Franchising is an easier way to start your own business than launching a startup. When you buy a franchise, you essentially become a co-owner of an established brand with streamlined business processes. Such a business investment has a good chance of paying off quickly.
There are two participants in this model: the franchisor and the franchisee. The former is the owner of the brand and can be either a legal entity or an individual.
Accordingly, the latter is the buyer of the franchise, who pays the franchisor for the use of the trademark, and, if necessary, the company’s software and operating system.
Franchising is a mutually beneficial relationship for all participants in a business model.
Here are the advantages for the franchisor:
- Opportunity to expand the brand by investing in it;
- The scaling of the business and full control over all processes;
- Stable growth of the company’s income;
- Reduction of operating costs.
Of course, franchising is extremely beneficial primarily to the franchisee:
- No need to create a business “from scratch” (you get a well-known brand and already established business processes);
- Organized customer base;
- Well-established management;
- Technology for the production of goods or services;
- Developed marketing and advertising strategy;
- Assistance in choosing a suitable location;
- Minimum time to start a business.
Before buying a franchise of any brand, it is worth examining the possible disadvantages of franchise strategy:
- The business owner determines the strategy and goals of the business, i.e., there is no independence in making management decisions;
- High start-up costs;
- It is not possible to use some options of advertising campaigns, as well as national or regional marketing strategies;
- It is often not enough to simply use the franchisor’s ready-made business model, marketing strategy, and technological operations in order for the business to be successful. It is essential that the franchisee also share common values and goals as well as support the corporate culture and brand mission.
It is also crucial to conduct a market analysis before buying a franchise of a well-known brand. That is necessary in order to find out the prospects of a particular business sphere and how effective the investment in it will be.
Duties of Franchise Participants
Although the successful implementation of such a business model requires mutual trust and a culture of reciprocal support from the partners, the basis of the business relationship is, of course, an agreement. Among other things, it specifies the responsibilities of both parties.
The franchisor’s responsibilities are:
- Selling a ready-made franchise with an already established marketing strategy, technological operations, and a trademark;
- Training employees, and, if necessary, providing assistance to the franchisee in achieving business goals;
- Business development, or, if needed, changing the business strategy.
If required, the franchisor may also create a website, which will contain instructions and recommendations for franchisees and other useful information.
Types of Franchise Business Models
Before you buy a franchise, it is recommended to conduct a market analysis in order to choose the most successful business model that will match your values and business goals to the maximum degree.
All franchise business models can be roughly divided into 2 types:
- Product distribution franchise. In this case, the franchisee does not produce anything. It acts as a distributor for the sale of the product produced by the franchisor. The responsibility of the franchisee is to sell only the products of this particular brand;
- Business-format franchise. After its purchase, the franchisee can use the brand name or trademark and get access to business strategy, marketing strategy, technology operations, and all distribution and operating systems. The franchisor also provides the franchisee with ready-made employee training programs.
An example of the first type of franchise is, for example, a Toyota car dealership in any other country because its owner is a retailer of this brand. A popular example of the second type of franchise is fast food chains, such as KFC and McDonald’s.
Basic Franchising Business Models
The specifics of the franchising process directly depend on several factors:
- The type of franchise agreement;
- The number of employees;
- The rules established by the franchisor.
Depending on these factors, the choice of the most appropriate franchising business model is made. The most important advantage for the franchisee is that this person does not have to develop a business model for the company independently.
COCO Franchise Model
This franchise model assumes that the franchisor can only own and operate the company in a certain location. Accordingly, the company fully undertakes all operating and capital costs. For example, it may be a network of outlets of a particular brand, in which the franchisee is a dealer.
This business model is suitable for the franchisor if:
- The company has a sufficient budget for additional expenses, such as an experimental advertising strategy;
- The owner of the brand can test the chosen business development strategy on the company’s own retail outlets and then pass it on to the franchisee.
After opening a “flagship” branded store, on which the marketing strategy, infrastructure, and other features of the outlet will be tested, it is possible to create a new franchise on its basis.
The franchisor gains the following benefits from implementing the COCO business model:
- The opportunity to scale your business and open a branded store in a particular area in order to increase brand awareness;
- The chance to demonstrate a range of products to potential franchisees;
- This business model is the most profitable because the franchisor does not have a business partner, who will hold a share of the profits.
It is also possible to scale the company’s presence even in locations where it is challenging to find franchisees.
Both the franchisor and the franchisee should consider the possible disadvantages of this business model:
- The outlets are run by employees hired by the franchisee, not the franchise owner. This can lead to problems with productivity or product quality;
- A large amount of the company’s resources is spent not on its core business but, for example, on the opening of company stores acting as an element of a marketing campaign.
