IFRC - Stanworth and Purdy Oct 2002 - Lloyds TSB I Franchised My Business So Can You

Lloyds TSB

Business

‘I franchised my business,so can you.’

Professor John Stanworth and David Purdy

contents

Before you begin 1

1 Franchising: a system for growing your business? 2

The franchise contract 3

Working with your franchisees 4

How a business format franchise works 5

2 Will business format franchising be right for you? 6

The franchisee’s point of view 7

3 Bringing your franchise plans together 8

4 Your key resources 11

The main legal issues 15

5 Where you can find more information 17

6 Your alternatives to franchising 18

7 Key stages in growing your franchise 20

Franchising internationally 21

8 Tips for successful franchising 22

What can go wrong? 22

Appendix 1 Useful contacts/sources 24

Appendix 2 Further reading 26

Appendix 3 British Franchise Association membership criteria 27

Appendix 4 Sample cash flow forecast 29

Appendix 5 Franchisee diagnostic questionnaire 31

Appendix 6 Outline franchise agreement 39

Appendix 7 Glossary of franchise terms 44

before you beginThe undoubted growth of franchising over the last few decades has led many business journalists to hail its

‘success’ as a way of growing a business.

However, this method of operating is no easy option.

As a newcomer you will quickly discover the complications involved in:

� franchise contracts

� trade mark protection

� franchise system development.

For these reasons alone it’s essential to take professional advice if you’re considering this method of business

development.

In addition, to give your proposed franchise a realistic chance of survival – let alone success – we’d recommend

that before committing yourself to significant levels of investment you should:

� carefully research your business strategy and objectives and

� make sure it has sufficient resources for this method of expansion.

This guide should help you when you are considering your franchise plans. It outlines business format

franchising, one of the most common types of franchising. This is a means of closely replicating a business

operation at other locations.

We’ve included data from surveys of both franchisors and franchisees – primarily to illustrate the business

environment in which existing franchised systems are operating.

Franchising your business 1

1. franchising: a system for growing your business?Franchising is a system that enables business people to develop some of the biggest brands around –

like McDonald’s, Dyno-Rod and Holiday Inn. As a result, a very wide range of businesses benefit from franchising

today, in almost every market sector.

Consumers, of course, are aware only of the brand names, not how the businesses are actually run.

The UK franchise marketIn the UK, franchised businesses currently have a combined sales turnover of around £44 billion. Business format

franchising accounts for almost 20 per cent of this (figure 1).

Figure 1: Franchising trends in total UK sales (outlet sales, £bn), 1984-1996

2 Franchising your business

The most common types of franchised systems are business services. These include training, fast print,

recruitment and a variety of out-sourcing activities such as cleaning, property management and distribution

(figure 2). In addition, businesses selling to consumers, from fast food to convenience retailing, use the

franchising system.

Figure 2: UK franchisors – sector breakdown (% of 566 systems)

A Business Services 19%B Specialised 10%C Food Franchising 9%D Home Care Services 8%E Motorist Services 8%F Property Care 8%G Walk-in Retail 8%H Distribution Services 6%I Cleaning Services 5%J Health & Beauty 5%K Estate Services 4%L Leisure/Travel 3%M Delivery/Haulage 2%N Fast Print 2%

Lloyds Bank/IFRC ‘Franchising in Figures’, 1996 (n=566)

If you’d like more detailed information about the different types of franchised systems, we’d suggest looking

through one of the franchise directories published each year by Franchise World or The Franchise Magazine.

You will find additional helpful information on Internet websites listed at the back of this brochure – see page 24,

useful contacts.

The world of franchisingIn most developed economies franchising is widely used for operating businesses. The governments of some

developing countries actively encourage business people to take this route. In Malaysia, for example, it is used to

promote entrepreneurship.

Other economies have already taken to franchising in a big way – the United States and Japan, for example:

A mid-1990s survey of 36 countries that have franchise associations, with the number of franchise systems and

franchisees summarised in figure 3, showed just how widespread this way of growing a business has become.

