Taking on a franchise is a way of starting your business while cashing in on an established brand. What should you think about when looking for one?

What exactly is a franchise?

The essence of a franchise is that an original party (the franchisor) establishes a business. That business becomes popular and other people then want to copy it. The franchisor can therefore grant permission to another person, the franchisee, to trade under the brand name of the franchisor. The franchisee puts up his own money, takes a lease on a property himself and, in effect, runs his own business.

Give me an example…

A couple open up a restaurant in a large town. This is successful and the public like it. The food is of a high quality, the atmosphere is lively and the décor has a distinct style. The couple want to expand because they can see that establishing restaurants in other similar towns with the same food, atmosphere and style would make the business even more successful. There are, though, a number of financial risks and this could hold them back.

If the couple do not want to employ managers to run the separate restaurants, they could think of allowing other people to invest in the "idea" and run a similar sort of restaurant under a franchise agreement, i.e. if the operators of the new restaurant are risking their own money they might prove more successful than a manager. By granting franchises of an idea to others, the couple could maintain control of the new restaurant chain, but not be subject to the financial risks involved.

Well-known catering franchisors include McDonald’s, Domino’s Pizza, Pizza Hut, O’Brien's Irish Sandwich Bars and Spud U Like.

So what’s in it for everybody?

There are a number of advantages and disadvantages:

Advantages

• The franchisors benefit because they can extend their successful business without having to find the money or bear the risk. They can usually hope for a high level of performance and profitability because people are investing their own money. The franchisors will face less liability to customers and staff if the venture goes wrong. The franchisors will take a percentage of the profit subject to a minimum fee.
  
• The person who takes the franchise (the franchisee) benefits because:

1. He can use an already established product or business without having to start afresh with a new idea. The restaurant concept may well be already established, tested in the market and well-known to customers.
2. Since the franchisors will have experience in setting up and running the business, the franchisee can benefit from that experience. He can use the same sort of equipment and the same production methods in order to emulate the original business.
3. If the business is well-established and successful, it is more likely that a bank or another type of investor will provide finance.

Disadvantages

• The franchisor may want to maintain more control than the franchise agreement allows. If the franchised business goes wrong in one town, as a result of failure by a particular franchisee, it may affect the whole of the franchise business.
  
• The franchisee may have to follow the format of the original business very closely, and as a result, creative input may be limited.
  
• If the franchisee does better than the original business, the goodwill and success that he creates will all go to the original franchisor, who owns all the rights to the name and to the products. If the franchisee is so successful and wants to expand, this will also be controlled by the franchisor.

In practice, many shops, restaurants and other outlets are franchised and run using an established idea, but the creation of a franchise is not a simple process. The franchisor and the franchisee do have competing interests although, broadly-speaking, both want to be successful and make money. It is imperative, therefore, that both parties obtain expert advice from the start. Often, when a brand is well known, the franchisor has the stronger hand and the terms of the franchise agreement can be onerous.

How does the franchise deal work in terms of the property I want to buy?

When it comes to franchise operations in the hotel and catering industry, the agreement regarding the business property is of paramount importance.

Although the franchisees will take on the lease, there are many occasions where the franchisor can and will take on the head lease. In other words. The freeholder or landlord will lease the property to the franchisor, who will then sub-let it to the franchisee.

This minimises the franchisor’s risk if, for example, the franchisee leaves suddenly. The franchisor can then bring in another franchisee with minimal trouble or expense.

What should I be thinking about when considering taking on a franchise?

• Ensure you view similar properties within the franchise, particularly comparing quality and the size of premises you may require
  
• If the franchisor is the landlord – as is common – establish whether the franchisor is charging more rent to you than he is paying to the freeholder, i.e. making a profit on the rent. This isn’t uncommon. If he is, find out how much and whether it is reasonable. For example, 5%-10% more isn’t too bad, but 30%-40% should be questioned.
  
• With high-profile properties in particular, such as a fast-food operation, where the property is leased and the lease requires that all repairs must be done by the franchisee, make sure you have a full structural survey undertaken by an independent and accredited surveyor before signing the lease agreement.
  
• Try to negotiate rate clauses in the lease that coincide with the terms of the franchise agreement itself. For example, if you sign a five-year franchise agreement, your lease should also be for five years if at all possible. If the lease is for a longer period, try to negotiate clauses where you can break the lease or the franchise agreement under certain circumstances.
  
• Establish the conversion and refurbishment costs of the property, installation of fixtures and fittings and particularly equipment such as ovens and deep-fat fryers. Check whether the franchisor or franchisee will be responsible for carrying out the refurbishment. Try to ensure competitive quotes and clearly establish who will be responsible for managing the refurbishment project.
  
• Find out whether the franchisor will have the option to occupy the leased premises if your franchise agreement is terminated for any reason. On termination, it is likely that the franchisee will be prohibited from continuing to offer the competitive products or services from the premises.

Produced by CatererSearch with the help of the British Franchise Association and Paisner & Co