Determining cost of franchise
For many entrepreneurs, business franchising can lead to rapid growth and revenue. Determining the cost with opening a franchise business, however, can be a tricky process. This approach can help streamline the process and prioritize budgeting for the transition.
Total investment in franchise acquisition consists of four main elements. First, the franchise fee, also known as the initial fee paid by franchisees to join the franchise system. This covers a portion of brand value, initial training (additional training is charged), support during startup (pre-launch, launch and post-launch activities), legal fees, assistance in site selection, marketing and promotional materials-signage, stationery, website, intranet etc. Second, the establishment cost-the cost of establishing the outlet, including equipment, furniture, computers, shelving, stock, staffing etc. This varies depending on the size of the outlet and type of business. These are not a revenue source for the franchisor and costs of items should be reflected at the actual price to the franchisee. Third, the working capital, cash needed by franchisees to cover operating costs until revenue generated can cover expenditures. It is important to provide this adequately, otherwise, risk hemorrhaging and stalling the business. Fourth, other costs of items that do not have to be acquired according to franchisor directions. Most franchisors will dictate the quality and source of items needed to run the franchise. But sometimes some small items can be sourced independently, provide for these as well.
There is no ideal formula to determine the cost at which a franchised business can be acquired and the revenue streams needed to make the franchise option a viable proposition for both franchisor and franchisee. The methodology used by franchisors, being the owners of the system, to calculate cost and fees often contribute to this problem. This is because naturally, franchisors are inclined to favor themselves but reality requires a balance to enable franchisees to recover their investments quickly and happily make money for the franchisor. The best option normally is to use the “pilot outlet”, the first owner-operated store, to determine the cost/value of an outlet based on the proven financial viability as well as the efficiency and effectiveness of the system.
Additionally, an objective brand valuation can indicate what the market would pay to acquire your franchise. But a few guidelines are needed to avoid common pitfalls in this approach. First, the costs and fees should be established based on justifiable levels to ensure profitability for the franchisor and the franchisee, not just to ensure they are competitive with other franchisors. Second, focus on ensuring adequate revenue to outperform the competition, not the need to out-sell competitors-where you invest in bigger outlets. This is very key because should franchisees find the engagement untenable on account of your emphasis to outsell rather than outperform (revenue-wise) competition, they will soon give up. Third, do not make unrealistically excessive expansion predictions, for example, opening twenty outlets in the first year. When new to franchising you will make mistakes which you need to correct before your franchise system matures, hence experts recommend a maximum of six outlets in year one.
Underestimating the projected cost of business franchising can quickly place your revenues in quicksand. Do your research early on and contact financial professionals for guidance.
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