In this article we will discuss about:- 1. Meaning of Franchising 2. Types of Franchises 3. Franchising goes Internationally 4. Future 5. Advantages [Benefits] 6. Disadvantages.
- Meaning of Franchising
- Types of Franchises
- Franchising goes Internationally
- Future of Franchising
- Advantages of Franchising
- Disadvantages of Franchising
1. Meaning of Franchising:
Franchising is a method of doing business wherein a “franchisor” authorizes proven methods of doing business to a “franchisee” for a fee and a percentage of sales or profits. Various tangibles and intangibles, such as national or international advertising, training, and other support services are commonly made available by the franchisor, and may, indeed, be required by the franchisor, which generally requires audited books, and may subject the franchisee or the outlet to periodic and surprise spot checks. Failure of such tests typically involves nonrenewal or cancellation of franchise rights.
The term “franchising” is used to describe business systems which may or may not fall into the legal definition provided above. For example – a vending machine operator may receive a franchise for a particular kind of vending machine, including a trademark and a royalty, but no method of doing business. This is called “product franchising” or “trade name franchising”.
A franchise agreement will usually specify the given territory. The franchisee retains exclusive control over, as well as the extent to which the franchisee will be supported by the franchisor (e.g., training and marketing campaigns).
The franchisor typically earns royalties on the gross sales of the franchisee. In such cases, franchisees must pay royalties whether or not they are realizing profits from their franchised business.
Cancellations or terminations of franchise agreements before the stipulated period of the contract have serious consequences for franchisees. Franchise agreement terms typically result in a loss of the sunk costs of the first-owner franchisees who build out the branded physical units and who lease the branded name, marks, and business plan from the franchisors if the franchise is cancelled or terminated for any reason before the expiry of the entire term of the contract.
Franchising is a business relationship in which the franchisor (the owner of the business providing the product or service) assigns to independent people (the franchisees) the right to market and distribute the franchisor’s goods or service, and to use the business name for a fixed period of time. The International Franchise Association defines franchising as a ‘continuing relationship in which the franchisor provides a licensed privilege to do business, plus assistance in organising training, merchandising and management in return for a consideration from the franchisee’.
“Franchising” is used to describe a number of business models, the most commonly identified of which is “business format franchising”. But there are other models which are also dependent on franchise relationships.
1. Manufacturer-Retailer — Where the retailer as franchisee sells the franchisor’s product directly to the public, (e.g., New motor vehicle dealerships).
2. Manufacturer-Wholesaler — Where the franchisee under license manufactures and distributes the franchisor’s product (e.g., Soft drink bottling arrangements).
3. Wholesaler-Retailer — Where the retailer as franchisee purchases products for retail sale from a franchisor 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).
4. Retailer-Retailer — Where the franchisor markets a service, or a product, under a common name and standardised system, through a network of franchisees. This is the classic business format franchise.
The first two categories above are often referred to as product and trade 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 a 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.
Standardisation, consistency and uniformity across all aspects are hallmarks of the business format franchise.
Business format franchising is today the fastest-growing segment of franchising and has spread to virtually every sector of the economy in Australia. It has significantly more franchise systems, more outlets, more employees and more opportunities than product and trade name franchises.
Business format franchising requires a unique relationship between the franchisor (the owner of the system) and the franchisee (the owner of the 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 standards, systems and formats, to training, quality control and ongoing assistance, guidance and supervision.
In short, it provides small business (the franchisee) with the tools of big business (provided by the franchisor).
It is also a Win-Win relationship where the franchisor is able to expand its market presence without eroding its own capital and the franchisee gains through access to established business systems, at lower risk, for their own commercial advantage.
The “commercial marriage” between franchisor and franchisee is ultimately a legal relationship, with the full obligations 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 systems to have identical agreements.
By nature of the relationship, the franchise agreement will be imbalanced in favour of the franchisor, as the franchisor must at all times remain in control over certain standards critical to the ongoing success of the business format.
2. Types of Franchises:
There are four major types of franchises:
(i) Business format franchises,
(ii) Product franchises,
(iii) Manufacturing franchises, and
(iv) Business opportunity ventures, according to the Franchise Opportunities Handbook.
(i) Business Format Franchises – Via business format franchises, the most common type, a company expands by supplying independent business owners with an established business, including its name and trademark.
The franchisor company generally assists the independent owners considerably in launching and running their businesses. In return, the business owners pay fees and royalties. The franchisee also often buys supplies from the franchisor. Fast food restaurants are good examples of this type of franchise.
