A Franchise is an agreement or license between two parties which gives a person or group of people (the franchisee) the rights to market a product or service using the trademark and Know-How of another business (the franchisor). The franchisee has the rights to market the product or service using the operating methods of the franchisor. The franchisee has the obligation to pay the franchisor certain fees and royalties in exchange for these rights. The franchisor has the obligation to provide these rights and generally support the franchisee. In this sense, franchising is not a business or an industry, but a method used by businesses for the marketing and distribution of their products or services. Both franchisor and franchisee have a strong vested interest in the success of the brand and keeping their customers happy. Every Franchise Agreement is based on the "Know-How" founded and developed by the franchisor. The Know-How reveals a unique technique, mechanism or way in producing a product or serving a service. The franchisee should abide to the rules of the "Know-How", revealed usually in a manual delivered after the deal is on, prohibited to be disclosed to third parties, and learned through training sessions guided by the franchisor. Ex: We have a unique and only way (Know-How) to make a Big Mac, and served as identical worldwide. If the "Know-How" is not present, then the Agreement cannot be qualified as Franchise. You could be an exclusive distributor for example.

2- Franchise types: Where do you fit?

There are four main categories:
Retail Franchise:
The franchise will occupy retail premises, selling products or services during retail hours for ‘walk-in’ customer. The business is totally dependent on the premises and turnover is achieved from walk-in consumers. The franchisee in general needs:

• Need on - street premises
• Generate the majority of their turnover from walk-in customers
• Be selling a product or a service to an end-user
• Work and manage the franchise business during retail hours which may include weekends and long days
• Need to employ and manage staff (experience in some cases is essential)
• Be dealing with the general public

Management Franchise:
The franchisee will be using their experience to grow the franchise business and control staff that carry out the tasks of the job. It will require premises, which are more likely to be an office than on- street outlet.
 The majority of the turnover here is generated from business-to-business activities rather than from retail. The franchisee in general will:

• Need premises which may not necessarily be on - street
• Be selling a product or a service
• Work and manage the business during office hours
• Need to employ and manage skilled staff (experience in some cases is essential)
• Need to do a fair amount of administration in providing the product or service
• Deal mainly with businesses and a small percentage of the time with the general public
• Need to market the business personally

Single Operator Franchise:
(Also referred to as Job Franchise), the franchisee will be working at the franchise which usually takes the form of a trade supplying, selling and delivering products or service. It may be mobile, home-based or requiring small office premises. The franchisee in general will:

• Need to learn the trade which may be selling a product or a service
• Will work on their own initially, but may employ staff as the business grows
• Market the franchise locally to generate business
• Deal with the general public as well as businesses
• Have plenty of telephone dealings in the day to day running of the business
• In most cases be mobile, often van-based
• Do paperwork from home or have small industrial premises
• In a few cases wear a uniform
• Have flexible business hours

Investment Franchise: 
The franchisee invests a significant amount of money in the franchise such as a hotel. The franchisee in this case will be personally working at arm’s length from the franchise and will employ a management team to operate it. The franchisee in general will:

• Invest a substantial sum
• Not work at the franchise
• Install a professional management team to run the business
• Have experience in managing a large professional
• Usually takes place when the franchisee is a HOLDING Company.

3- Questions to ask the Franchisor before/after viewing the proposal:

Below are some questions to ask the franchisor to help you assess their franchise opportunity.

• What are your long-term plans for improving your franchise business?
• Do I have to pay a deposit or upfront payment, and if I do not proceed will I lose my deposit or any part of it?
• How long will it take to start trading from the time I sign the contract?
• How much working capital do you think I need, and what help can you give me in estimating my projections?
• What will the training consist of, how long will it last and are all training costs included in my franchise fee?
• What is my expected break even and how long should it take me to reach this figure?
• Do you charge ongoing franchise fees and if so what are they and how are they calculated?
• Do I have to contribute to any other costs such as advertising and promotional expenditure that you incur, if so how much?
• What help, if any, will I receive if I want to do some advertising and promotion on my own?
• What help and guidance do you offer in finding the right site?
• After I have opened, what ongoing support will I be provided with?
• Do you provide instructional and operational manuals and can I see them prior to signing?
• Will the territory offered be for my sole and exclusive use?
• How do you handle grievances with existing franchisees?
• What do you do for your franchisees that your competitors don’t?

