Franchising is the practice of using another person's business model. The franchisor grants the independent operator the right to distribute its products, techniques, and trademarks for a percentage of gross monthly sales and a royalty fee. Various tangibles and intangibles such as national or international advertising, training, and other support services are commonly made available by the franchisor. Agreements typically last from five to thirty years, with premature cancellations or terminations of most contracts bearing serious consequences for franchisees.
Franchising has been around for many centuries but did not come to prominence until the 1930s in the United States, when the establishment of electricity, vehicles, and, in the 1950s, the Interstate Highway system helped propel modern franchising, most notably franchise-based food service establishments. According to the International Franchise Association approximately 4% of all businesses in the United States are franchises.
History
Franchising dates back to at least the 1850s; Isaac Singer, who made improvements to an existing model of a sewing machine, wanted to increase the distribution of his sewing machines. His effort, though unsuccessful in the long run, was among the first franchising efforts in the United States. A later example of franchising was John S. Pemberton's successful franchising of Coca-Cola. Early American examples include the telegraph system, which was operated by various railroad companies but controlled by Western Union, and exclusive agreements between automobile manufacturers and operators of local dealerships. Earlier models of product franchising collected royalties or fees on a product basis and not on the gross sales of the business operations of the franchisees.
Modern franchising came to prominence with the rise of franchise-based food service establishments. This trend started in 1921 with A&W Root Beer. Other quick service restaurants followed. White Castle, founded in 1921 in Wichita, Kansas, began franchising in 1923 introducing the hamburger bun and kitchen assembly line that would lead to the hamburger fast food chain concept. Maid-Rite, founded in 1926 in Muscatine, Iowa began franchising elsewhere in Iowa in 1927. In 1932, Howard Deering Johnson teamed up with Reginald Sprague to establish the first modern restaurant franchise based on his successful Quincy, MassachusettsHoward Johnson restaurant founded in the late 1920's. The idea was to let independent operators use the same name, food, supplies, logo and even building design in exchange for a fee.
The growth in franchises picked up steam in the 1930s when such chains as Howard Johnson's started franchising motels. The 1950s saw a boom of franchise chains in conjunction with the development of the U.S. interstate highway system. Fast food restaurants, diners and motel chains exploded. In regard to contemporary franchise chains, McDonald's is arguably the most successful worldwide with more restaurant units than any other franchise network.
According to Franchising in the Economy, 1991-1993, a study done by the University of Louisville, franchising helped to lead America out of its economic downturn at the time. Franchising is a unique business model that has encouraged the growth of franchised chain formula units because the franchisors collect royalties on the gross sales of these units and not on the profits. Conversely, when good jobs are lost in the economy, franchising picks up because potential franchisees are looking to buy jobs and to earn profits from the purchase of franchise rights. The manager of the United States Small Business Administration's Franchise Registry concludes that franchising there is continuing to grow and that franchising is growing in the national economy.
Franchising is a business model used in more than 70 industries and that generates more than $1 trillion in U.S. sales annually.
Businesses for which franchising works best
Businesses for which franchising is said to work best have the following characteristics:
- Businesses with a good track record of profitability .
- Businesses built around a unique or unusual concept .
- Businesses with broad geographic appeal .
- Businesses which are relatively easy to operate .
- Businesses which are relatively inexpensive to operate .
- Businesses which are easily duplicated .
Advantages
For franchisors
Expansion
Franchising is one of the only means available to access venture investment capital without the need to give up control of the operation of the chain in the process. After the brand and formula are carefully designed and properly executed, franchisors are able to sell franchises and expand rapidly across countries and continents using the capital and resources of their franchisees, and can earn profits commensurate with their contribution to those societies while greatly reducing the risk and expense that would be inherent in conventional chain operations
Additionally, the franchisor may choose to leverage the franchisee to build a distribution network.
Legal considerations
The franchisor is relieved of many of the mundane duties necessary to start a new outlet, such as obtaining the necessary licenses and permits. In some jurisdictions, certain permits (especially alcohol licenses) are more easily obtained by locally based, owner-operator type applicants while companies based outside the jurisdiction (and especially if they originate in another country) find it difficult if not impossible to get such licences issued to them directly. For this reason, hotel and restaurant chains that sell alcohol often have no viable option but to franchise if they wish to expand to another state or province.
Additionally, the franchisor is relieved of the obligation to carry liability insurance on the independently owned franchise units that produce the gross sales of the franchised system because this is the obligation and responsibility of the franchisees under the franchise agreement. As long as the franchisor's operational manuals are efficient and followed by the franchisees, the franchisors are generally almost always protected from any liability for any incident that occurs on the property of the franchisee.
Franchisors can sell franchises without making any representations as to success or failure of the units in the written franchise disclosure documents and in the written franchise agreements. Therefore, franchisors are generally protected from lawsuits from their franchisee because of the non-negotiable contracts that require franchisees to acknowledge, in effect, that they are buying the franchise knowing that there is risk, and that they have not been promised success or profits by the franchisor.
Operational considerations
Franchisees are said to have a greater incentive than direct employees to operate their businesses successfully because they have a direct stake in the start up of the branded business and the tangible assets that wear the brand name. The need of franchisors to closely scrutinize the day to day operations of franchisees (compared to directly-owned outlets) is greatly reduced.
Franchisors can maximize their profits on the gross sales of the franchisees and avoid the operational expenses for the physical units that wear their brand names. Franchisors can minimize their risk and thus increase their profits because their franchisees bear the expense of operating the units and the expense of being employers, in compliance with existing city, state, and federal laws.
For franchisees
Employment
Opening a franchise is a way of owning a business.
Quick start
As practiced in retailing, franchising offers franchisees the advantage of starting up a new business quickly based on a proven trademark and formula of doing business, as opposed to having to build a new business and brand from scratch (often in the face of aggressive competition from franchise operators). A well run franchise would offer a turnkey business: from site selection to lease negotiation, training, mentoring and ongoing support as well as statutory requirements and troubleshooting.
Expansion
With the help of the expertise provided by the franchisors, the franchisees may be able to take their franchised businesses to a level which they wouldn't have been able to without the expert guidance of their franchisors.
Training
Franchisors often offer franchisees significant training, which is not available for free to individuals starting their own business. Although training is not always free for franchisees, it is sometimes supported through the traditional franchise fee that the franchisor collects and tailored to the business that is being started. When training fees and travel expenses, etc.. are required beyond the initial franchise fee, these fees are deductible as part of the startup expenses of the business.
Many franchisors nowadays also have an online Corporate University to help franchisees with both initial and ongoing training. An online Corporate University has the advantage of enabling anytime, anywhere learning and is generally made availabl
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