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Written by: Carolyn Young
Carolyn Young is a business writer who focuses on entrepreneurial concepts and the business formation. She has over 25 years of experience in business roles, and has authored several entrepreneurship textbooks.
Edited by: David Lepeska
David has been writing and learning about business, finance and globalization for a quarter-century, starting with a small New York consulting firm in the 1990s.
Published on November 12, 2021
Investment range
$18,650 - $83,200
Revenue potential
$575,000 - $1.2 million p.a.
Time to build
3 - 6 months
Profit potential
$200,000 - $475,000 p.a.
Industry trend
Growing
Commitment
Full-time
Here are the most important things to consider when starting your franchise:
Starting a franchise requires time and effort. You will be taking a significant risk, so educating yourself is critical before making the decision to launch your business.
Franchising a business means a business owner (the franchisor) grants permission to individuals or entities (the franchisees) to operate a business using the franchisor’s brand, model, and resources. This arrangement has several key characteristics:
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The four common types of franchises are:
Every business has its pros and cons. You will need to weigh these factors to decide if starting a franchise is your best choice. Here are some basic pros and cons of starting and running a franchise.
Fastfood restaurants represent the franchise market’s largest segment, followed by business services, full-service restaurants, real estate, and commercial and residential services.
Franchising trends include:
Challenges in the franchise industry include:
The startup costs for a franchise range from around $18,000 to $85,000, with the primary expense being the one-time preparation of franchise documents and operations manual. This cost may seem high, but franchise documents are specific and extensive and require significant legal advice and guidance, while the operations manual is a very detailed guide to setting up and running franchises.
Both are crucial to the success of your franchise and must be done right. Keep in mind, these costs will only be incurred once, as the documents and manual will be used every time you sell a franchise.
| Startup Costs | Ballpark Range | Average |
|---|---|---|
| Franchise Disclosure Document (FDD) development legal fees | $15,000 - $45,000 | $30,000 |
| Operations manual development | $0 - $30,000 | $15,000 |
| Start a new business entity name registration and entity formation | $150 - $200 | $175 |
| Financial statement preparation for FDD | $2,500 - $5,000 | $3,750 |
| Trademark and FDD registration per state | $1,000 - $3,000 | $2,000 |
| Total | $18,650 - $83,200 | $50,925 |
Your profit will depend on how many franchises you operate and how much revenue each generates, which means it’s very hard to predict. The franchise fee, which the franchisee pays to you, the owner or franchisor, varies widely depending on the type of business, but generally ranges from $75,000 to $200,000, according to industry advisor Franchising.((https://www.franchising.com/guides/the_cost_of_opening_a_franchise.html)) Monthly royalties paid to you by the franchisee usually range from 4-8% of the franchisee’s revenues.
The franchisor’s costs to launch a new franchise — including training, support, location selection, marketing, and payroll for your franchise development team — should come to about 75% or three-fourths of the franchise fee. So if your franchise fee is $100,000, after expenses your profit will be $25,000, or a 25% margin.
Let’s say you sell five franchises for $100,000 each, and each franchise sees $250,000 in annual revenue and sends you 6% in royalties. You’d receive $15,000 in royalties from each franchisee, or $75,000 in combined annual royalties, and $575,000 in total. Since you’ll keep 25% of the franchise fees after startup costs, your profit will be $125,000 from the franchise fees plus $75,000 in royalties, for a total of $200,000.
As your brand gains popularity, you might be able to sell 10 more franchises, bringing in additional $1 million in franchise fees and $150,000 in royalties. You’d now be receiving total royalties of $225,000. Including the additional $250,000 profit from the sale of the additional 10 franchises, you’d be making a cool $475,000.
The more franchises you sell and the bigger their earnings, the bigger the royalties and total profit.
There are several barriers to entry for a franchise. Your biggest challenges will be:
Franchising can be a lucrative step, but it’s not suitable for every business. Begin by asking yourself: Is your business model successful and can it be replicated? A thriving local business may not always translate into a successful franchise.
