Franchise fee

From CEOpedia | Management online

Franchise fee consists of various benefits which franchisees must pay to franchisor. A franchise is a contact that guarantees a group members rights to using brand name, company logo, franchisor's business methods and knowledge in exchange for a fee. Franchise agreements usually contains two forms of charges which franchisee is obligated to pay franchisor: the initial franchise fee and the recurring royalty payments (M. Salar and O. Salar 2013, p. 516).

Initial franchise fee

Initial fee or entry franchise fee - one-off payment, transferred to the franchisor at the moment of signing the franchise agreement. In other words, it is a one-time charge which franchisees have to pay franchisors when they become a member of franchising system. The high of initial cost of entry to franchise system usually depends on specific industry. Determination of the entry franchise fee amount can be based on various calculations. Nevertheless, there are some determinants which affects the high of this payment. One of the main factor affecting to this charge is the value of know-how, patents, trademark and the brand recognition by potencial clients. The considerable impact for a franchise fee have also the extent and type of support provided by franchisor and the cost of this support. More to the point, the high of initial franchise fees offering by competitors in the same industry have significant influence during calculation of this payment. Generally, the amount of initial franchise fee should bear the expenses incurred by franchisor during preparation of a new franchising package which usually include training programs, marketing plans, operating methods and assistance with employee recruitment. In fact, however initial franchise fee barely cover all mentioned costs. This is caused by the fact that initial expenses of developing a new franchise business are too high and potencial franchisee could not be able to pay it. If franchisor take into account all incurred initial costs, his offer would be unattractive against the back ground of competitive offerts (P.Krzyżaniak, 2016 p. 44).

Royalty payments

Royalties are a kind of periodically payment (usually monthly) which franchisee have to pay franchisor. Generally royalty payments shall represent a given percentage of sales profits. The amount of this fee typically varies from 3 to 10 percent of gross sales (M. Salar and O. Salar 2013).The royalty payments are compensation for ongoing support provided by franchisor such as technicall support, managerial support, administration, research and development. Usually, this recurring payments are the principal source of income for franchisor. Practically all services provided by franchisor to his franchisee are financed from this fees. As the result, royalty payments should be high enough to cover all those costs and ensure satisfactionary income for franchisor (P.Krzyżaniak, 2016 p. 44).

The initial franchise fee and royalty payments are compensate not only for brand recognition and franchisor's operating methods. Franchisee have also an opportunity to buy needed goods at more favourable prices throughout the franchisor's mass market.Those charges guarantees also others benefits, such as ongoing franchisor's support, advertising and training, marketing plans, managerial and technical support (J. Velentzas and G. Broni 2013).

Advertising and marketing fees

However, in some cases franchisors requires some additional charges except for initial and ongoing payments. Sometimes franchisors treat marketing and advertising fees as a separate charges. Mentioned fees are usually used to fund increasing the brand recognition by advertising and marketings initiatives. Those fees are generally calculated as a percentage of frenchisee gross sales on a monthly basis. The high of this amount commonly depends on scale of marketing acivities and necessary expenditure incurred in order to conduct promtional initiatives (P.Krzyżaniak, 2016 p. 44). It is not a rule that marketing and advertising fees are always considered as separate charges. Everything depends on conditions in agreement. Sometimes franchisors includes all advertising and marketing cost in royalty payments. Entering to a franchising system can be a great way to set-up a business but all mentioned below adventages have a price and commonly it is not a low price.

Examples of Franchise fee

  • Initial Franchise Fee: The initial franchise fee covers the cost of setting up the franchise business. This fee covers the cost of training the franchisee, purchasing equipment, and providing materials needed for a successful franchise.
  • Royalty Fee: The royalty fee is a recurring payment, usually a percentage of the franchisees gross sales, that is paid to the franchisor. This fee is paid in order to compensate the franchisor for the use of their intellectual property, such as the brand name and logo.
  • Advertising Fee: Advertising fees are typically charged to cover the cost of advertising materials and campaigns, such as brochures, flyers, and television or radio spots. Franchisees may also be required to pay a certain portion of their gross sales to the franchisor to cover the cost of advertising.
  • Renewal Fee: A renewal fee is a fee that is charged when the franchise agreement expires and needs to be renewed. The renewal fee can be used to cover the cost of training, updating materials, and providing additional support for the franchise.
  • Technology Fee: Many franchisors require their franchisees to use certain software or technology in order to run their business. Franchisees may be required to pay a technology fee in order to use the franchisors software and technology.

Advantages of Franchise fee

Franchise fee provides many advantages to both the franchisor and franchisee. These advantages include:

  • The franchise fee allows the franchisor to recover the cost of developing and marketing their business concept. Furthermore, it provides a steady source of income for the franchisor.
  • The franchise fee also allows the franchisor to control the quality of the franchise product or service, as well as the reputation of the brand.
  • The franchise fee also allows the franchisee to benefit from the franchisor's expertise and resources. The franchisee has access to the franchisor's knowledge, experience and marketing tools, which can help the franchisee to be successful.
  • The franchise fee also gives the franchisee the right to use the franchisor's trademark, which helps to build brand recognition and loyalty.
  • Finally, the franchise fee allows the franchisee to tap into the franchisor's existing customer base, which can help the franchisee to establish a successful business.

Limitations of Franchise fee

Franchise fees can have several limitations that should be taken into consideration when franchising. These limitations include:

  • The initial franchise fee - the franchisee must pay an initial franchise fee to the franchisor in order to get access to the franchisor's business system, brand, and other resources. This fee can be expensive and can be a barrier for some potential franchisees who may not have the financial resources to pay the fee.
  • Recurring royalty payments - franchisees must also pay ongoing royalty payments to the franchisor. These are usually based on a percentage of gross sales and can be a significant cost to the franchisee.
  • Limited control - franchisees have limited control over the operations of their franchise as the franchisor maintains ultimate control over the brand, product offerings, and other aspects of the business.
  • Limited access to resources - franchisees may not have access to all of the resources that the franchisor has available and may need to purchase additional resources from the franchisor in order to successfully operate their franchise.
  • Restrictive contracts - franchise agreements can be restrictive in nature and can limit the franchisee's ability to expand, modify, or exit the franchise.

Other approaches related to Franchise fee

Franchise fee is an important part of the franchise agreement and a key factor for franchisors when considering new franchisees. Other approaches related to franchise fee include:

  • Franchise deposits - these deposits are a one-time fee that franchisees pay when they sign the franchise agreement. The deposits are usually non-refundable and are used to cover the franchisor’s expenses in setting up the franchise.
  • Advertising fees - these are fees that franchisees pay to the franchisor to cover the costs of advertising and marketing activities.
  • Service fees - these are fees which franchisees pay to the franchisor for services that the franchisor provides such as training, support and legal services.
  • Renewal fees - these are fees that franchisees pay when they renew their franchise agreement.

In summary, franchise fee is an important element of the franchise agreement and there are other approaches related to it such as franchise deposits, advertising fees, service fees and renewal fees.


Franchise fee — recommended articles
Royalty fee — Strategic assets — Direct export — Placement fee — Residual payment — Business format franchising — Product — Amortization of intangible assets — Depreciation vs. amortization

References

Author: Aneta Walczyk

Retrieved from "https://ceopedia.org/index.php?title=Franchise_fee&oldid=92469"