Franchising Your Small Business - the Fly Speck Part Seven

You Are Going to Need Controls

Here's the set of mechanisms you need to have in place in order to control franchisee behavior:

1. Detailed contracts
2. Reserved termination rights
3. Supply source controls
4. Exclusive dealing requirements
5. Royalty payment ensurement
6. Excess profit provisions to franchisees

This in a nutshell is what your contracts should accomplish:

"To be successful at franchising, you need to write contracts that carefully document the responsibilities and the commitments of your franchsiees, as well as the consequences of failing to uphold these commitments." - Shane

Termination rights spell out that you can in fact terminate the agreement and take back the outlet if one of the franchisees "fails to uphold system standards or fails to follow the policies and procedures as stated in your franchise agreement." - Shane

Additionally, you want to make sure that you provide a list of approved suppliers for cups, utensils, etc. in the franchise and if a certain supply is proprietary to the system (such as KFCs 11 herbs and spices) you want to make sure the source is designated. If it is not proprietary to the system, it is illegal to designate where a franchisee must order supplies from.

Exclusive dealing means that if for example, you own and operate a Baskin Robbins, you can't sell Cold Stone Creamery ice cream in the shop.

As far as royalty payments, franchisees pay royalties based on gross sales - if you leave an opening some will take it and underreport sales to the franshisor in order to get out of royalty payments. The way to circumvent this is to put controls into place - one custard franchise uses special registers that won't allow sales to be erased - and you can audit franchisees and punish them for inaccurate reporting.

Let Them Have Profit!

Bottom line - if you make the franchise profitable for franchisees, they won't necessarily have a reason to cheat. Thus, provide them with excess profits.

Some Terms

You need to set a time limit - "The average term of a franchise contract is ten years, with an eighty-year renewal." - Shane

Back to the 1980s

You want your franchisee to be invested for the long-haul and you want them to have a longer term stake so they have the opportunity to make their money back for improvements, etc but also keep in mind, you don't want a contract to be obnoxiously long so as to create a problem:

"... having long-term contracts can lead your outlets to look dated and stale. In general, franchise agreements call for upgrading at renewal time ... If your business is one in which decor changes often, your outlets can start to look pretty dated if your system has long-term contracts. You've probably seen this as you've traveled around the country. Some older franchise outlets in longer established chains, such as Dairy Queen look like something out of a 1980s move." - Shane

Advertising

One of the key tenents of franchising is to build the brand name nationally. A local advertising push must also be in place but the job of the franchisor is to build the name recognition on the national level. This is done typically through a fund to which franchisees are required to contribute - typically around 3%. You must have this collective advertising bucket to advertise nationally. Franchisees will not pool this money collectively on their own. Set this fee up in your franchising agreement. Typically this rate is a percentage of gross sales.