Glossary of franchise terms – What you need to know
Franchise: A franchise is a right granted to an individual or group to market a company’s goods or services within a certain territory or location. There are a number of advantages with belonging to a franchise organization. You will get access and benefit from an already well developed business and marketing system that may include: Corporate image, brand name, trademarks, copyrights, trade secrets and patents. The corporate image and brand awareness of the franchise is already established. Consumers are usually more comfortable turning to a familiar name or company they trust and are aware of. Adhering to the franchisor’s guidelines about business practices and standards will enable you to always provide your customers with quality goods and services.
Franchising: Franchising is a way of doing business that allows you to be in business for yourself, but not by yourself. When you elect to buy into a franchise system you will in return obtain access to the business methods and support such as the right to sell a proven and recognized product or service, to use the franchisor’s business practices, advertising aid and to receive initial training and ongoing support. When you buy a franchise you are also typically buying an exclusive territory in which to do business. In comparison to start your own business from scratch, buying a franchise eliminates some of the initial hard work; there is already a proven business practice in place. This will save you valuable time and costly “trial and errors” since the products, services, and business operations have already been established. There is an already established system in place and a higher likelihood of success. If you follow the system the franchisor has put in place, you should be on your way to running a very successful business in less amount of time than if you do it all on your own.
Franchisor: The parent company that allows individuals to start and run a business using its trademarks, products and processes, usually for a fee.
Franchisee: An individual who purchases the right to operate a business under the franchisor’s name and system.
Franchise fee: Most franchise fees are between $10,000 and $50,000. In some cases, you may see franchise fees less than $20,000. These franchises with lower franchise fees are usually home-based or mobile franchises. The franchise fee usually covers the cost of training, support and site selection. The items or benefits that are included in a franchise fee are different for every company. In some cases, the franchise fee is just an upfront licensing fee for the rights to use the franchise name.
Franchise agreement: The written contract, included in the FDD, which outlines the responsibilities of both the franchisor and the franchisee.
Term of agreement: This spells out the length of time that your franchise agreement is valid–usually anywhere from five to 20 years. At the end of your term, if you are a franchisee in good standing, most franchisors will allow you to renew your agreement.
Franchise Disclosure Document (FDD): All franchisors are required by the U.S. Federal Trade Commission to provide this legal document to prospective franchisees. FDDs are updated annually and consist of 23 sections, called items, which explain the company history, the fees and costs, contractual obligations, unit data and more. Don’t make a move without reviewing it.
Startup cost/initial investment: A thee-month estimate required to open the franchise, outlined in Item 7 of the FDD. This includes the franchise fee, along with other startup expenses such as real estate, equipment, supplies, business licenses and working capital.
Training: The franchisor will provide extensive initial and ongoing training and support in all areas of business.
Registration states: Twelve states require franchisors to register their FDDs with a state agency before they are legally allowed to sell franchises within that state. Find a list at FTC.gov.
Royalty fee: Most franchisors require franchisees to pay a fee on a regular basis (weekly, monthly or yearly). Usually, it’s a percentage of sales; sometimes it’s a flat fee. Most franchisors also require a separate national advertising / local fee to cover advertising costs.
Company-owned units: These are locations that are owned and run by the parent company (the franchisor), rather than by franchisees.
Conversion: Some franchisors offer entrepreneurs the opportunity to convert their existing independent business into a franchise.
In-house financing: Financing offered by the franchisor to franchisees to help with expenses, which can include the initial franchise fee, startup costs, equipment and inventory as well as day-to-day expenses such as payroll.
Third-party financing: Financing provided by a source other than the franchisor or seller. Many franchisors use third party financing.
Owner carry: Term used for financing provided by the seller of an existing business. Terms and interest are negotiable.
Inventory: If you are selling a specific product you must stock up on inventory. Every business is different and has different requirements.
Working Capital: Working capital is in the amount of day-by-day cash available to a business. It is critical that the working capital cover a particular length of time, ranging from a few months to possibly one to three years, until the business has break even cash flow.
Build-Out Costs: Your overall build-out costs associated with a business location. This will include all furniture, fixtures, equipment and signage.
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