Figure 3: Franchising worldwide – a comparison

Arthur Andersen/World Franchising Council, ‘Worldwide Franchising Statistics: A Study of Worldwide Franchise Associations’, 1995

the franchise contractExperts generally agree that franchising revolves around the franchise contract. This binding agreement usually:

� allows the franchisee to carry on a business for a specified period under a name promoted by the franchisor

� entitles the franchisor to control how franchisees operate their franchised outlets

� obliges the franchisor to support the franchisees with services such as training or merchandising

� requires the franchisees to pay for the right to operate the franchise, and sometimes for the goods and

services that the franchisor supplies as well.

Number of Franchisors per Country Number of Franchisees per Country

United States 3,000 United States 250,000

Canada 1,000 Japan 139,788

Brazil 932 Canada 65,000

Japan 714 Brazil 60,000

Australia/New Zealand 600 France 30,000

France 520 Britain 26,400

Germany 500 Australia/New Zealand 26,000

Britain 414 Mexico 18,724

Italy 400 Spain 18,500

Mexico 375 Italy 18,500


working with your franchiseesThe relationship between franchisor and franchisees can take any of the following forms:

� Manufacturer-retailer

The franchisee sells your products directly to the public. For example: car dealerships, petrol service stations.

� Manufacturer-wholesaler

The franchisee is an established business, distributing your products and sometimes packing them as well.

For example: bottlers licensed by soft drinks companies.

� Wholesaler-retailer

Franchisees act together to set up a business that will become the franchisor. For example, a group of convenience

stores acting as a co-operative for their mutual benefit.

� Business format franchise

Franchisees operate a business format franchise in a standard way under a common trademarked name.

For example: fast food restaurants, courier services, cleaning services, employment or estate agencies, kitchen

and bathroom installers. The franchise is typically run in one of the following ways – in ascending order of

initial investment:

– Job franchise

Usually a one-person self-employed business that the franchisee runs from their own home – such as local

deliveries, drain clearance, car repairs.

– Business franchise

This generally involves a larger investment in business premises and equipment, employing and training staff –

as with fast food restaurants, quick print outlets and card shops.

– Investment franchise

Here the franchisee is working for a return on their relatively large investment – for instance, in a hotel or major

retail franchise.


how a business format franchise worksWith a business format franchise, the franchisees will be operating as satellite enterprises of an already proven

larger business under its established trade name. They sell its products or services along specified lines (figure 4).

Figure 4: A simple franchise structure

As a franchisor, you can expect to charge the franchisees:

� an initial fee: this brings them your knowledge and business system. You’ll also want to include training and

initial support

� a continuing management service fee, typically 5-10 per cent of their sales turnover.

The advantage to you as a franchisor is that you should gain national distribution for your business more quickly

than by trading on your own. As self-employed individuals the franchisees, who put up most of the necessary

capital, will usually be motivated to work hard at building up their businesses.

This in turn should ensure success for you.

In addition to running a business of their own, the franchisees gain these benefits:

� the use of an established trade name

� prime rights within a particular geographical area

� support and advice from head office covering central marketing, promotion and administrative backup

� continuous market research leading to further development of the product or service concerned.


2. will business format franchising be right for you?A business format franchise offers you as a franchisor a number of advantages. Here we balance these against the

disadvantages, to help you move towards an informed decision.

We also look at the pros and cons of the system for the franchisees with whom you’d be forming a business relationship.

Advantages for you as franchisor1. You’ll be able to increase the number of outlets for your product or service while committing only a limited

capital investment. The franchisees put up most of the capital required, through investment in their

franchised outlet or business.

2. It’s fair to expect your franchisees to be highly motivated to maximise growth and profitability – by contrast

with managers employed to run your outlets. You may incentivise the latter by adding a performance bonus to

their fixed salary. But they will not have made a personal financial investment in the business. That’s what

makes the difference to franchisees, whose success – measured by profits growth – contributes to your

success as a franchisor.

