien’ prod­ucts creep­ing in. 3. A fee, mark-up or mar­gin on ser­vices pro­vided. If the fran­chisor is pro­vid­ing, say, a cen­tral book­ing fa­cil­ity or debt col­lec­tion ser­vices for the franchisees, th­ese might be charged for separately. 4. A mar­gin cre­ated by tak­ing the head lease of a prop­erty and sub-leas­ing it to a fran­chisee. In some cases, this may be the only way a fran­chisee can get into a cer­tain prop­erty, as some land­lords pre­fer to deal with franchisors. McDon­ald’s have been us­ing this sys­tem since the 1950s, when they dis­cov­ered that the cost of pro­vid­ing fran­chisee sup­port was greater than their roy­alty rev­enue.

KEEP IT HON­EST

Many franchisors use a mix of the above meth­ods in their fee pro­cesses, which is per­fectly rea­son­able pro­vided they re­sult in fair prices to franchisees. But the con­cept of re­bates, in par­tic­u­lar, is cur­rently caus­ing a storm in Aus­tralia, where franchisees of cer­tain chains are al­leg­ing to a Par­lia­men­tary En­quiry that they are pay­ing well over mar­ket rates for cer­tain items.

Buying power should be one of the big­gest ad­van­tages of fran­chis­ing, and the more a fran­chise group buys from a sin­gle sup­plier, the less it can ex­pect to pay per item. Some of the dis­counts ne­go­ti­ated by a fran­chisor may well be ac­ti­vated only once a cer­tain level of vol­ume is reached, hence re­bates be­yond that point. But if a fran­chisor re­quires franchisees to pay more than they need to in or­der to in­crease the fran­chisor’s own prof­its, there’s trou­ble in store. Not only will franchisees’ prof­itabil­ity be hit – so will their level of trust in the fran­chisor. And that’s a very hard thing to re­store.

It’s for this rea­son, then, that wise franchisors not only en­sure good deals for their franchisees but are trans­par­ent about what they are re­ceiv­ing and what it is fund­ing. Franchisees might not al­ways like what they are told, but if they un­der­stand the rea­sons for any ar­range­ments, it helps to build trust – not re­sent­ment.

IS PUB­LISHER OF FRAN­CHISE NEW ZEALAND ME­DIA, WHICH PRO­VIDE FRAN­CHISE IN­FOR­MA­TION AND DE­TAILS OF BUSI­NESS OP­POR­TU­NI­TIES AND PRO­FES­SIONAL AD­VI­SORS NA­TION WIDE. A FREE PRINT OR DIG­I­TAL COPY OF FRAN­CHISE NEW ZEALAND MAGAZINE IS AVAIL­ABLE FROM...

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