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In this chapter, you will:
1. Describe the three types of franchising: trade name, product distribution, and pure.
2.A. Explain the benefits of buying a franchise.
2.B. Explain the drawbacks of buying a franchise.
In addition, you will:
3. Understand the laws covering franchise purchases.
4. Discuss the right way to buy a franchise.
5. Describe the major trends shaping franchising.
Most franchised outlets are small, but as a whole, they have a significant impact on both the U.S. and global economies.
In the United States alone, about 3,800 franchisors operate nearly 750,000 franchise outlets, and more are opening constantly.
Figure 8.2 provides a breakdown of the franchise market by industry.
Franchising also has a significant impact on the global economy. Because the United States franchise market is the most mature in the world, U.S. franchisors are expanding globally to reach their growth targets.
Franchisees do not establish their own autonomous businesses; instead, they buy a “success package” from the franchisor, who shows them how to use it.
Franchising is built on an ongoing relationship between a franchisor and a franchisee. The franchisor provides valuable services, such as a proven business system, training and support, name recognition, and many other forms of assistance; in return, the franchisee pays an initial franchise fee as well as an ongoing percentage of his or her outlet’s sales to the franchisor as a royalty and agrees to operate the outlet according to the franchisor’s terms.
Three basic types of franchises operate in almost every industry: trade-name franchising, product distribution franchising, and pure franchising.
Figure 8.4 shows the International Franchise Association’s Franchise Business Index, a composite measure of the economic health of the franchise industry that includes six different indicators.
For many first-time entrepreneurs, access to a business model with a proven track record is the safest way to own a business.
An effective advertising program is essential to the success of every franchise operation.
A basic principle of franchising is to use franchisees’ money to grow their businesses, but some franchisors realize that because start-up costs have reached breathtakingly high levels, they must provide financial help for franchisees.
A franchise owner does not have to build the business from scratch.
Prospective franchisees must understand the disadvantages of franchising before choosing this method of doing business. Perhaps the biggest drawback of franchising is that a franchisee must sacrifice some freedom to the franchisor.
Franchisees use many of the same sources to finance franchises that independent entrepreneurs use to finance start-up companies.
This figure shows a breakdown of franchise royalty fees.
Although franchisees own their businesses, they do not have the autonomy that independent owners have. To protect its image, a franchisor requires that franchisees maintain certain operating standards.
Before signing on with a franchise, it is wise to find out the details of the training program the franchisor provides to avoid unpleasant surprises.
Figure 8.7 shows a breakdown of the number of outlets operated by U.S.-based franchises.
Many myths surround franchising.
The FDD applies to all franchisors, even those in the 35 states that lack franchise disclosure laws. The purpose of the regulation is to assist potential franchisees’ investigations of a franchise deal and to introduce consistency into the franchisor’s disclosure statements.
In a recent decision known as Browning-Ferris Industries (BFI), the National Labor Relations Board (NLRB) overturned more than 30 years of regulatory practice and franchise law by declaring that franchisors are considered “joint employers” with their franchisees. Even though franchisees make decisions about hiring, paying, scheduling, and firing their employees, the ruling holds franchisors jointly responsible for those decisions.
By asking the right questions and resisting the urge to rush into an investment decision, potential franchisees can avoid being taken by unscrupulous operators.
Do you have what it takes to be a successful franchise owner?
Franchising has experienced three major growth waves since its beginning. The first wave occurred in the early 1970s, when fast-food restaurants used the concept to grow rapidly.
The second wave took place in the mid-1980s, as the U.S. economy shifted heavily toward the service sector.
A third wave began in the early 1990s and continues today. It is characterized by new low-cost franchises that focus on specific market niches. In the wake of major corporate downsizing and the burgeoning costs of traditional franchises, these new franchises allow would-be entrepreneurs to get into proven businesses faster and at reasonable costs.
Franchisees today are a more diverse group than in the past.
People of all ages and backgrounds are choosing franchising as a way to get into business for themselves.
One of the major trends in franchising is the internationalization of American franchise systems. Franchising has become a major export industry for the United States, with franchises focusing on international markets to boost sales and profits as the domestic market has become saturated.
This table shows the top 10 countries that present the greatest potential for franchisors, according to a cross-country analysis of five factors, including the availability of business infrastructure and a suitable labor force, sufficient market size, and the government regulatory environment.
Mobile franchising is one of the fastest-growing segments in the franchise market because mobile franchises typically have lower capital requirements than brick-and-mortar businesses, and they offer a marketing advantage: the ultimate in convenience for customers because the product or service comes to them.
As the high cost of building full-scale locations continues to climb, more franchisors are searching out nontraditional locations in which to build smaller, less expensive outlets.
It is not unusual for entrepreneurs who convert their independent stores into franchises to experience an increase of 20% or more in sales because of the instant name recognition the franchise offers.
Refranchising not only increases franchisors’ profitability because it generates more royalty income for franchisors but also provides capital to finance international expansion.
Franchisors are finding that multi-unit franchising is an efficient way to do business. For a franchisor, the time and cost of managing 10 franchisees each owning 10 outlets are much less than managing 100 franchisees each owning 1 outlet. A multi-unit strategy also accelerates a franchise’s growth rate. Not only is multiple-unit franchising an efficient way to expand quickly, it also is effective for franchisors who are targeting foreign markets, where having a local representative who knows the territory is essential.
Driving the trend toward multiple-unit franchising are area development and master franchising.
This “buddy-system” approach works best when the two franchise ideas are compatible and appeal to similar customers.