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Franchise
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A look at the advantages and disadvantages as operating as a franchise and a franchisor.
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FranchiseFranchisee: A franchisee is an individual who purchases the rights to use a company’s trademarked name and
business model to do business. The franchisee purchases a franchise from the franchisor. The franchisee must
follow certain rules and guidelines already established by the franchisor, and in most cases the franchisee must
pay an ongoing franchise royalty fee to the franchisor.
Advantages Disadvantages
Established Brand: Working under a well-known brand name, Initial and on-going fees: In most franchise agreement the franchisors normally
such as Burger King or Subway, has obvious benefits for charge new franchisees a lump sum to start up a business using their brand name.
franchisees. There is increased security for the franchisee These charges vary; depending on the franchise with the average fee being
since they are using a tried and tested format and selling a approximately £45,000. However the fee for large organisations, such as McDonald's,
well known brand. They will also not have to worry about can vary between £150,000 and £1,000,000. Also most business format franchisors
generating publicity to raise the profile of their business since also take a regular slice of the franchisee's income as royalty payments. These
customers will already know what to expect from a big chain. payments are typically based on turnover rather than profit and therefore have a
have a huge impact on firms which are operating on tight profit margins.
Defined Territory: An integral part of any franchise agreement Loss of autonomy: Most franchisors insist that franchisees organise their business in a
is the sole right to sell the product in a defined geographical particular way, and each franchisee is given detailed training and guidelines on how
area. This means franchisees will not have to worry about the business should be run. In the most popular franchisees these guidelines cover
other franchisees eating into their market share. everything from store layout to employment policy. Some franchisees may find these
guidelines restricting and may feel more like a manager than an entrepreneur.
Training and Support: Although the level of assistance varies Interdependency: One major problem with operating a franchise is that the actions
between franchises, most business format franchises offer an and decisions of other people can adversely affect your business. For instance, a
extensive programme of training and support which is particular franchisee who operates highly successful outlet may find that his business
designed to turn untrained franchisees into competent suffers because of the poor business decisions of the original franchisor or other
managers capable of operating a successful business. This franchisees. The actions of one bad franchisee could drag down the name of the
support typically includes financial assistance, help in finding whole business and therefore affect the profits of all franchisees.
and retaining customers and organising large scale advertising
and marketing campaigns.
Access to Funds: Compared to starting your own business, the At the end of the franchise term, the franchisor is not obliged to renew the franchise,
financial burden of opening a franchise is quite light since the in which case the business and its goodwill revert to the franchisor. Thus at the end
franchisor or will generally assist the franchisee with the costs you could lose your business that you have work hard at for an extended period of
of starting up. In additions, because franchising is regarded as time.
a relatively low-risk option, banks are generally willing to lend
substantial amounts of money to franchisees safe in the
knowledge that they are likely to get their money back.
Franchisor: The franchisor owns the overall rights and trademarks of the company and allows its franchisees to use these
rights and trademarks to do business. The franchisor usually charges the franchisee an upfront franchise fee for the rights
to do business under the franchise name. In addition, the franchisor usually collects an ongoing franchise royalty fee from
the franchisee.
Advantages Disadvantages
Increased opportunities for growth: Franchising the Loss of Control: When a business franchises its operations it hands over control of the day-to-
business out to others allows the company to grow much day running of each separate unit to the franchisee. This reduces to amount of control the
more rapidly than would be the case if the firm tried to original owner has over the business name and reputation. If one franchisee acts in an
grow organically. The rapid growth should enable the unbefitting manner, the good name and reputation of the business could suffer, resulting in a
company to benefit from economies of scale reducing the decline in profits.
unit costs and increasing profitability.
Increased Profits: The profits should increase with each Diseconomies of Scale: Is the term used to describe the problems that large firms face as a
franchise agreement since the franchisor receives an result of their size, which result in an increase in average costs. When firms grow quickly they
upfront fee plus royalties based on the profits or sales of can experience problems which result in a loss of efficiency and therefore competitiveness.
the franchisee. These problems, which typically arise as a result of trying to manage a too-large organisation,
are known as diseconomies of scale. If a franchise grows to large to quickly it may experience
these diseconomies of scale, which may in turn lead to the business becoming less competitive.
Less Administration: Having a large franchised operation will Brand Dilution or Destruction. One franchisee can single-handedly hurt an established brand
reduce the management and administrative duties of the through irresponsible management. Depending on the nature of a franchise, a negligent or
original firm since each individual franchise will be owned irresponsible act in one market can have repercussions in other markets where a franchisor has
and managed by the franchisee. a presence. Imagine the implications on a fast food franchise like KFC if a franchisee were
found to have served dead vultures and passed them off as chicken.
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