But for a large brand that wants to maximize its presence in other cities or countries, this can be a wonderful option.
The second franchise option is COFO (or owner-managed) business model. Its peculiarity is that the franchisee covers part of the costs like paying salaries to employees, utility payments, and, if necessary, other required expenses.
The responsibilities of the franchisor, in this case, include the choice of location, payment of capital expenses, and, sometimes, payment of rent and mortgage for the property.
Features of the COFO business model:
- Reduced operating costs for the franchisor;
- Management of stores or other outlets is the responsibility of the franchisee;
- The franchisor can reduce throughput to manage various business processes or technical operations.
This business model is not suitable for franchisees with a small budget because in this case, you only buy a trademark, a management system, and a marketing strategy. The franchisee will need to attract significant investment at the outset in order to make a profit in the end.
COFO business model has many advantages for both the franchisor and the franchisee:
- All sales units or fast-food establishments in the chain quickly achieve success because the manager of each unit is an entrepreneur;
- There are no operating costs for the maintenance of outlets in the chain;
- The franchisor does not have to spend financial and other necessary resources on business support because these costs are covered by the franchisee.
If necessary, franchise companies may open a new outlet even in the area where the owner can not find a franchisee.
Possible disadvantages of the COFO franchise business model:
- Creating a positive reputation with customers is directly dependent on the franchisee. If this person tolerates poor service or an unsuccessful advertising strategy, it can negatively affect the reputation of the brand;
- The resignation of even one of the franchisees may have a negative impact on the further development of the network of outlets;
- The franchisee’s share of profit is relatively small because all capital costs are borne by the franchisor.
Thus, this business model is not suitable for small franchise companies that lack a sustainable management system.
The Franchise Invested Company Operated business model is a managed company in which the franchisor manages all the processes of outlet operation. The franchisee is responsible for the purchase and maintenance of the real estate, and it also assumes all capital and operating expenses.
Features of the FOCO business model:
- Minimum costs paid by the franchisor, making it popular with both new and well-known brands;
- The bulk of the income generated by the retail chain operation is received by the franchisee since this person/company bears both capital and operating costs for the maintenance of the retail chain;
- The franchisor receives only a small income in the form of royalties.
This franchise model is perfect for large brands that need to scale or develop new areas of activity without significant risk. If this retail chain is not the only one and losses in case of failure will not be a severe problem, it is an acceptable option for the franchise company.
This business model of franchising has a lot of advantages for the franchisee:
- There is no need to create a team of experienced managers to run the retail outlets because this function is taken over by the franchise company.
- The brand already has a ready base of loyal customers and a successful marketing strategy, which the franchisee gets.
- The franchisee can get significant budget savings due to operating costs, taken over by the franchisor.
Thus, the franchisor receives investment in the development of its brand, and the franchisee gets ready management strategy and already established processes.
This franchise model is not suitable for franchisees who cannot offer the franchisor a significant amount of investment:
- The franchisee cannot quickly recoup the investment made, as profits at the initial stage of the retail chain (the rent of the premises and other capital costs) may exceed profits;
- It is not suitable for franchisees who intend to rent premises for retail outlets.
- The franchisee does not get access to the daily management routine, and therefore, does not have the opportunity to simultaneously make a profit.
Unless you simply plan to invest a significant amount of money in a well-known brand and get your share of the profits, this is not the best option.
Franchise Owned Franchise Operated business model is the most popular option for those who want to essentially buy a ready-made brand and recoup their investment in a short time.
The franchisee also gets the opportunity to have maximum control over the management of day-to-day processes. Such a model does not require complex management.
This business model creates a large number of opportunities for all its participants:
- A large number of business development options, including its scaling;
- Suitable for franchisees with a small budget because most of the costs are borne by the franchisee;
- The franchisee can quickly recoup their investment in a particular brand.
Due to these reasons, the FOCO business model is quite popular with investors and brand owners.
A novice franchisee should consider the possible disadvantages of such a business model so as not to lose their investment:
- A significant risk of failure, which you need to be ready for;
- Considerable investment does not mean guaranteed success, especially if the franchisee does not have enough experience.
You have to be aware that the investment might not pay off in the end.
Franchising is becoming increasingly popular, especially after the development of artificial intelligence technology and elements of machine learning.
The active use of digital technology has led to the successful automation of many business processes. Remote franchises, which require the work of a virtual or hybrid team, are also popular.