Lesson 2.

Franchising
Learning Outcomes

At the end of the module, students are expected to:

1. Discuss the background information of Franchising

2. Explain the concept of Franchising and how it differs with independent business
3. Determine how to manage and know the different models and costing of
franchising
4. Identify the processes involved in franchising
5. Enumerate the different successful franchising business

INTRODUCTION

Franchising is now considered a sunrise industry

because of the sector’s major contribution to the economy. As a way of doing business,
franchising lessens the risk for a neophyte entrepreneur because he is buying an
established brand and customer-ready base. He does not have to worry about building
the business from scratch. With the spread of franchising concepts nowadays, more and
more people are seeing the wisdom behind going to the franchising route. Yet, being
won over by the concept is only the first step.

What is Franchising?

Franchising originated from the French word Franchir, which means ”for free.” It
is a marketing concept where an innovative method of distributing goods and services.
It is not a business itself but a method of doing business, wherein the franchiser license
trademarks, and tried and proven methods of doing business to a franchisee, in
exchange for a recurring payment, and usually a percentage piece of gross sales and
gross profits, as well as the annual fees. Various tangible and intangibles, such as
national or international advertising, training, and other support services, are commonly
made available by the entity licensing the “chain store” or franchise outlet (commonly
shortened to the one word “franchise”), and may indeed be required by the franchiser,
which generally requires audited books, and may subject the franchisee or the outlet to
periodic and surprise spot checks. Failure of such test typically involves non-renewal or
cancellation of franchise rights.

Franchising is used to describe a number of business models, the most

commonly identified of which is “business format franchising.” There are other models
that are also dependent on franchise relationship. These include the following:
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A. Manufacturer – Retailer Relationship. It is where the retailer as franchisee,
sells the franchiser’s product directly to the public. (e.g. New motor vehicles
dealerships).
B. Manufacturer – Wholesaler Relationship. It is where the franchisee under
license, manufactures, and distributes the franchiser’s product. (e.g. Soft drink bottling
arrangements).
C. Wholesaler – Retailer Relationship. It is where the retailer, as franchisee,
purchase products for retail sale from a franchiser-wholesaler (frequently a Cooperative
of the franchisee retailers) who have formed a wholesaling company through which
they are contractually obliged to purchase (e.g. hardware and automotive product
stores).
D. Retailer – Retailer Relationship. It is where the franchiser markets a
service or a product under a common name and standardized system through a
network of franchisees. This is a classic business format franchise.

The first two categories above are often referred to as product under a common
name franchises. These include arrangements in which franchisees are granted the right
to distribute a manufacturer’s product within a specified territory or at a specific
location, generally with the use of the manufacturer’s identifying name or trademark, in
exchange for fees or royalties.

The Business Format Franchise, however, differs from product and trade name
franchises through the use of format, or a comprehensive system for the conduct of the
business, including such elements as business planning, management system, location,
appearance and image, and quality of goods.

Standardization, consistency, and uniformity across all aspects are hallmarks of

the business format franchise.

Business format franchising is today’s fastest growing segment of franchising and

had spread to virtually every sector of the economy in Australia. It has significantly
more franchise system, more outlets, more employees, and more opportunities than
product and trade name franchise.

Business format franchising requires a unique relationship between the

franchiser (the owner of the system) and the franchisee (owner of individual outlet),
which is commonly referred to as a “commercial marriage”.

This ongoing business relationship includes the product, service and trademark,
as well as the entire business concept itself from marketing strategy and plan,
operational standard, systems, and format, to training, quality control, and ongoing
assistance, guidance, and supervision.

Module 5 Lesson 2 Page 12

In short, it provides small business (the franchisee) with the tools of big business
(provided by the franchiser).

It is also a win – win relationship, where the franchiser is able to expand its
market presence without eroding its own capital, and the franchise gains through
access to established business system, for their own commercial advantage.

The “commercial marriage” between franchiser and franchisee is ultimately a

legal relationship, with the full obligation and responsibilities of both parties outlined in
a highly detailed franchise agreement. This commercial contract varies in length and
conditions from one system to the next, such that it would be almost impossible for any
two franchise system to have identical agreements.