3. Local ownership could make a franchised outlet more acceptable to the local community. Bear in mind that

local people may not realise a nationally known brand is in fact owner-managed. However, your franchisees

will enjoy some status as members of their local business communities.

4. Your overheads – payroll, rent, administration – are kept to a minimum. Such operating costs are the

responsibilities of your franchisees.

5. You would expect to see a continuing income stream. This will come from your franchisees buying equipment

and stocks or supplies (for example, fast food ingredients) from, or through, you as franchisor.

And the disadvantages1. While you can control and supervise managers you employ directly, franchisees are self-employed. So if a

particular outlet owner allows product or service quality to lapse, this might damage the franchise as a whole.

2. It may be difficult to check each franchisee’s level of business activity. Many franchisors use a central

accounting system to overcome this risk, but total success cannot be guaranteed.

3. A franchisee may lose motivation (perhaps for personal reasons) and not run their outlet efficiently. While they

are operating within the letter of the franchise contract there may be little you can do in the short term.

4. It may be difficult for a franchised business to respond quickly to competitor activity or changes in the business

environment. Conventional companies can often move fast to modify their sales strategies. But having to deal

with individually owned franchised outlets could make this process lengthy and cumbersome. You’d have to

handle changes carefully if the franchisees think these might affect their independence.

5. You may experience problems in getting fast, accurate feedback on sales and trading from franchisees.

This may be the result of their desire for independence, or simply because channels of communication are

not as well developed as with a chain of company-owned and managed outlets.

6. Franchising involves a paradox. By working with motivated franchisees, you hope to capitalise on the personal

attention and service they bring to an owner-managed business. On the other hand, each franchisee has to

give customers a sense of consistent quality by offering a standardised product or service in a uniform way.

The latter conflicts with the former.

7. You might find it hard to recruit franchisees who have all three of the required qualities:

� the ability to understand the attractions of franchising as a way of running a business

� motivation towards self-employment

� the necessary capital to invest.


the franchisee’s point of viewTo gain an all-round appreciation of franchising, it’s worth thinking about its advantages and disadvantages from

the franchisee’s point of view.

Advantages1. Each individual can run their own business while gaining the economies of scale and other benefits of

working with a larger company. These include; initial and ongoing training, centralised buying, ongoing

market research into and development of the product or service.

2. A high-profile franchised brand enables the franchisees to concentrate on running their local business.

They know that the franchisor will carry out sales and marketing activities, including advertising, to keep

the product or service at the forefront of the public’s mind.

3. Investing in a franchise often requires less capital than equipping a similar independent business. In addition,

the franchisees may look to the franchisor for help with raising finance, site selection, negotiating leases,

getting started and running smoothly.

4. The franchise contract may give exclusivity within a defined geographical area. (Of course, if a business does

well, this could attract other franchisors or conventional businesses to start competing.)

5. Unlike most conventional businesses, franchisees in your network will be able to give help and advice to

each other. It’s exceptional for conventional business managers to feel confident about discussing challenges

and problems with their colleagues.

Disadvantages1. There may be too little scope for the franchisee to impose their own personality on the business because,

as a franchisor, you will want to exercise tight control over the presentation of your product or service.

2. When the investment level is high, the franchisee may decide they could start their own business without

tying their fortunes to a franchisor’s.

3. The shortcomings of other franchisees – or even mismanagement by the franchisor – could tarnish the image

of the franchise as a whole. So even a well-managed outlet may suffer.

4. The services you provide may seem expensive – especially if the franchisees find they could have bought

equipment, products or ingredients more cheaply elsewhere.

5. If sales and profit performance do not live up to expectation, the franchisee may become dissatisfied with the

franchise contract, as they may do if you have not fulfilled all your obligations as franchisor.

