CHAPTER 2

FRANCHISES COME IN DIFFERENT

SIZES
 GETTING STARTED WITH A SINGLE FRANCHISE

Many people naturally begin their exploration of franchising by first looking at the restaurant and
food-related franchises because they seem to be on every corner. Without a doubt, food franchises
have made many franchisees happy and wealthy (they were probably already wise, so franchising
cannot take credit for that).
 WHERE TO START: IT’S TWO IN THE MORNING AND
YOU CAN’T SLEEP

We have all been there. The career we trained for in school and the
job we thought was the one we would have until we retired are under
challenge because of the economy and/or technology. Maybe your
company is moving out of state, or you’re simply bored and it’s just time
to change direction. Beginning to work for yourself and achieve what
some call, the Great American Dream of independent business
ownership might be something to consider.
 SIFTING THROUGH THE OPTIONS

As we mentioned, over 120 industries use franchising, but to make your

review a bit easier, here are the broad lines of business categories:
» Automotive » Business services » Commercial and Residential services
» Lodging » Personal services » Quick service restaurants » Real
estate» Retail food » Retail products and services » Table/full-service
restaurants
As you begin your exploration you will find within each line of business
a long list of franchise opportunities in a variety of industries.
Unfortunately, there is no universally adopted classification system in
franchising, and each source guide will use different industry and
business classifications. That can make things confusing, because you
may think that companies within a given category are similar, but that’s
not always true.
In a similar fashion, franchises within the fitness and gym industry range
from traditional gyms to specialty fitness centers with a focus on a
specific type of workout (such as Pilates, Zumba, barre, cycling, or
boxing) and some are open 24 hours a day. There are concepts that
offer memberships only to women and there are still others that offer
ancillary services, such as nutrition consulting, massage, or tanning
services.
 ADDING FRANCHISES, ONE AT A TIME

The number of franchisors, the variety of industries represented in

franchising, and the range of investments available create opportunities
for the smallest single-unit mom-and-pop operator to a large
multimillion-dollar investor group or established businesses that are
looking to add a franchise investment to its portfolio.
 FLYING SOLO: SINGLE-UNIT FRANCHISES

A single-unit or direct-unit franchise is just what it says it is: as a

franchisee, you obtain the right to own and operate one franchised
business from a franchisor.
. In a single-unit franchise, the franchisee (often along with family
members) generally manages and supervises the business on a day-to-
day basis. It is how their family makes a living.
Although a single-unit franchise is the classic method for franchise
system growth, it does have some weaknesses for franchisors:
» Franchisors generally experience slower growth with a single-unit
strategy than with a multi-unit approach, and the growth can be more
costly on a unit basis because franchisors have to locate a new
franchisee for each location.
» The franchisor has many franchisees to work with, and those
franchisees may be less sophisticated and less interested in taking
business risks than larger, multi-unit franchisees.
» Because each location is individually owned and operated, single-unit
franchises tend to be more expensive to support than when one
franchisee owns and operates multiple locations. » In some markets that
may be attractive to a multi-unit franchisee, the presence of single-unit
franchisees in the market may make the opportunity less attractive to
multi-unit operators who don’t want to compete for customers or
locations.
Figure 2-1 displays the single-unit franchise relationship
tree.
FRANCHISOR

Figure 2-1: the single-unit

franchisee family tree.
Single – Unit Franchisee
© John wiley & sons, inc.
Growing a family one franchise at a time
As single-unit franchisees prosper (see the preceding section), eventually they will
want to acquire another franchise from the same franchisor. After all, they have an
understanding of the business, have a relationship with the franchisor, can project
the return that an additional unit can generate, and know the types of locations that
work best. Initial training likely won’t be needed, and some of the key employees
they already have may be perfect managers in their second and third locations.
 DEVELOPING A TERRITORY ON YOUR OWN

» You may have to share the market with other franchisees from the
system. And by the time you’re ready to grow, the best locations for
your brand may have been taken by other franchisees, or worse, the
franchisor may have achieved critical mass in your market and is no
longer offering additional opportunities where you want to grow.
» Even if the franchisor is offering a better “deal” to multi-unit
developers, it may not be offering that same deal to single-unit
franchisees, and you likely won’t have the necessary leverage you need
to negotiate the changes you want.
A multi-unit development relationship can have significant advantages
for both the franchisor and the multi-unit franchisee.
For the franchisor:
» Each multi-unit franchisee will be opening more than one location.
That means the cost of acquiring a franchise on a per-unit basis will be
lower than had the franchisor needed to find separate franchisees for
each location.
» Fewer franchisees owning multiple locations means that the cost of
supporting each location may be lower because the franchisor will be
working with the franchisee’s general manager for all the locations and
may not work with separate unit managers for each location.
» Having controlled growth leads to better planning for advertising and
better leveraging when negotiating with suppliers and other vendors.
» With fewer franchisees in a market, it is easier to coordinate local
advertising and promotions.
For the multi-unit developer:
» you gain the ability to shift personnel from one location to another
depending on where the staff is needed.
» You may be able to establish a commissary or kitchen and combine
the preparation of products for all the locations or save on freight and
other costs by buying in greater quantities at a lower cost and storing
inventory in a centralized warehouse, allowing for smaller retail
locations and lower real estate costs.
» General managers overseeing multiple locations may reduce
management costs at each location. Franchisees may only need an
assistant manager, and with consolidated back-of-house support staff,
including a trainer, internal costs on a unit basis can be reduced.
 Figure 2-2 depicts the multi-unit franchisee-franchisor relationship.