By nature of the relationship, the franchise agreement will be imbalanced in

favor of the franchiser, as the franchiser must at all times remain in control over certain
standards critical to the ongoing success of the business format.

The Pros and Cons of Franchise Ownership

PROS CONS

1. Proven Business Model 1. Rules and regulations

2. Market-tested products or services 2. Fees and royalties

3. Brand recognition 3. High start-up costs

4. Territory security

5. Marketing support

6. Training program

7. Operational assistance

8. Built-in support system

* To understand this, log on to https://www.guidantfinancial.com/buying-a-franchise

guide/introduction-to-franchising/

How much does it cost to buy a franchise?

Buying a franchise is a sort of buying an established business. It involves the kind of
business arrangement; however, it is not merely buying a business system and
walking away. The Franchisee is affiliating himself with an on-going business concern
(Franchiser), which the Franchisee takes part in many aspects. The franchiser receives

Module 5 Lesson 2 Page 13

benefits for which the franchisee has to pay some money, and the typical costs or
expenses involves the following:

✓ Initial licensing fees

✓ Security deposits
✓ Building cost for the outlet
✓ Pre-operating expenses
✓ Initial operating capital
The initial fees include payment for the use of the franchiser’s trademarks and
business system, while the building costs include the expenses for leasehold
improvements, equipment, furniture, fixtures, construction management, and design
fees. The pre-operating expenses include the cost of registering the business and
training the franchisee’s employees. The franchisee also sets aside an amount to cover
the branch for the first month or for the first two months.

The continuing franchise fees are paid after signing the franchising agreements
or the franchiser-franchisee relationship. Once the business starts operating, the
franchise begins paying royalty – usually a percentage of the gross sales receipts. The
royalty fees may also be flat fees per period (per month or year), while the franchiser
collects in return for the use of business name, product, support system that goes along
with the franchising business in addition to the fixed royalty charges. Some franchisers
often charge a cooperative advertising royalty. The advertising cost/charge takes care of
the new product and promotional campaign of the franchisers whose immediate
beneficiaries are the franchisees themselves.

The normal business expenses cover all the other costs outside of the fees and
charges shelled out by the franchisee and paid to the franchiser. As the franchise is a
separate business entity by itself and is governed by its own corporate rules and
organizational structure, the normal business expenses are rent, payroll, taxes, product
supplies, business supplies, utilities, and business equipment.

The Rules on Franchising Fees

There are two groups involve in a franchise, the franchiser (the person or
company leasing the rights to business name and system) and the franchisee (the
person who purchase it).

The right to the franchise is sold by the franchiser to the franchisee for an initial
sum of money, often called the up-front entry fee or franchise fee. This money will be
paid once the contract has been signed. The contract (franchise agreement) typically
details the responsibilities of both franchiser and franchisee, and usually for a specific
length of time (typically 7 years). Once the contract expires, it must be renewed. State
laws often have an impact on the option for this renewal.

Module 5 Lesson 2 Page 14

The initial franchise fee does not include anything, except the rights to use the
name and system, and sometimes training, procedures, manuals, and other assistance
like the site selection. It does not include any of the necessary inventories, fixtures,
furniture, and real state.

In addition to the franchise fee, the franchisee must pay the franchiser royalty
fees, or other on-going payments. These payments are usually put into a general
account and use for national and regional promotion for the entire chain.

How do we select the right Franchise?

There are several steps to be followed, begin with the weeding out process.

First of all, think about the work environment you are interested in, and the
requirements to run a business. For example, you like working late (and long) hours,
hiring and managing employees, and dealing with the public. If so, consider the food
service industry. Think long and hard about what “fits” your lifestyle. Involve your
family or any friends and associates you may want to pull into the business. Write down
your objectives. Sometimes, just the act of writing things down helps you more to
clearly identify what you really want.

Once you identified the general category of business you want, visit some of the
franchising website, search on what investment levels you can afford, the type of
business you want, and sometimes, the geographical location. Some even give you the
estimated breakdown of what your total investment will be, as well as the ongoing
royalty and advertisement payments. You can also use a franchising consultant to help
narrow down your choices.

