Investing in a franchise business is a lucrative proposition given the security it offers. However, running a franchise involves a lot of recurring expenses besides one-time initial set-up costs such as licensing fees, market differentiation, operational costs and more. For example, if you want to open a McDonald’s franchise, the QSR chain charges a service fee of 4% of all monthly sales from franchisees.
The other important consideration is the alignment between your interests and business concept, etc. Besides, it’s a long-term commitment. As a franchisee you must be prepared and aware that though you would make profits the upkeep of a franchise business is a costly business. More so in a highly competitive market in these times.
So let’s understand why taking a franchise of your favorite fast-food restaurant would require you to maintain a healthy bank balance and enough working capital.
What does it take to run a franchise business successfully?
When it comes to a franchise business, paying a one-time franchise fee is not just enough. The cost to start a franchise business can range drastically from a few thousand bucks to millions. Usually, the average cost is listed by the franchisors on their website. However, there are several other fees and hidden expenses you'll need to pay to the parent company. Let’s take a look at some of the expenses.
Franchise royalties are the fee a franchisor collects from the franchisee every month. It is a percentage of revenue generated by a franchisee and can range from 4% to 12% or sometimes higher depending on the franchise business and the terms of the Franchise Disclosure Document (FDD).
For example: When you purchase a franchise of the world’s second-largest restaurant chain, Kentucky Fried Chicken (KFC), you’ll have to pay an initial franchise fee of around $45000. In addition, you’ll have to pay 4-5% of your monthly gross sales to the franchise as a royalty fee.
When you own a franchise, one of the things that you can capitalize on is the brand identity. Franchisors spend millions of dollars to market and advertise their brand. As a franchisee, you’ll be required to do your bit, too, by paying a certain amount as a monthly marketing fee based on your monthly revenue.
For instance, if you’re generating an average monthly revenue of $25,000 from your franchisee, and the franchisor requires 2% of the monthly revenue for marketing, you’ll have to pay $500 every month for national or local marketing. The world’s largest fast food chain, McDonald’s, charges 4% of the gross sales from franchisees for advertising and other promotional activities to keep their position strong in the market.
When you own a franchisee, the franchisor generally provides necessary training to all the employees to ensure consistency in operations and processes. Therefore, to avoid any complications, you along with at least one other employee are required to attend and complete the training program. While you pay the franchise fee to the franchisor, you’re also responsible to bear travel, living, and other expenses involved in the training program for yourself and your employees who undergo training.
Local area fees and taxes
Whenever you start a business, the local government or state government typically charge a certain amount from you as fees and taxes for using the public right-of-way. This fee involves charges that a business owner needs to pay for establishing a business, acquiring building permits, and getting approvals from the municipalities, local government, or state government.
Rising inflation has impacted almost every industry and franchising is no exception. A report published by the International Franchise Association shows that an estimated 90% of franchisees have experienced a moderate to substantial impact of inflation on their business. From increasing the cost of goods and services to lowering sales, inflation has made it more difficult for franchise owners to run their businesses.
Why do Franchisees today need more money?
The business landscape today is way different from what it was a decade ago. The advent of the internet, evolution of technology, social-media, pandemic, and many such factors have totally transformed the business ecosystem. The challenges entrepreneurs face today are remarkably different from what their predecessors did. Despite easy availability of bank loans and credits, franchisees today require more money to run the show than what franchisees in the 70s or 80s did. What are these challenges? Let’s find out!
Employee attrition is at an all-time high
In recent years, job churn in the United States, be it voluntarily or involuntarily, has seen a significant spike. As of 2021, the national average annual turnover rate in the US was nearly 57.3%. A high-employee turnover means recurring hiring costs, training costs, employee-engagement and activity costs. It really is a vicious cycle. This was not the case in the 70s and the 80s. People did leave jobs back then, however attrition rates were not as high as they are now. Attrition is also a major driving force behind franchise business across the board investing in technology and automation.
Automation and technology require hefty investment
Running a successful franchise requires consistency across locations, streamlined operations, automating repetitive tasks, and more. In short, in today’s environment software and technology is an indispensable part of any successful franchise brand which was not necessarily the case in the good old times. As a result, franchisees today have to bear an additional expense in the form of technology fees.
Subway, an American fast food restaurant franchise, charges each outlet about US$35 monthly as the technology fee from franchisees to cover the cost of digital technology such as mobile applications, online ordering, etc. The company also states an additional norm in the FDD that this fee can be increased at its discretion. Franchisees today have to factor in additional costs to afford and upgrade technology as and when required.
High marketing costs
Recent surveys suggest online ads increase brand awareness by 80%. Not only this, 4 in 5 consumers want online ads customized to their city, area, and zip code. Clearly traditional offline marketing is not enough, businesses today need to have a strong online brand presence as well. With a plethora of options available in the market, it’s imperative that franchisees spend more money on creating brand visibility on a local level to attract, engage, and retain customers. While the franchisor charges a significant percentage of your sales for marketing and advertising, it’s equally important for you as a franchisee to allocate a budget to market your business on a local level.
Summing it up
The modern business ecosystem is way different from what it was a few-decades ago. The franchising business model in itself has undergone a massive change from its humble beginnings in the 1900s. Today, the stakes involved are much higher and the investment one needs to run and own a franchise is remarkably different from what it was a few decades ago.