Franchisors make most of their revenue from fees. Although franchisors require multiple on-time payments from those who want to open a franchise, their main regular income is the royalty fee.
Royalties refer to the money that a prospective franchise pays for using another person’s brand, product, logo, and business idea. When franchise owners make sales, a certain fraction of that money is paid to the franchise company as a royalty fee for the rights to use its trademarks and business models.
Royalty fees differ
Although royalty fees are usually paid every month, the amount varies from one franchisor to the other. Depending on the franchisor, these fees often range from 4 % to 8 % of the franchisee’s total sales per month. However, many parent companies base their own calculation on net sales (which is the number of sales made by a business after all the necessary deductions have been made). And one advantage of this is that you won’t need to pay royalties on your expenses, but a higher percentage rate is usually required.
What do franchisees get in exchange for a royalty fee?
Franchisors earn their income from royalty fees. Since these fees are paid on a recurring basis, franchisors use them to maintain their franchises. By maintain, we mean that they use the funds to cover their operating costs while investing a large part of the money into promoting the company. That may include hiring sales representatives who continue to woo prospective franchisees or negotiating with other businesses to expand the product and service lines, enabling you to increase what you offer in your franchise venture.
They also use the funds to continually improve technology and point-of-sale processes and provide IT support to franchises under them. In every case, the franchise royalties support the infrastructure required to help build a stronger brand and reputation than your own business (and that makes you appear more like a credible, powerful competitor amongst your peers).
Royalty fees also cover the costs of advertising and marketing campaigns in some cases. For instance, the franchisor may run a promotion to bring a new product to the market, but you, the franchisee, will reap the benefits as you record more sales. And a certain percentage of those sales is paid to the franchise every month as the royalty fee to complete the cycle.
Are royalty fees worth it?
For many prospective franchisees, the idea of having a percentage of your hard earnings removed as a royalty fee is hard to accept. However, selecting a franchise to buy (and paying the required fees, of course) can offer you a lot of benefits as a start-up owner:
- Fewer mistakes. Since there will be an effective process in place for you to follow, you are less likely to make mistakes than if you were to set out on your own. The franchise company has already fixed the bugs that caused many stand-alone start-ups to fail.
- Solid support network. As a franchise owner, you will have many people to look to for help if you have any questions or issues. You are going to have access to a network of experienced, knowledgeable people from the parent company or other franchises, all of whom are interested in your success.
- High purchasing power. When you are a part of a bigger organization, you will save costs on products and services, and these savings add to your bottom line.
- Assistance when it’s time to leave. While you may not intend to exit a business when starting out, it is important to plan for the long term. Besides, your business will not run forever. As a franchise owner, selling your business will be easier for two reasons: (i) because you own are recognized brand and (ii) because the franchise company will help you make the transition.
- Increased Value. The success of every franchisee under your parent company helps yours too. The more the brand’s value increases, the more you share in the rewards. And the more successful you will be.
If you are looking to buy a franchise, you may feel like royalty fees are an additional burden for your new start-up, but the franchisor’s support makes it a win-win for both parties financially. The mutual goal of high profit and business success is achieved using the royalties that help your franchise.