The key lies in a proven track record, a strong brand identity, and a business model that can be duplicated across various locations. Ensure that your business processes are standardized and that your brand has a unique selling proposition that stands out in the marketplace.
You need to know that your business is replicable and that there is a big enough market to support your franchise. If you are the business, meaning that the business is dependent on your work, it’s probably not replicable. Replicable means that your business as it exists now has a formula for success that can be followed, and that your brand can expand.
When you find potential franchise buyers, you will need to examine their proposed location for the market feasibility of your business.
You may want to target buyers in areas where you are certain there’s a market, such as places where a market gap exists for your products or services.
Read how John Garretson transformed his military skills into a thriving lawn care franchise empire.
In-depth research is your roadmap to successful franchising. Start by analyzing the franchise market. What are the trends? Who are your direct competitors within the franchising space? This research should encompass the legal and financial aspects of franchising as well, giving you a clear understanding of what it takes to become a franchisor. Look into different franchise models and study the success stories and challenges of existing franchises.
Franchising requires significant financial investment. It’s essential to evaluate all potential costs, including legal fees, marketing, training programs, support systems, and more. Consider the ongoing costs of maintaining a franchise system, which may include regular updates to training and operational manuals, marketing support, and quality control systems.
Franchise fees, which range from $10,000 to more than $5,000,000, will depend on your type of business. You may want to research your industry to learn about its typical franchise fees — both the initial fee and ongoing fees. Royalties are more standard, usually between 4-8%, though they also vary by industry.
Your role as a franchisor will be vastly different from that of a business owner. It involves providing continuous support to your franchisees, ensuring brand consistency, and maintaining quality across all units. Decide on the level of control and support you’ll offer. Will you provide extensive training, marketing assistance, or operational guidance? The success of your franchisees directly impacts your brand, making it crucial to establish a well-thought-out franchisor strategy.
A Franchise Disclosure Document is legally required in many regions. It’s a comprehensive document that provides potential franchisees with essential information about your business. The FDD includes details about your business history, financial statements, litigation history, initial and ongoing costs, and the support you will provide. Preparing an FDD is a complex process that typically requires legal expertise. Ensure your FDD is clear, thorough, and complies with all legal requirements.
The location can make or break a franchise. Guide your franchisees in choosing the right location. This involves market research, understanding the demographics, assessing competition, and evaluating the accessibility and visibility of the site. Provide your franchisees with a set of criteria or a location strategy to help them in selecting the best possible sites for their franchises.
Here are the key components of a business plan:
If you’ve never created a business plan, it can be an intimidating task. You might consider hiring a business plan specialist to create a top-notch business plan for you.
Registering your business is an absolutely crucial step — it’s the prerequisite to paying taxes, raising capital, opening a bank account, and other guideposts on the road to getting a business up and running.
Plus, registration is exciting because it makes the entire process official. Once it’s complete, you’ll have your own business!
Your business location is important because it can affect taxes, legal requirements, and revenue. Most people will register their business in the state where they live, but if you are planning to expand, you might consider looking elsewhere, as some states offer real advantages when it comes to franchising.
If you’re willing to move, you could really maximize your business! Keep in mind, it’s relatively easy to transfer your business to another state.
Business entities come in several varieties, each with its pros and cons. The legal structure you choose for your franchise will shape your taxes, personal liability, and business registration requirements, so choose wisely.
Here are the main options:
We recommend that new business owners choose LLC as it offers liability protection and pass-through taxation while being simpler to form than a corporation. You can form an LLC in as little as five minutes using an online LLC formation service. They will check that your business name is available before filing, submit your articles of organization, and answer any questions you might have.
Choose Your State
The final step before you’re able to pay taxes is getting an Employer Identification Number, or EIN. You can file for your EIN online or by mail or fax: visit the IRS website to learn more. Keep in mind, if you’ve chosen to be a sole proprietorship you can simply use your social security number as your EIN.