We didn't stage a section related to questions that could be asked by the franchisor, because the latter usually sends, before any official proposal, a long questionnaire to check the real status of the applicant (future franchisee). We believe that the contents of this questionnaire are more than enough in order to inquire about the real situation of the applicant. Usually the contents of the questionnaire are common between all.

It goes that way: the questionnaire should be submitted to the franchisor, and the latter decides if the applicant deserves to be a franchisee. In case it was approved, the franchisor sends a proposal to the applicant. At this stage and after, every franchisor has his way to deal with the procedure, until signing occurs.

4- What to be aware of?

As well as their being advantages to franchising, franchising also has its disadvantages and it is important that you give them full consideration before making any sort of commitment.  The drawbacks fall into three categories: 

• Lack of independence
• Inflexibility
• Risk associated with the franchisors performance

Lack of independence

An important feature of franchising is that every aspect of the business format is defined and each outlet is operated strictly in agreement with this format. Not everyone would be happy to operate a business under such constraints and you must consider how well you can accept this aspect of the franchising system.

Discipline: Being a franchisee means working within a system in which there is little freedom or scope to be creative. Almost every aspect of operating the franchise business is laid down in the manuals. You can find much of school memories in franchising.

Franchisor Monitoring: Regular field staff monitoring visits are welcome initially, but as time passes you will feel able to do your own trouble-shooting and you may come to regard the franchisors interest as an intrusion - it is after all your franchise business.

Service Charges: At first these services are necessary and franchisees do not mind paying for them. However, as time goes on, if less use is made of the franchisor’s services, then franchisees can resent making the continuing payments.

Reputation: Each franchisee affects the reputation of the whole system depending on their performance and ability. In many franchises there is a wide gulf in the quality of product or service between the best and the worst franchisees. Thus any franchisee can harm the reputation of all outlets in the chain.

Inflexibility

Responding to the market: Franchising tends to be an inflexible method of doing business. Each franchisee is bound by the franchise contract to operate the business format in a certain way. This can make it difficult for a franchisor to introduce changes to the business format, refit outlets, or introduce new types of equipment. In some franchises it can be difficult for a franchisee to respond to new competition or to a change in the local market.

The job itself: What may seem an attractive challenge now could become boring after a few years so it is important that you choose a franchise opportunity in which you will enjoy the work, or which has potential for growth. Search for the franchises that are in constant renewable state, as for their identity, image, slogans, products, services…..

Risk associated with franchisor’s performance

It is important to recognize that not all franchises are soundly based or well run. In signing the franchise agreement you are formally binding yourself to a particular franchisor and it is therefore vital to select one that is competent and ethical. There are 4 different categories of franchisor:

• The Established Franchisor
• The New Franchisor
• The Unethical Franchisor
• The Incompetent Franchisor

 Some should be avoided at all costs others will vary in attractiveness according to the level of risk you are prepared to take.

• The established franchisor: This represents the least risky type of franchise opportunity. The business format will have been fully tested in a number of locations and although the initial cost of such a franchise may be relatively high, a franchise with this type of company will be highly attractive to anyone for whom security is important.

 

• The new franchisor: There is nothing intrinsically wrong with a new franchise but great care must be taken in deciding to invest in any particular franchise. As franchisors incur high initial costs, they need a minimum number of franchises to break even. When a franchisor has fewer than the break-even number of franchises it is likely that:

• More effort will go into selling franchises than into providing support services
• There will be some deficiencies in services in order to keep costs down
• Financial resources will be strained

In this start-up phase the franchisor is vulnerable to financial problems if franchises cannot be sold quickly enough. Franchises in this take-off phase are potentially those which will earn the highest returns, for example if the product or service is outstanding in some way a large territory can be covered. With a franchisor you are in a position near that of an independent business - greater return. Depending on the risks you are prepared to take, this type of franchise opportunity may be attractive, or one to be avoided.

• The unethical franchisor: Unfortunately some franchisors have no intention of entering a long-term support relationship with the franchisee; instead they have heard that franchising is a quick way to make money quickly out of gullible franchisees. This is done by setting up a shell franchise - lots on offer but nothing to back it up, then selling such franchises to those who are so keen to become a franchisee that they fail to make a thorough appraisal of the business on offer. Make sure that you spot this type of franchise, take time to investigate different opportunities. Can you afford to learn from your mistakes?

