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A Primer on Buying a Franchise

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There are a number of ways to grow a business using what I like to call Other People's Money (OPM) or Other People's Resources (OPR). One of the most popular is franchising.

Happily, you get to use OPM or OPR regardless of which side of the franchise relationship you're on. A franchisee--an operator of individual retail locations--gets the business know-how, systems, and intellectual property needed to run a successful enterprise without having to spend the time and energy to develop them yourself. A franchisor--the creator of a franchise concept who, in exchange for fees and royalties, grants franchise rights to individual operators--gets other people to grow his business using their own capital.

Franchisors have generally built a successful business, identified the reasons the business was successful, and "bottled" the formula by establishing exclusive rights to the intellectual property that made the business a success. That intellectual property typically includes know-how, business systems, trademarks and patents. The franchisor grants the franchisee a license to replicate the business and provides everything that's needed to replicate the business model.

Some franchisors, however, go farther than others in this respect. A good one will provide training on topics like site selection, store design, construction, and staffing; ongoing mentoring and support; access to the economies of scale of a large operation, including cooperative advertising and supply purchasing; and systems and software for streamlining management processes, inventory, supplies, accounting, budgets and accounting.

So what are the negatives? For starters, franchises can be very expensive. A well-known franchise may cost anywhere from $100,000 to $1,500,000 for the initial franchise fee alone, which seldom includes royalties or other payments such as cooperative advertising expenses or special training fees. And franchisees have to make royalty payments even if they are losing money.

Another potential problem: Franchising isn't necessarily right for people with a strong entrepreneurial spirit. As a franchisee, you generally have to be an obedient soldier in someone else's army. You won't be promoting your own brand, product or image. And you'll need to play along with the franchisor's need to maintain uniformity and exercise tight quality controls. The range of issues on which franchisors typically maintain tight controls is larger than you might think, and include the type of business organization you use, the transferability of the business, the use of their trademarks, training techniques, operations, staffing, building design, equipment, sourcing, inventory, supplies, and what products and services you offer to public.

On-going support from the franchisor is a great positive for a franchisee. But it can feel like a burden when some road warrior from the head office comes in, hangs around with a clip board, and points out everything you're doing wrong.

The franchisor may even attempt to control your time. Some franchises will not give a franchise to someone who is going to be a largely passive investor, and instead want the franchisee to be at least an active manager. This can be especially problematic if you have more than one venture and can't devote all your time and energy to just one.

Bottom line: Ask yourself if your ego can deal with these issues.

Assuming you're still interested, know that it's imperative to do your due diligence on a potential franchisor. State governments heavily regulate franchising, providing significant protections to franchisees. Still, you need to make sure that the franchisor is reputable; the best way to start is by contacting several existing franchisees.

Also, be sure to have the franchise agreement carefully reviewed by a lawyer, both as to your obligations and duties and those of the franchisor. Questions to ask include: What are the franchisor's obligations with respect to such things as advertising, marketing methods, training, and mentoring? How receptive is the franchisor to suggestions from franchisees? A franchise that only comes around to collect royalties and fails to keep its promise in these other areas could turn out to be a disastrous waste of money.

In short, you want a franchisor that sees you not as a mere licensee, but as a business partner--that will work with you to grow the local outlet and the national franchise for the good of you both.

Last updated: May 28, 2008




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