Once you have your EIN, you’ll need to choose your tax year. Financially speaking, your business will operate in a calendar year (January–December) or a fiscal year, a 12-month period that can start in any month. This will determine your tax cycle, while your business structure will determine which taxes you’ll pay.
The IRS website also offers a tax-payers checklist, and taxes can be filed online.
It is important to consult an accountant or other professional to help you with your taxes to ensure you are completing them correctly.
Securing financing is your next step and there are plenty of ways to raise capital:
Bank and SBA loans are probably the best option, other than friends and family, for funding a franchise business.
Starting a franchise business requires obtaining a franchise license agreement. It should include the following:
If you feel overwhelmed by this step or don’t know how to begin, it might be a good idea to hire a professional to help you check all the legal boxes.
Before you start making money you’ll need a place to keep it, and that requires opening a bank account.
Keeping your business finances separate from your personal account makes it easy to file taxes and track your company’s income, so it’s worth doing even if you’re running your franchise business as a sole proprietorship. Opening a business bank account is quite simple, and similar to opening a personal one. Most major banks offer accounts tailored for businesses — just inquire at your preferred bank to learn about their rates and features.
Banks vary in terms of offerings, so it’s a good idea to consider your options to choose the best plan that works for you. Once you choose your bank, you’ll need to bring your EIN (or Social Security Number if you decide on a sole proprietorship), articles of incorporation, and any other legal documentation that proves your business is registered.
Business insurance is an area that often gets overlooked yet is vital to your success as an entrepreneur. Insurance protects you from unexpected events that can have a devastating impact on your business.
Here are some types of insurance to consider:
If you’re maintaining a home-based office, your new franchise may not need any new employees. But as your business grows, you will likely need workers to fill various roles. Potential positions for a franchise business would include:
At some point, you may need to hire all of these positions or simply a few, depending on the size and needs of your business. You might also hire multiple workers for a single role or a single worker for multiple roles, again depending on need.
Free-of-charge methods to recruit employees include posting ads on popular platforms such as LinkedIn or Facebook. You can also use free classified sites like Jobs and AngelList. You might also consider a premium recruitment option, such as advertising on Indeed, Glassdoor, or ZipRecruiter. Further, if you have the resources, you could consider hiring a recruitment agency to help you find talent.
Franchising is a great way to expand your business, achieve greater market presence, and further strengthen your brand. You’ll be helping other entrepreneurs start a lucrative business too. Your support for your franchisees does not stop at the launching of their stores. You’ll be expected to provide ongoing assistance, further promote your brand through an aggressive marketing campaign, address supply chain issues, and more.
With adequate preparations, you’re now ready to take your business to the next level. If you do this right, you could easily sell your concept and expand your business to become the next McDonald’s! Good luck!
Costs generally range from $18,000 to $85,000, as you’ll need special documents drafted by an attorney, including an operations manual, which you could create internally to cut costs.
Franchising can be very profitable if you’re successful. You receive fees from the purchase of your franchise and ongoing royalties. Annual profits can be $200,000 to $350,000 or more.
Any successful business with a replicable model can be franchised. It just takes capital and a franchise development team to manage the process.
It is highly recommended that you have an attorney that specializes in franchising to help you. They can help draw up important franchise documents without any gray areas and review other documents during the franchise development process.
Starting a franchise can vary in terms of ease, depending on factors such as the specific franchise system, your level of experience, and your ability to meet the requirements set by the franchisor. Franchises typically provide a proven business model, established brand recognition, training, and ongoing support, which can make the process of starting a franchise easier compared to starting a business from scratch.
Running a franchise can be stressful, as it involves managing various aspects of the business, such as operations, finances, marketing, and personnel. Franchise owners must ensure compliance with franchisor requirements, handle day-to-day operations, maintain customer satisfaction, and address any challenges that arise.
While franchises generally have a higher success rate compared to independent startups, there is still a level of risk involved. It’s important to thoroughly research and evaluate the franchise opportunity, review the franchisor’s track record, and carefully consider factors such as initial investment, ongoing fees, and the market demand for the franchise’s products or services.
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