Chapter 5: Understanding the Hidden Costs of Franchising

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Guidant’s Complete Guide to Buying a Franchise outlines what it means to be a franchise owner. We have broken down the guide into segments to give prospecting franchise owners an understanding of hidden costs, important documents, and the overall journey to franchise ownership. This introduction to the Guide is the first step.

The journey to becoming a business owner is exciting…but can be overwhelming at the same time. There are a variety of options and opportunities available to you – the world is your proverbial business oyster. This guide is designed to familiarize you with what it means to own a franchise, help you decide if being part of a franchise suits your goals and personality and take you through the ins-and-outs of the journey to franchise ownership.

This is the chapter where the type of franchise you want to own may change. Depending on your sources, it's possible that the financial elements of your decisions have been based solely on the franchise fee. This is understandable if the franchise fee is the only financial spend related to that brand — or even if it's just the biggest cost. Unfortunately, the franchise fee is just the tip of the iceburg. Try googling "Chik-fil-A franchise" — you'll see $10,000 advertised. While that may be the franchise fee, it is most definitely not the total cost of opening a franchise. Read on to learn more about the hidden costs of opening a franchise.

The Hidden Costs of Opening a Franchise

Alright, let’s just dive right into this one: there are fees and payments associated with operating a franchise that don’t exist for independent business owners, and some that can be very unexpected. In this chapter, we’ll outline those costs and what you should expect.

Travel Costs

The first expense you’re likely to incur on your franchise journey, other than a franchise consultant or coach, is travel. As we covered in chapter 2, you’ll likely be invited to travel to headquarters for a Discovery Day. Those expenses are on you, though the franchisor may offer to cover some of the bill. Be prepared to take on flight, hotel and food costs for the length of your trip.

This also applies to ongoing training after you’ve signed with the brand, and attending any annual convention your franchisor puts on. These resources can be worth the travel cost – just go in knowing they’re on the horizon. Make sure to keep your receipts as you travel, as you may be able to write off some of these expense to your business. Your CPA will thank you!

The Franchise Fee

The franchise fee, also commonly referred to as the initial fee, is part of your up-front, one-time payment to the franchise when you sign up to become a franchisee. The franchise fee is your ticket in the door – it’s what you’re paying the franchisor in return for the use of their brand, trademarks, products and business model (all the things we covered in chapter 1).  It also typically includes initial training costs and those associated with location development.

All franchise fees are at least $500 by law, but most range from $10,000 to $50,000. They, of course, differ between franchise brands, and even more so between industries. Franchisors are required to disclose this fee in the Franchise Disclosure Document, which we’ll cover at length in chapter 8.

Building & Construction Costs

Now that you’re officially a franchisee, you’ll need to build out your place of business (unless you have a low-overhead franchise without brick-and-mortar locations). The costs associated with this step in the journey can include a real estate agent; zoning and construction fees and red tape; the cost of actual construction; paint, décor, furniture, signage and any other item needed to make your space into an official franchise location. Your franchisor may provide logistical support, but your franchise fee is unlikely to cover most or any of the building costs that you’ll incur before even opening your doors.

Equipment Purchasing

This cost will be much larger for some franchisees than others and covers a wide range of equipment. For office-based franchisees, your business will need computers, keyboards, office chairs, desks…everything that makes an office space usable. A gym franchise, on the other hand, is another beast entirely: free weights, an array of lifting machines, mats, power balls and all of the accoutrements that a gym-goer uses. Often this cost gets lost when talking about franchise fees and legal documents, but certainly isn’t one to ignore when you’re considering which brand fits your budget.

The Royalty Fee

While the franchise fee is a one-time payment, royalty fees typically occur monthly and can be thought of as a membership fee that covers the ongoing support from your franchisor. The most common way royalty fees are assessed is as a percentage of gross sales and, on average, sits somewhere between 5 and 9 percent.  Some brands set a minimum dollar amount, or a percentage that varies depending on levels of sales.

Royalty fees are a typical franchisor’s main source of income. The franchise fee covers the cost of your application, training, initial marketing and advertising, sales commission and general costs incurred by the franchisor’s corporate team in getting you all set up. The royalty fee is the ongoing revenue stream that keeps franchisors afloat, as well as covering the expenses of providing you with ongoing education and support.

Material Sourcing Costs

If your franchise is a products-based company, sourcing materials for the products you sell will be a common cost. For example, an ice-cream shop needs to purchase all of the ingredients for ice-cream on a regular basis. Many franchisors require their franchisees purchase materials from a short list of approved providers. Sometimes, those approved providers are even more expensive than what the franchisee could find on the open market. If the franchise you’re looking into is product-based, be sure to ask your franchisor where those materials are sourced and the associated costs.

As you can see, the costs of researching, buying and operating a franchise location can be extensive and vary widely. Your brand’s Franchise Disclosure Document, coming up next, will help illuminate many of those costs. Another great resource is FranchiseGrade.com, which does an excellent job of collating the franchise fee and additional total investment required to operate that franchise. Current franchisees of the brand are also excellent resources and can help you understand the hidden costs of selecting a given brand.

Upcoming blogs to watch for:

• Understanding the Franchise Disclosure Document (FDD)
• How to Finance Your Franchise Purchase
• Choosing the Right Entity for Your Franchise
• Franchise FAQs