If you’re interested in starting a business under a franchise brand or franchising your company, you’re probably aware of the basic structure of the model. ‘Franchisees’ invest in an established brand and set up a new branch in their own territory. But exactly how do franchisors make money?
Before we go into the main ways franchisors can make money, let’s first ask: ‘What does a franchisor do?’
Back to basics
A franchisor licenses their business brand to investors, who then launch and run a branch of the company in a new territory. The ‘franchisee’ covers the cost of the unit’s set-up and usually pays regular fees to the franchisor, in return for the support they receive.
The role of a franchisor is to oversee the running of their business network, make sure franchisees stick to their established operational guidelines and provide quality training and support.
Becoming a franchisor is a great way to boost a business’s revenues. Not only do franchisors receive income from franchise fees and royalties, but they also have a network of ambassadors promoting the brand. When they’re based in different locations around the country, or even the world, they can communicate to an audience beyond the business owner’s reach.
So, what does making money as a franchisor involve?
How do franchisors make money?
Franchisors make their money through franchisees and their customers - both directly and indirectly. We’ve listed the different income streams below.
Making money directly
1. Initial investments
Most franchisors charge an initial fee to cover the costs of launching a new business branch. Establishing a franchise unit often requires renovation work, the installation of expensive equipment and franchisee training, so the costs can mount up quickly.
High initial fees can be off-putting to potential franchisees, so if you’re thinking about franchising your business, perhaps try offering to spread the cost over a series of annual payments.
In return for letting investors use their branding, franchisors can claim royalties on an ongoing basis. These payments can come in the form of a fixed fee or a percentage of each franchisee’s revenue. Royalties can also be described as management service fees, and average at around five or six percent of sales revenue (Forbes).
While this might seem steep to franchisees, it’s necessary to fund the vital support franchisors provide. Most investors will be able to rely on regular training opportunities, development programmes and marketing campaigns to make sure they’re always at the top of their game.
Ultimately, royalties should also contribute to the general improvement of the business and ongoing growth. So, both the franchisor and franchisees should see the benefits of making these regular payments.
3. Renewal fees
Franchisors can earn money by charging a fee when franchisees would like to renew their contract. There are steps to complete this process, including legal and administrative costs, and someone has to pay for them.
As with other franchise charges, it’s important franchisors get the fee right. It should be high enough to cover the renewal and possibly make some profit, but low enough to avoid discouraging franchisees from staying on.
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4. Sublet rent upcharges
In some cases, a franchisor may be able to lease a property for a cheaper price than a franchisee could. If this happens, the franchisor can then ‘upcharge’ the rent to its most profitable franchises and make some extra income. This method requires extra admin, but it could be a wise move if franchisors can secure a good deal with landlords.
5. Event tickets
Franchisors can charge franchisees to attend compulsory events such as product launches or promotions. While some franchisors simply aim to cover the costs of organising and running the day, others will make a profit too.
6. Training fees
Many franchisors cover the cost of training in the initial investment cost, but some prefer to charge a separate fee. Taking this approach would work well if a franchisor offers a number of separate investment packages, for example, and each one requires a different level of coaching.
Making money indirectly
1. Equipment and supplies
For quality assurance, a franchisor can specify which suppliers franchisees should use. Taking this approach can be an effective way to get collective buying power, as bulk-buying products for the entire franchise network gives the franchisor bargaining power to get considerable discounts.
What’s more, the savings can be passed on to the franchisees, who should be able to increase their overall profit margin. In turn, the franchisor can make more money from royalties and invite more investors to become franchisees in the business. The more franchisees in a network, the larger the orders they’ll make and the more negotiating power franchisors have with suppliers, who may be willing to provide even bigger discounts. The cycle goes on and on…
>> Read more:
2. Training and support
This one is simple: if franchisors provide comprehensive, high-quality training and support, they can help franchisees see success. The more sales the franchisees make, the more money they pay in royalties and the more capital the franchisor can generate.
By investing in national or even international marketing campaigns, franchisors can boost brand awareness for their business and help every franchisee become more successful. Again, this leads to higher profit margins and more money going towards royalties.
Find out more
If you’re looking to franchise your business but would like to know more about making money as a franchisor, you’re in the right place. We’ve got loads of informative articles to guide you through the process. Take a look at our essential guide for setting franchise fees or find out about the best franchisor cost-cutting strategies.
Alternatively, just browse our articles for franchisors to see our latest publications.
Alice Tuffery, Point Franchise ©