 

• The incompetent franchisor: These are franchisors who are not offering franchises to perpetrate fraud but who are incompetent in one or more of the following ways:
• The basic business is unsound.
• The franchisor is under-resourced.
• The franchisor is inept.

 A business will be unsound if the product or service on which it is based is unable to generate an adequate level of sales or profit

An under-resourced franchisor will be unable to fund this need adequately. Not only will start-up assistance and operating manuals be of poor quality, but the franchisor is also unlikely to be able to provide a high standard of support.

An inept franchisor may be enthusiastic about the concept of franchising but has little understanding of how and why the system works or of the services that will be provided. This type of franchisor can cause untold harm to the viability of the franchisee business. You should recognize that many franchises on offer will fall short of ideal.

5- How to evaluate the Franchise Initial Fee (FIF) and other ongoing fees?

You can read numerous articles about how to evaluate a Franchise Initial Fee. Some are simple, others are complicated. Usually you have the FIF, which is paid in order to start, and then you have the ongoing fees, like the royalty fee and advertisement fee. Evaluation should cover all types of fees noted in the agreement.

We can help with the following:

• Evaluation should be done in respect to the Return on Investment. Meaning, if you know that the Franchise is going to get you in three years about 300,000 USD as net profit, you are better-off to estimate. Exactitude of the return on investment is very important at this stage. Feasibility studies are highly recommended, and should be prepared by specialists.  
• Evaluation should also be related to the coverage area of the FIF. What does the FIF cover and to what extent?
• Remember that whenever the Franchisor loosens up the conditions, the Franchise fee will go up. Rarely Franchise Initial Fees are negotiable, and if so, they will be replaced by an increase in other fees, like the royalty fee. You can always try.

6- Our advice, our experience:

Out of experience, we would like to point out three last important issues, never to be put aside or unsecured when signing a Franchise deal.

• A franchisee should detain cash flow in order to cover what is needed as expenses and costs. If you go short on cash, you should know that you are highly jeopardizing your investment. The success of a franchise requires ongoing liquidity. Always put in mind when you start, that you need an extra 20% – 30 % of cash flow from what is expected. Meaning, if you evaluate that the overall start-up costs will be around 300,000 USD, then it is mandatory to have a further 100,000 USD, ready for unexpected costs, and if spent it won't hurt you much. Remember that you have fixed costs (Franchise Initial Fee) and you have variable costs (ongoing fees, site construction, employment salaries…)
• The other issue is related to marketing strategies. You should always bear in mind that your Franchise is like a foreign person or a stranger, visiting the selected country for the first time, and in order to be well communicated, he needs to be well introduced. An excellent marketing strategy will do just find. The advertisement fee (marketing levy) is a basic player in this aspect, and should be well founded.
• Always search for the history of the franchisor or franchisee. Any product recalls, financial problems, fraud speculations….? It is important to really know about your future partner.

Franchise Agreements must be well clarified and consulted; briefly, you are signing for a relationship that could last ten years, renewable for a similar period…