(ii) Product Franchises – With product franchises, manufactures control how retail stores distribute their products. Through this kind of agreement, manufacturers allow retailers to distribute their products and to use their names and trademarks. To obtain these rights, store owners must pay fees or buy a minimum amount of products. Tyre stores, for example, operate under this kind of franchise agreement.
(iii) Manufacturing Franchises – Through manufacturing franchises, a franchisor grants a manufacturer the right to produce and sell goods using its name and trademark. This type of franchise is common among food and beverage companies. For example, soft drink bottlers often obtain franchise rights from soft drink companies to produce, bottle, and distribute soft drinks. The major soft drink companies also sell the supplies to the regional manufacturing franchises.
(iv) Business Opportunity Ventures – Finally, business opportunity ventures involve an independent business owner buying and distributing the products from one company. The company supplies the business owner with clients or accounts and therefore the business owner pays the company a fee in return. Business owners obtain vending machine routes and distributorships, for example – through this type of franchise arrangement.
3. Franchising goes Internationally:
The growth of franchising in the United States has been phenomenal. Not only has it encompassed virtually every aspect of American business, but it has also spread abroad. Canada, in particular, has proven lucrative for American franchisors. In fact, it has the second highest number of franchise outlets in the world. That is due primarily to the common language and similar culture that the two countries share. Canada is by no means the only target of U.S. franchisors.
American companies are expanding their operations into countries as diverse as the Dominican Republic, Saudi Arabia, and Japan. Ironically, Japan, even though it is culturally dissimilar from the United States, and represents a prolific market for American franchisors.
Currently, franchises account for only about four percent of all retail sales in Japan. However, some American franchisors such as 7-Eleven, Inc. have made large inroads. In fact, a Japanese company, Ito-Yokado Ltd., controls U.S.-based 7-Eleven, Inc. (formerly Southland Corp.), which is the franchisor and owner of the 7-Eleven trademark worldwide.
McDonald’s and Toys ‘R’ us run a joint venture in Japan. Certainly, not every American franchisor can function well there. For example – Gymboree, which franchises developmental programs for pre-schoolers and their parents, had to turn down Japanese investors due to a lack of space in which to erect equipment.
Another problem American franchisors faced in Japan was the working conditions. The concept of part-time work puzzled the Japanese. They are accustomed to lifelong, full-time employment for which workers receive adequate wages. So, when Kentucky Fried Chicken entered the Japanese market, it had to change its wage policy and upgrade working conditions. Otherwise, the company would not have survived. Other companies have faced similar problems in Japan and elsewhere, but they have overcome them, survived, and grown.
Occasional setbacks aside, American franchisors are moving ahead aggressively to gain a toehold in other countries. Century 21, for example, has established franchises in Canada, France, Japan, and the United Kingdom. Jani-King International, Inc., a commercial janitorial company, has operations in Canada, Japan, Australia, and the United Kingdom. Hardee’s Food Systems has outlets in Costa Rica, the Netherlands Antilles, Singapore, Korea, Japan, Thailand, and Hong Kong. There is apparently no geographical limit to where franchisors can—or will—go.
Based on the success that the companies have enjoyed since the franchising boom began in the 1950s, the future of franchising is positive. The U.S. Department of Commerce predicts that slower population growth, population shifts to new metropolitan areas, and the introduction of new technology will create new opportunities for franchises. Mergers and acquisitions will increase as larger franchisors take over smaller ones. Schools and universities are adding franchising studies to their business curricula.
These factors, combined with the low rate of franchise failure, stability in the industry, and a considerable return on everybody’s investment, have made franchising a major force in the American economy to this point. Some of the emerging franchise businesses expected to drive the growth of franchising tend to offer customers added convenience, such as to-the-door services offering everything from dry cleaning and pet care to window coverings and furniture repair, according to Nation’s Business. In addition, Nation’s Business reported that other franchise trends of the future will include education and training businesses, second-hand merchandise stores, office support services, and health service providers.
5. Advantages of Franchising:
(i) Access to quality training and ongoing support;
(ii) Established concept with reduced risk of failure;
(iii) Access to extensive advertising;
(iv) Access to lower cost and possibly centralised buying;
(v) Few start-up problems;
(vi) Possibly easier to finance; and
(vii) Use of well-known trademark or trade name.
6. Disadvantages of Franchising:
(i) Costs of supplies or materials may be more expensive;
(ii) Possible exaggeration of franchisor advantages;
(iii) Franchisor may saturate franchisee territory;
(iv) Cost of franchise and other fees may reduce franchisee profit margins;
(v) Termination policies of franchisors may allow little security;
(vi) Onerous reporting requirements; and
(vii) Inflexibility due to restrictions imposed by franchisor.