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Buying a franchise: Can you afford it?

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Wanting to trade under an established brand commonly motivates franchisees purchasing an existing franchise. However, franchising can be a costly business venture, and before jumping straight in, it is important to consider the costs and financial obligations involved in franchising. Below, we look at the financial aspects from the perspective of a franchisee to help you answer the question, ‘can I afford it?’

At the outset, franchisees should carefully examine the franchise documents to determine all the costs involved. In particular, you should carefully read and understand the disclosure document because, as required by the Franchising Code of Conduct, franchisors are required to disclose all actual or potential associated costs of the franchise business, including the initial franchise fees and costs through to the ongoing fees or royalties. The document should detail costs including upfront documentation fees and day-to-day operational expenses, such as postage costs and staff amenities.

The fees that a franchisee must pay may be quite costly depending on the length of the contract and the perceived reputation of the franchise. Franchisees should be particularly aware of:

  1. Initial Franchise Fees

Initial franchise fees are meant to cover the cost of initial assistance needed in setting up the business such as recruitment, obtaining a lease and/or licence, fit-outs assistance and any training involved in running the franchise business. Initial fees will typically rise in relation to the length of the franchise contract as well as the brand’s reputation.

  1. Ongoing fees

Once the business is set-up and operating, franchisees will also be responsible for paying an ongoing franchise fee. This usually based on a percentage of the franchisee’s gross revenue and determined by the division of obligations and responsibilities between the franchisee and franchisor. So remember that a greater reliance on the franchisor for support may be reflected in a higher percentage of ongoing fees.

  1. Other Costs

Franchisees should also be aware of other aspects involved in setting up a franchise, such as the business structure, which may influence their financial obligations. Additionally, franchisees should consider buyer costs and the costs of setting up company trusts.

The key for a franchisee is always to plan. Analyse the franchise documents and use the information to prepare cash flow forecasts and business plans. It is also worthwhile to do your research. While disclosure documents itemise the costs and expenses for which you are liable, they rarely give an indication of the income you will derive against which those costs will be offset. Examining the industry, talking to other franchisees and undertaking some market analysis will be critical in determining the overall financial risk you will take on.

As the franchisee, it is important that you understand your financial obligations and business structure. If you have any questions, let a franchise lawyer know.

By Emma Jervis – LegalVision Principal and Franchise Lawyer