Franchisor

Development Single-Unit
Agreement Franchisee

Developer Franchisee
FIGURE 2-2: The multi-unit franchisee family tree. © John Wiley & Sons, Inc
 BECOMING A MASTER FRANCHISEE

When you become a master franchisee, you become a franchisor in an

area and are authorized to offer subfranchises through your master
franchise license. As with any franchisor, your master franchisor will
prepare and provide to prospective franchisees its own FDD and
agreements that will contain information about you and your services.
In most master franchise relationships, the first thing you will likely be
required to do is open and operate a few locations of your own. Once
that has been accomplished, you will then be allowed to offer franchise
rights to other franchisees (called subfranchises) to open and operate
franchises in your market.
You will sign a master franchise agreement with the franchisor and
usually pay a master franchise fee. Because your subfranchisees pay
you their initial franchise fees and continuing royalty, typically you
share a portion with your franchisor. The percentage split will vary
widely depending on the franchise system. There is no standard master
franchise relationship:
» The subfranchisee may execute a franchise agreement directly with
the franchisor or with the master franchisee.
» The franchisor may or may not have the right to approve the new
subfranchisee.
» The subfranchisee may receive training and continuing support from
the franchisor, the master franchisee, or both.
» The subfranchisee may pay fees directly to the master franchisee, to
the franchisor, or a combination of both.
 FRANCHISOR
MASTER FRANCHISEE AGREEMENT

MASTER FRANCHISEE

SUBFRANCHISEE
FIGURE 2-3: THE MASTER FRANCHISEE FAMILY TREE.
 THE AREA REP: MASTER FRANCHISE LITE
• Figure 2-4 displays the typical area representative relationship.
Franchisor

Area Single-or
Representative Multi-Unit
Agreement Agreement
Area Representative

Solicitation and
Support
FIGURE 2-4: The
area Single-Unit or Multi-Unit Franchisees
representative
family tree. © John Wiley & Sons, Inc.
SHARING RISKS AND REWARDS IN A JOINT VENTURE

In a simple joint-venture relationship found in franchising, the franchisor

identifies a strong operator as its joint-venture partner. The franchisee
and the franchisor (the franchisor usually establishes a subsidiary or
separate entity for this purpose) form a joint-venture entity, and that
entity signs a franchise agreement with the franchisor.
The franchisee participant operates the franchise for the joint venture
and earns a separate fee for doing so. The franchise agreement is a
standard agreement, and generally the fees and obligations are the
same as with any other franchisee.
The joint-venture agreement will also define the rights and obligations
of each party as you would find in any partnership agreement.
 COUNCILS, ASSOCIATIONS, COOPERATIVES,
AND BUYING GROUPS
• Most modern franchise systems will establish at some point a
franchisee advisory council (FAC). Whether elected by the franchisees
in the system or appointed by the franchisor, the purpose of the FAC is
to be a sounding board for the franchisor. Although the FAC doesn’t
have any decision-making powers, it’s an important part of most
franchisors’ processes for evaluating changes to the system,
recommending improvements to the system, and testing new ideas by
obtaining the input of operating franchisees.
 BUYING FRANCHISOR-OWNED LOCATIONS

• Franchisors have many reasons for wanting to sell company-owned

locations:
» they may no longer fit the franchisor’s strategic plan.
» The franchisor may want to consolidate the number of markets or
number of locations it directly operates. » The franchisor wants to
stimulate the development of additional units in a market, and
providing franchisees with cash flow from established units is part of
that strategy.
» The franchisor may simply need the proceeds from the sale. In some
situations, franchisees are just better at operating locations than the
franchisor, and the franchisor is selling locations simply because it
believes the locations work better under the control of a franchisee than
under the franchisor’s own personnel.
• Acquiring an existing location from another franchisee or from the
franchisor has many advantages:
• » it shortens the time to get the business up and running because you
don’t have to find the location or work through constructing and
equipping the business — and it already may have a trained staff
and management team.
• » Bank financing may be easier because the business exists.
• » The seller may offer seller financing, and a motivated seller might
be willing to cut you a good deal.
» You are buying a business that currently is operating, has existing
customers and an established cash flow, and you know the performance
of the operating business. Your investment decision is based on current
operations and not on projections.
» If the location is being sold by the franchisor, it can share with you the
financials for the location, even if it doesn’t include an item 19 financial
performance representation in the FDD (see chapter 6).
 CONVERSION AND NONTRADITIONAL FRANCHISES
• A less common alternative to the traditional franchise relationship is a
conversion franchise, in which an independent operator, in the same
business as the franchise system, converts its operation substantially to
the franchise system. For example, an operator of a local pizza
restaurant completes remodeling and modification of its menu to
operate as a pie five pizza under a franchise agreement. In a
conversion franchise, the new franchisee may execute a franchise
agreement that has some material differences from the franchisor’s
standard agreement, including fees and a transition plan to convert
their existing business over to the franchise system’s retail offering.