When you get a list put together, begin contacting the franchisers for additional
information. One thing to keep in mind throughout this process is that while you are
shopping for a franchise, those franchises are also out there shopping for franchisees.
You will be interrogated as much as you interrogate them. You both have to agree that
it is a good match in order to proceed.
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Greatest mistake many franchisees make is not reading the

What is a Franchise Agreement?

It is a contract that binds the
franchiser and the franchisee to the franchise
relationship, and indicates the terms and
conditions of the franchise.
The greatest mistake many
franchisees make is not reading the whole
franchise agreement, since it is long and
usually has a minimum of 30 pages. While it
is good to ask a lawyer to review the
contract, the franchisee must first read and
try to understand its contents, and to make
sure he or she is willing to abide by its term.
What should I look for in the Documents?
A. The Site/Location. If you can, visit the site being offered to determine if it fits to
your business plan.
B. The projected financial plan. You must arrive at a projected financial with the site
at hand. Ask the franchiser to help you crunch the numbers. You will need to
know where your customers will be coming from and the projected sales you will
be making from the outlet. Remember that no franchiser never guarantees your
income.
C. The Franchise Agreement. This is the most important document you will need to
study, so take your time. This agreement spells out your obligations to the
franchiser and his obligations to you. It is a suggestion that you read every page
at least three times for at least 10 days. Underline the sections you do not fully
understand, then, get a lawyer who is familiar with franchising to explain them to
you. As soon as you are ready, set a meeting with the franchiser and have him
explain the agreement and its contents. The agreement is a very comprehensive
 documents. Do not sign it unless you are sure about what you are getting into.

Module 5 Lesson 2 Page 16

What questions you may ask to the franchiser and the franchisees?
For the Franchiser:

✓ How long have you been in business?

✓ Where is your first franchise branch?
✓ How much is the total investment?
✓ What does the investment include?
✓ How do I apply for a franchise?
✓ When do I get to see the documents for my review?
✓ What kind of support do I receive when I become a franchisee?
✓ What niche does your company have?
✓ Is it possible to obtain a list and addresses of your franchisees?
✓ How often do you meet with franchisees?

For the Franchisees:

✓ How did you decide on getting this franchise?

✓ How many franchise outlets are you opening?
✓ What kind of support do you get from the franchiser?
✓ Given another chance, will you get the same franchise?
✓ Are you in touch with your fellow franchisees?
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Learning Activities
Test and apply your knowledge. (5 pts. each)

1. What is more effective, franchising or independent business? Why? 2. Discuss

“the greatest mistake many franchisee does is not reading the whole franchise
contract.”
3. Given the chance, what franchising business scheme should you consider? Why?

Exercise 1

Name: ________________________________________ Score: _______________

Course, Year and Section: ________________________ Date: ________________

FILL IN THE BLANK. Fill each blank with the correct answer. Write your answer on
the blank provided.

1. As a way of doing business, franchising lessens the risk for a

_____________________ because he is buying an established brand and
customer-ready base.
2. ______________ is used to describe a number of business models, the most
commonly identified of which is “business format franchising.”

3 & 4. In a Retailer – Retailer Relationship the ______________ markets a service

 or a product under a common name and standardized system through a network
of _________________.

5 to 7. The initial _____________ include payment for the use of the franchiser’s
trademarks and business ______________, while the building ____________
include the expenses for leasehold improvements, equipment, furniture, fixtures,
construction management, and design fees.

8 & 9. Once you identified the ______________ category of business you want, visit
some of the franchising website, search on what ________________ levels you
can afford, the type of business you want, and sometimes, the geographical
location.

10. ____________________ is a contract that binds the franchiser and the

franchisee to the franchise relationship, and indicates the terms and conditions
of the franchise.

Module 5 Lesson 2 Page 18

REFERENCES:

https://www.quora.com/What-are-the-steps-of-becoming-a-franchisee
ASOR, Winefreda B., Ph. D. Entrepreneurship in the Philippine Setting. Rex
Bookstore. 2009.

FAJARDO, Feliciano. R. Entrepreneurship. National Bookstore. 1994.

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