6. When a franchisee is ready to retire, the franchise contract may limit their freedom to sell or assign the business.


3. bringing your franchise plans togetherWe have adapted this chapter from the International Franchise Association’s How to be a franchisor. Certain details

of documentation, operational plans and financing will vary from one industry to another. But the following steps

are universal for all franchisors.

1 Getting organised

Collect all the knowledge you have acquired while building the success of your business so far. Put it down in a

logical, sequential way. Remember you are going to train prospective franchisees in a subject area about which

they may know little or nothing.

2 Pilot operation

Franchisees will expect you to demonstrate you have run a successful pilot operation that supports your claims for

the business. Investigate how you can give your business idea patent or trademark protection – not only in this

country but also in areas overseas where you might expand.

3 Ongoing pilot

It’s essential to stay on top of your changing market – and recognise what changes to introduce and when. So you

should continue to run one or more company-owned outlets.

4 Operating plan

You will need an operating plan that covers in detail all the programmes required for running a franchise system;

sales, servicing, training, site selection, pre, and post-training. This should also name the person responsible for

each area.

5 Financial plan

Develop a conservative financial plan that covers cashflow, profit and loss, and any extra sources of funding you

can introduce or make available. Prepare a similar plan to help franchisees.

6 Franchisee qualifications

Decide if your franchisees should be individuals or companies. Define the profile you are looking for – such as;

business experience and skills, personal education and qualifications, financial capabilities. For more about this

topic, see the franchisee diagnostic questionnaire, appendix 5.

7 Franchise type

Decide which type of franchise you will offer; individual unit, multiple unit, subfranchise, affiliation/conversion

franchise, or master franchise. For more about these, see legal considerations, page 15.

8 Franchise training

Decide what training your franchisees will need, how to train them, and who will do it.

9 Growth plan

Decide how your company is going to grow – slowly, quickly, regionally, nationally, internationally.

10 Franchise costs

Decide how much you should charge for the initial fee, royalty fees and advertising contributions.


11 Franchise sales

Decide how you will attract potential franchisees. Methods include your own sales team, franchise exhibitions,

direct mail, the Internet, word of mouth and advertising.

12 Franchise territory

Decide how much (if any) geographical exclusivity to grant your franchisees. The options include exclusive

territories, no competing units within an agreed area – or no protection. You may also have to decide whether

protection should be subject to volume quotas or performance standards, and for how long.

13 Franchise financing

Decide the best way to finance your own growth; with a public share offering, private offering, venture capital,

limited partnership, commercial banks, or from surpluses generated by your own company.

14 Tax planning

To protect yourself, you will need to plan the following; avoiding liability for your franchisees’ taxes, the net royalty

principle, capitalising sales expenses and initial franchisee fees.

15 Franchisee control

You will need to manage your franchisees, in particular corporate franchisees and their shareholders. Other issues

to consider include:

� whether a franchisee can assign their licence or pass it to their heirs

� rules about breakaway franchisees

� franchisee bankruptcy

� competing franchises

� limits on a franchisee’s size.

You will also need:

1. Credit control for the money franchisees owe you.

2. To select reporting systems and audit procedures.

3. Access to franchisees’ tax returns.

4. To decide which procedures and guidelines to use for securing deposits, prompt payment discounts and late

payment penalties.

16 Advertising

Decide how to advertise your franchise – national, regional, or local newspapers and magazines, direct mail,

leaflet distribution, radio and television. And how franchisees should fund it – paying a fixed percentage of gross

sales, or a fixed monthly fee.

17 Dispute procedures

Decide how to resolve any disputes that arise – with litigation, arbitration or mediation – where the dispute will

be resolved, and who will pay the legal fees. You should seek legal advice.



18 Employees

Expect to employ some staff directly – to carry out franchise sales, franchisee training, and central administration.

Write down their job specifications, qualifications and salaries. Develop a basic organisational chart.

