How Does A Franchisor Make Their Money?

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A franchisor isn’t in the business of sharing their products, trademarks, and suppliers to others out of goodwill, they are in the business of making money, but how does a franchisor make their money? The simple answer is through the investment cost and royalties they receive from their franchisees, but this isn’t the real way a franchisor makes money.

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Franchisors Investment Cost

Whilst it’s true the franchisor makes money from their franchisees, the point in which a franchisors investment into a new franchisee breaks even on average is roughly 18-22 months into a new franchise unit. This may have surprised those who believed that the initial fee or investment cost is where a franchisor makes their profit.

The investment cost of a franchise opportunity is there to cover the cost for the franchisor in terms of bringing a new franchisee on board and this will normally include covering a selection of the following:

  • Recruitment Costs
  • Training Fees
  • Additional Website Development
  • Marketing Plan Development
  • Additional Support Systems/Personnel
  • Technology Implementation
  • Document Writing & Consultation
  • Legal Costs

This is the route the majority of franchisors take; however, it is known that some franchisors will use the franchise fee to receive some profits. Whilst this doesn’t necessarily make the franchise unfeasibly, this technique has led to issues in the past where a franchisor simply tries to attract as many franchisees as possible without considering if they will be successful. This means they aren’t concerned if the franchisee makes a profit, they just want to get them onboard. Aspiring franchisees need to consider this when approaching franchisors and this can be measured by asking questions around franchisees success rate and what exactly is covered in the cost for the investment cost.

Franchisors Royalties

The royalties a franchisor receives is the true element in which most franchisors make their money. The royalties a franchisor receives will be defined in the franchise agreement but will normally come in the form of a fixed flat rate or a percentage of gross or profit from the franchisees business unit.

As a franchisor, your ideal position is to achieve a state where your royalties cover all the overheads of the franchise system. To get to this point, you want to receive the maximum amount of royalties possible from each franchisee. This does not mean increase the percentage you receive from their gross or profit. What we mean by this is to increase the amount of gross or profit a franchisee receives. If your franchisees business unit improves then they will produce more gross and profit each month, this, in turn, will increase your royalties.

So, to answer the whole point of this article: a franchisor makes their money by ensuring that their franchisees succeed and in return, a franchisor will receive a larger royalty fee.

How to Maximise Royalties

The first step to maximise the royalties you receive from your franchisees is to hire the ideal franchisees in the first place. Some people are more suited to franchising and your franchise model and it's your job to only hire those that can succeed in your business model. If you get this part right, then every next step becomes exponentially easier.

Assuming you have found the most suitable franchisee, the next step is to try to reduce the time it takes before the franchise unit starts to make money. You can do this by providing a boost at the beginning of the operation to ensure they have the support necessary to hit the ground running. This can take the form of many different tasks, but some typical support can be in the form of:

  • Lending personnel to train employees or operate equipment before the franchisee's employees are ready to take over
  • Providing the best technology and equipment right from the start
  • Travelling to the franchise unit over the first couple of months to address any concerns the franchisee might face at the beginning

The third step is to identify the weaknesses you have in your royalties, these will be your underperforming franchisees. Once you have identified what franchisees are performing poorly you can approach these franchisees to change this. Whilst this isn’t a step, it's important to note, if you want to maximise royalties, you need to be honest and open with your franchisees. If you put off or evade difficult franchisees or concerns, you will quickly find out that they will negatively impact your royalties.

If you own a business and think you can make some money by franchising, then we suggest that you read the following article – Should I Franchise My Business?