Franchising is a way of distributing goods and services which has grown rapidly in recent years. It is essentially a business relationship between a franchisor (who originates the brand and the products or services) and the franchisees (who are given the right to use the brand and distribute those products or services). In practice, the franchisor provides ongoing training, management and support services to the franchisees, who operate their businesses semi-independently (according to the licensing agreement).
What types of franchising exist?
There are four main types of business franchise relationships:
- Retailer-retailer: this is the most common type of franchising, and it occurs when a franchisor markets a service or product under a common brand and delivers that product or service through a standardised system which utilises a network of franchisees.
- Manufacturer-retailer: is where the franchisee utilises the manufacturer’s brand to sell the manufactured products directly to the public (the most common example of this being new car dealerships).
- Manufacturer-wholesaler: is where the franchisee manufacturers and distributes the franchisors product (such as soft drink bottling arrangements).
- Wholesaler-retailer: is where the franchisee purchases products from the wholesaling franchisor to be sold at retail prices.
Manufacturer-retailer and manufacturer-wholesaler franchise arrangements are referred to as product and trade name franchises. In these arrangements, a large and recognisable brand assigns the right to use that brand and sell the associated products in a certain territory, in exchange for royalties and fees.
The retailer-retailer arrangement differs from this approach in that it offers franchisees a comprehensive system for conducting business, and generally assists them in every aspect of operation, including business planning, management, quality assurance and business processes. This allows franchisees to offer consistent quality and gives the brand uniformity across all of its locations. This form is the fastest growing segment of franchising.
What are the pros and cons of franchising?
As with any business structure or strategy, there are positives and negatives to running a franchise business.
The benefits of franchising include:
- Access to high quality people by attracting them with the strong incentives available to franchisees
- Securing easy capital for expansion because the franchisees have to buy in or pay for their outlet
- Lower risk as the franchisor has to invest less of their own capital
- Higher returns on new locations as the percentage return on the minimal capital invested by the franchisor is typically many times that of adding a new company-owned outlet
The drawbacks include:
- Lower control as franchisees have greater autonomy than employees
- Less cooperation between outlets because even though the brand as a whole may benefit from cooperation, the individual franchisees have little incentive to play along
- Resistance to change because new ideas, products and processes must be negotiated with the franchisees before they can be implemented
The general takeaway is that franchising is a fantastic option for businesses looking for rapid growth which does not risk significant company capital or require large outside investments. Franchising works particularly well for industries where uniformity is an advantage, rather than a drawback, and in business areas where almost every business practice can be turned into a step-by-step process.