FINANCING YOUR FRANCHISE BUSINESS
(Chapter 9)
Cost of Buying a Franchise
Franchise fees can conveniently be divided into the
initialfranchise fee (upfront fee) and continuing
franchise fee (ongoing fees). In addition, you as the
franchisee are responsible for financing the
establishment of your business, and for providing
working capital. A detailed explanation of these terms
follows:
A. Initial Franchise Fee.
The initial franchise fee, also known as upfront
fee is effectively a joining fee. It grants the
franchisee access to the network and its
intellectual property as well as entitling him to
receive initial training and assistance in all facets
of setting up the business. This fee varies widely
from one industry sector to the next, and even
among different franchisors within the same
industry sector.
Is the upfront fee the same for all franchisees?
No, it varies. It all depends on the industry, the
brand and type of business. In some cases, the
fee even differs among different franchisors within
the same industry sector. It can also sometimes
differ within the same franchise group itself,
where for example, a more lucrative territory is
awarded to a franchisee.
To determine whether you are offered value for
money, consider the following:
 The standing of the network’s brand. There is
usually a correlation between brand recognition
and the time it takes a new franchise outlet to
reach breakeven. It follows that it may be justified
for a well-established network to charge a higher
upfront fee.
 The level of initial assistance you will receive.
Depending on the nature and complexity of the
business sector, this may entail some or all of the
following:
 Initial training in all facets of operating the
business.
 Help with site selection and lease
negotiations.
 Advice regarding the fitting-out of the
premises and the acquisition of initial stock.
 Access to preferential purchasing
arrangements the franchisor has put in place.
 Assistance with staff recruitment and training.
 Preparations for and professional execution of
the grand opening.
 Initial presence of a trouble-shooter. An
inexperienced operator may find it stressful to
cope during the first few days after the
opening. Everything is new, including the
staff, and things are bound to go wrong.
Having someone to lean on can be
invaluable.
B. Continuing Franchise Fee
These can be divided into two, sometimes
three, categories.
1. Management Services Fee
This fee pays primarily for ongoing franchisee
support. It is usually calculated as a
percentage of franchisee’s sales and is
payable either weekly or monthly in arrears.
Fee levels vary from as little as 1% to 7%,
depending on the type of business.
 Many retail type operations, for example
grocery chains, generate huge turnovers
but profit margins are narrow. Charging a
management services fee that is higher
than 1% would jeopardize the viability of
the franchise. In view of the high turnover
volumes, however, 1% enables the
franchisor to provide adequate support to
franchisees and make a fair profit.
 Other businesses, for example home repair
services, generate lower turnovers but
enjoy high mark-ups. In this case, a fee
level of 7% or more may satisfy both
parties.
In any event, the actual percentage figure is
not an indication of value received. You
should rather focus on the following:
 Value for money – Does the level of
ongoing support offered by the franchisor
justify the fee level?
 Affordability – Will the mark-ups you can
achieve in the industry sector allow you to
 pay the fee the franchisor demands and
still make a profit?
Should the franchisor you negotiate with levy
a fixed weekly or monthly fee, caution is
advised. Unless the franchise revolves
around a product the franchisor supplies, the
incentive to provide extensive ongoing
support falls away. It could be a good deal,
but it could also mean that once you are a
member of the network, you will be largely left
to fend for yourself. If this does not alarm you
then why invest in a franchise in the first
place?
2. Marketing Services Fund
Most franchisors levy an additional fee,
generally described as a contribution to the
marketing services fund or advertising fee. It
is intended to pay for national product
advertising and marketing activities.
 The marketing fee should not constitute
income in the franchisor’s hands. It should be
paid into a separate bank account that is
administered by the franchisor. In practice,
forward-looking franchisors spend advertising
fees in consultation with franchisee
representatives and grant them access to the
relevant accounts.
 Fee levels usually range from 0,5-3% of
sales, or a fixed fee may be levied. (In this
instance, levying a fixed fee makes sense
because it provides greater certainty
regarding future cash inflows and facilitates
the planning of marketing campaigns.)
 As spending on marketing activities benefits
every member of the network, it is reasonable
to expect that company-owned units should
contribute at the same rate as franchisees.
 Many franchisors expect franchisees to
supplement national marketing campaigns
with local marketing efforts, at their own
expense.
3. Other fees
 Purchasing Fees – If a franchisor purchases
products in bulk on the network’s behalf and
distributes them to franchisees, a mark-up,
purchasing or handling fee may be charged.
This is acceptable as long as franchisees
enjoy an advantage from having access to
such deals.
 Special Services – Some franchisors offer
services that go beyond normal parameters of
franchisee support. A franchisor could, for
example, offer a comprehensive
administrative service that takes care of
franchisees’ statutory returns and even writes
up their books of account. It is fair and
reasonable for the franchisor to charge for
such services as long as franchisees receive
value for money.
 Possible renewal costs
 Most franchises are granted for a fixed period
of between 5-10 years, with an option in favor
of the franchisee to extend the franchise
agreement for a similar period. Granting of
this option will usually be linked to certain
conditions being fulfilled, some of which will
have financial implications. You need to be
aware of these before you sign the initial
franchise agreement.
 Refurbishing Costs – It is customary for
franchisors to make the renewal of the
franchise agreement conditional upon the
franchisee updating the appearance of the
unit and, if applicable, the production
equipment in use. This is fair and reasonable,
after all, it is the franchisor’s responsibility to
maintain the network’s image, but you need to
make provision for that. Some franchisors are
now charging a monthly refurbishment fee to
help franchisees to save for this event.
 Renewal Fee -Some franchisors charge a
renewal fee. The amount is often similar to
that charged as an upfront fee at the time the
agreement comes up for renewal. You should
establish upfront whether a renewal fee will
be charged. You need to consider this when
you work out the long-term financial viability of
the proposition.
Important Note
 All payments franchisees are obliged to make
should be fully explained in the network’s
disclosure document and must be
incorporated in the franchise agreement.
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