Franchise Glossary: Basic words to learn.
Advertising Fee – It's a contribution made to an advertising fund that the franchisor manages for the franchise system. The franchisor customarily uses the fund for national advertising and marketing, or to attract new franchise owners, but not to target your particular outlet. It's usually less than three percent of the franchisee's annual sales and usually paid in addition to the royalty fee. Not all franchisors charge advertising fees.
Area Franchisee/Area Developer – Buys the rights from the original franchisor to develop the system in a defined region (Lebanon). An area developer cannot sell franchises. .  
Business Plan – A plan that outlines the objectives of a business and the steps necessary to achieve those objectives. This can include financial projections and the planned steps for expansion. If you are seeking funding from a bank or building society you will often be asked to provide your business plan to secure borrowing. In fact, many of the well-known banks can offer advice and assistance on formulating a comprehensive and achievable business plan.
Copyright – The franchisor produces manuals and other documentation to ensure the franchise system is uniform. These are the franchisor's documents and he/she has copyright over them.
Distributorships - Manufacturers and wholesalers grant permission to businesses and individuals to sell their products. A distributorship is normally not a franchise. However, certain distributorship arrangements may qualify as a franchise may be licensed or be adjudged a business opportunity requiring disclosure.
Earnings Claim - Is any information the franchisor gives to a prospective franchisee which allows you to attempt to predict a range or level of potential sales, costs, income, or profits.
Estimated Initial Investment - A detailed listing of all fees and expenses you can expect to incur in starting a franchise. This listing represents the total amount that you would need to pay or get financing for, including fees paid to the franchisor; estimates for furniture; fixtures and equipment; opening inventory; real estate costs; insurance inventory, etc. This estimate should include a provision for working capital through the start-up phase.
Exclusive Territory - As a franchisee you can, with the consent of the franchisor, be given an exclusive area around your operation. This area can be large or small and no other franchisee or company owned business would be allowed to operate there.
Franchise - The rights you acquire to offer specific products or services within a certain location for a declared period of time.
Franchise Agreement - outlines the expectations and requirements of the franchisor and describes their commitment to the franchisee. Includes information that covers territorial rights of the franchisee, location requirements, training schedule, fees, general obligations of the franchisee, general obligations of the franchisor, etc.
Franchise Initial Fee (FIF) - An up-front entry fee, usually payable upon the signing of the contract (franchise agreement) for the right to use the franchisor's name, logo, and business system. Often, the franchise fee is also the consideration paid for initial training, site selection, operations manuals, and other help given by the franchisor before the opening of the business. Basic to ask of the coverage area of the FIF.
Franchisee - The operator or owner of a franchise.
Franchise Resale – The process of buying a franchise that is already up and running. Franchisees sell on their franchise for a number of reasons; retirement, another business venture, moving overseas, have made their money etc. Whilst the investment may be higher than buying a new franchise, buying an existing franchise minimizes the risk of failure and is operational from day one.
Franchisor - The parent company or person that grants, for a fee and other considerations, the right to use its name and system of business operations.
Initial Investment - The funds needed to initially set up a franchise and begin trading. This amount must cover the franchise fee paid to the franchisor and also includes outlay needed to secure space, purchase products, and cover any other initial set-up costs.
Know-How – A special technique or mechanism executed to produce the product or serve the service. It is founded and developed by the franchisor, and considered as basic in all Franchise Agreements.
Marketing Plan - a marketing plan should form part of your overall business plan. The purpose of the marketing plan is to define your market, i.e. identify your customers and competitors, to outline a strategy for attracting and keeping customers and to identify and anticipate change.
Master Franchisee/License - This is a franchisee that is given the right by the franchisor to develop and sell franchises under the brand name within a certain territory. Unlike area development rights, where a franchisee can open outlets themselves within a given region, a master franchisee must only sell franchises in a particular region. Usually the franchisee needs the approval of the franchisor prior to each deal, because the franchisor needs to know the identity of the third party that will start developing his brand. Transfer fees could be applied also.
Operating Manual - Comprehensive guidelines advising a franchisee on how to operate the franchised business. It covers all aspects of the business, and may be separated into different manuals addressing such subjects as accounting, personnel, advertising, promotion and maintenance.
Product Format Franchise – Once the rights to market a product or service have been acquired, you may offer other products along side your "product franchise." For example you may have a service station that sells a brand of gasoline, but you are not restricted on the other products or services that you can sell. Many times these are not true franchises, but can be considered distributorships
Regional Franchise - Buys the rights from a master franchisee or the original franchisor to sell franchises in a defined region.
Renewal - The rights given to a franchisee to renew their franchise business once the initial period set out in the franchise agreement has lapsed. The franchise agreement should also state the terms and conditions under which both parties agree that the business relationship can or cannot be renewed.
Royalty Fees - Ongoing fees paid to the franchisor by franchisees in respect of ongoing training and support services provided, usually between 5 – 10 %.

Trademark - a distinctive sign or indicator used by an individual, business organization or other legal entity to identify that the products or services to consumers with which the trademark appears originate from a unique source, and to distinguish its products or services from those of other entities. Never franchise if the brand has not yet been trademarked.

Our Publication was achieved thanks to research and applied experience. We hope we cleared out what is needed to be known about Business Entities.

This article is the intellectual property of H&H , and should under no circumstances be reproduced or copied without their prior consent.