Yesterday, the founder of a small retail concept asked me if he should franchise his business. He wasn’t the first business owner to ask this question and he certainly won’t be the last. It’s a very common question and many retail entrepreneurs/executives ask it at some point. Unfortunately, my short answer to this question is not tremendously helpful. It goes something like this -- “It depends.” I told you it wasn't helpful. I'll try to elaborate here to make it more so.
The decision to franchise depends on several factors. A few (but not all) of them include:
The goals of the business
Every decision you make about your business is dependent, first and foremost, on the goals of the business. What are your growth goals? What are your revenue and profit goals? The answer to the franchising question starts here.
If your goal is to grow your business on a national and international level, then franchising may be the right strategy for you. But if you don’t have national goals, if you aim to grow a strong, regional chain of locations, then franchising is definitely not for you. Why?
Because a franchising model is dependent on scale. In other words, you need A LOT of locations to make a franchise model work. As a franchisor, you will make money by collecting franchise fees -- small percentages (4-7%) of each store’s revenues. So, it takes a lot of stores to run a sustainable, profitable operation as a franchisor.
As an example, let’s assume that your current company-owned stores do $500k in annual revenue and that your franchised units will do the same (scary assumption, but for the sake of this discussion, we’ll stick with it). If you collect a 6% franchise fee from each unit, than you would need 33 stores in order to make $1MM in revenue at the corporate level. For big franchised businesses, 33 stores doesn’t seem like much, but for most companies asking themselves the question, “Should we franchise?”, 33 stores is a lot. 33 stores sounds like a lot of work for only $1MM in revenue, doesn't it?
A rule of thumb in franchising says that it takes a couple of hundred stores in order to be profitable at the franchisor level. I think that figure is a bit exaggerated, but it’s not that far off. The point is, you need A LOT of franchise units to build a consistently profitable franchise business.
So, it’s easy to see that a company serious about franchising needs to be sure that their growth goals are in alignment with the requirements of the franchise business model. Franchising is a Go Big or Go Home proposition. If you don’t want to go big, then don’t go franchise.
The type of business you want to run on a daily basis
Businesses thinking of franchising need to understand the differences between running a company-owned operation and a franchised operation. These are two different types of operations with different daily activities and different necessary core competencies.
Company-owned operations need to be good at “DOING.” Company-owned operations actually build, operate and manage stores.
Franchise operations need to excel at “TEACHING and SUPPORTING.” 
Franchisors don’t actually build or manage stores -- the franchisees do. The franchisor is responsible for teaching and supporting their network of franchisees in such a way that will allow them to operate strong, successful, profitable stores.
It is important that entrepreneurs/companies looking at franchising understand these differences. If you decide to franchise your business, you and your team’s daily activities will take a dramatic shift. Instead of operating stores (managing hourly employees, dealing with customers, managing inventory, handling daily cash, maintaining the store, etc), you will be building systems, manuals, training programs, communication programs, marketing plans, etc....and all under the watchful eyes of your franchisees who have invested a lot of money in your ability to deliver a turn-key, profit machine (I know that sounds like an exaggeration -- it’s not). This last point is important. Entrepreneurs that are used making decisions about their business without any questions or resistance will need to think hard about a franchising model. In a franchise system (at least a good franchise system), most major decisions are made in conjunction with the franchisees.
So, if you like operating stores, dealing directly with customers and want to retain the freedom to make hassle-free decisions, then franchising is probably not for your business. On the other hand, if you like the idea of building an organization that is focused on teaching and supporting a network of independent business owners, then franchising may work.
The company’s realistic capital situation
Access to capital is a major factor in the franchising decision. It’s probably the most common reason companies use a franchise model for growth. The problem is that many times, it’s the only factor in a company’s decision. This is dangerous. Don't fall into this trap.
None-the-less, capital is a factor in the decision. It’s true, growth via franchising does not require as much capital as company-owned growth. The franchisees, not the franchisor, bear the cost of building and operating their stores. If a company grows via its own stores, it will have to raise a good deal of capital (or take on a good deal of debt) in order to grow. I’m not saying that raising capital is a bad thing. I’m just saying that company-owned growth will take a lot more capital than franchising.
[**Note--This DOES NOT mean that a company can start franchising without adequate working capital. Too many companies think that franchising is “free.” It is not. At all. If I had a dime for every undercapitalized franchisor out there, I would be writing this blog from my castle in the Bahamas...]
Do you have a franchise-able concept?
In my opinion, this is the most important question than needs answering before a company can even think about franchising. Unfortunately, most times the answer to this question is 'no.' But these companies franchise anyway. I could probably write an entire book about what it takes to achieve a “franchise-able” concept, but I’ll paraphrase here.
Understand that if you start franchising, no longer will your company be selling hotdogs, jewelry, daycare services (or whatever your company-owned stores offer) to consumers. As a franchisor, you will be selling a business format to independent entrepreneurs. I refer to this business format as a “box.”
Imagine that there is a warehouse with rows and rows of large shelving units that go on for as far as the eye can see. Now imagine that these shelves are lined with all kinds of boxes. Big boxes, little boxes, yellow boxes with windows, fuzzy boxes with flashing Vegas lights, boxes shaped like dog bones, etc. Each of these boxes represents a franchise business. The “shoppers” roaming the aisles of this warehouse are potential franchisees. So, when I talk to franchising companies or those thinking about franchising, I always ask them, “What’s in your box?” Hopefully, what is in their box is a franchise-able business.
Here are the things that make up a franchise-able business:
- A product or service that is needed or wanted in almost every national (or international) market
- A product or service that can differentiate against the competition in almost every potential market
- A operation system that is, or can be, easily taught and replicated many times over
- The potential for achieving significant economy-of-scale benefits for the individual unit owners
- A brand that has shown strong resonance with its target customers
- (MOST IMPORTANTLY) A unit-level ROI model that can produce consistent, 25% returns on an annual basis. If stores can’t be consistently profitable at a level that would produce a 25% ROI, than you don’t have a franchise-able business.
Summary
While I could write on this topic for a year and never cover everything, I hope this short summary helps give you a better idea of the things that factor into the decision to franchise a business. I also hope you can see why my answer to the question, “Should I franchise my business?” is, and will always be...Well, it depends.
One Final Note on the Franchising Decision
I would be remiss if I didn’t mention this final point. It’s very important. It's a problem I see a lot...so, for my own vindication, here it is:
Most people think that franchising is an “easy” way to grow a business. I’m actually not sure why people have this perception. Perhaps it’s because franchising has a lower capital requirement versus company-owned growth. Maybe it’s because the franchisees are in charge of managing the day-to-day operations of the stores, taking this “burden” off the entrepreneur. I see many retail entrepreneurs who tire of running store operations, so they look to franchising as an “easy” way to grow the business without having to deal with day-to-day operations. Maybe that’s it.
Regardless of the reasons for this perception, let me be very clear:
Franchising is NOT an easy way to grow a business.
Franchising is A method and A strategy for growing a business, however it is NOT any easier that any other growth method or strategy. In fact, in many ways, it is a harder strategy to execute well.
Bottom-line: Don’t Believe the Hype. The decision to franchise should NEVER be based on the misperception that it is an easy path.
DS
