Franchising is a familiar business model and a very lucrative one. Franchises operate in many different industries; fast food, groceries, entertainment, courier services, professional services and many more. There are of course different levels in the franchise agreement and how it works but it’s certain that franchising is a great business model. Many millionaires have become so off franchise businesses. Well and good for the franchisees but how do the franchises make money?
The franchise relationship allows those with money or perhaps established businesses leverage the goodwill and brand of an established network of a (most times) known business for their operations. This has has many clear and obvious advantages for the franchisee; a recognizable brand, an established management system, quality suppliers and taking advantage of advertising. Let’s look at what’s in it for the franchiser.
Franchise royalty fee
In order to be part of the franchise, franchisees pay a membership fee of sorts. Known as a franchise or royalty fee this is paid in order to have access to the franchise’s name,image, branding and in some arrangements the intellectual property. The best way to understand this is through the hospitality industry. Hotels are usually subject to complex arrangements where the hotel has separation of ownership, management and franchise. Names such as Crowne Plaza, Southern Sun, Sheraton and so forth are franchises which the hotel management pays for the use of their name and brand.
Franchise arrangements come with the instructions on how to run the business including training for the staff and management on how to run the business. This is usually paid for distinct from the franchise royalty. Both the franchise royalty fee and the management fees are subscription fees paid contractually.
Franchises have national or international reach and they tend to have a powerful footprint that has been invested in over time. An example we can relate to is DHL. DHL has an international network and has invested a lot into their brand and image. DHL partners (franchisees) benefit from this. They pay a fee towards advertising on a monthly or annual basis to the franchiser. While this is not really a cash cow for the franchiser it’s important to note that the cost of advertising say on radio, TV or the internet is not increased by the number of outlets the franchise has in a territory. Therefore it’s foreseeable that advertising contributions from franchisees can exceed advertising spend.
Supply of materials
Fast food franchises are particularly subject to supply chain relationships included in the franchise arrangement. Simply put establishments like KFC while being owned by individuals buy all inputs and ingredients from the franchiser. In fact they are contractually bound and cannot buy any inputs from external sources.. This varies from franchise relationship to relationship and some may allow relaxation of terms. However there’s a fair bit of money to be made by the franchiser off having a guaranteed customer.
All these methods of earning money for franchisers may be small fees individually but we must consider the number outlets involved. As of 2018 KFC had an impressive 23000 outlets in 118 countries each contributing towards its bottom line. And if you think that’s impressive consider Mc Donald’s 33000 outlets worldwide. They are the worlds most popular franchise by revenue with US$89 billion while 7-eleven boasts the highest number of franchise locations at an amazing 55000 worldwide. It’s clear to see that franchising is big business.