19 Operations manual

You should develop and set out clearly all the methods and procedures that franchisees and their employees must

follow in running the business. Aim to include as much detail as possible about your franchise system in this manual.

20 Personal assessment

Before committing yourself to the franchise route, answer these questions honestly:

� are your goals realistic and attainable?

� if you need financial help, will you allow a lender to take a share in your business?

� do you have the patience, tenacity and self-discipline to develop a fledgling business or convert yours to

franchising?

� can you develop and sustain relationships with many different personalities – your franchisees?

� are you prepared to make the sacrifices that building a business can involve – including the effects on your

family and other areas of your life?

� are you ready to share some of your present independence by working with franchisees?

� can you attract, hire, train, manage and develop important staff who will respond to you personally?

� what type of personality are you?

� becoming a franchisor is time consuming and expensive – are you ready?

4. your key resources

FinanceSome franchisors expect the initial fees that franchisees pay to significantly outstrip their own investment from

very early on in the life of the franchised system. Both theory (figure 5) and practice (figure 6) show that you

should not expect to achieve such an optimistic result.

For instance, the expected scenario in figure 5 uses the example of a franchisor who starts with £150,000 of

long-term loan capital to supplement their own funds of £100,000. Despite this initial £250,000 of start-up

finance, the system’s further borrowing needs peak at almost £200,000 in year 4, and the franchisor moves

into the black only between years 5 and 6.

Figure 5: Franchise system start-up (illustrative example): Borrowing requirement for ‘expected’ and ‘worst-case’ scenarios


We also show that it takes a relatively slight adverse change to push the system into a worst case scenario.

We assumed that total receipts would be 10 per cent lower than expected, and total payments-out 10 per cent

higher. Here the outcome is a peak borrowing need of £345,000 in year 4 – well over 70 per cent beyond the

anticipated requirement. The franchisor remains in the red beyond year 7.

Figure 6: Finance invested prior to first franchisee by franchising experience


A survey of UK franchise systems shows (figure 7) how franchisors’ expectations of breaking even worked out

in practice. Experience scores over optimism every time. More than half the newest systems thought they would

break even with fewer than 11 outlets. But most system owners with 6-10 years’ experience recognised that they

would need 21-50 outlets to break even.

You’ll find more details about these aspects of running a franchise in appendix 4.

Figure 7: ‘Break-even’ franchise system size by franchising experience

FranchiseesCost of recruitment

Recruiting franchisees is usually an expensive process. A survey of franchisees attending a UK franchise exhibition

showed that you would typically spend £3,000-£10,000 for each franchisee recruited (figure 8). These costs are

arrived at by dividing total marketing expenses (advertising, exhibitions, interviewing and so on) by the number of

franchisees appointed.

Choosing franchisees

Recognising likely winners is not a simple job. A number of factors contribute to the problem.

� Most developing businesses considering the franchise route have much in common with the typical small

firm. So your management team may be able and committed in their own field, but is unlikely to possess

such specialist skills as personnel selection, a key task.

� Some franchisors prefer to rely on instinct when judging which candidates are likely to make good or bad

franchisees. They seem to feel that it would reflect badly on their own abilities to admit that personnel

selection can be difficult.

� Other franchisors fall into the trap of looking for people who are exactly like themselves with their weaknesses

as well as their strengths. They should really be recruiting franchisees who complement their skills.

� Recruitment may be made even more difficult by the fact that often a husband and wife will work together as

a franchise team. Any stress between them can turn a source of potential strength into a structural weakness.

Franchisee qualities

These qualities are considered to be essential for a good franchisee:

� able to cope with the isolation of self-employment

� self-discipline

� prepared to work long hours and under pressure

� ready to learn from failure

� set their own high, but realistic, standards

� will not flinch from taking unpopular decisions

� can resist impetuous or emotional behaviour

� takes a balanced view of events, whether good or bad

� can tolerate uncertainty

� will accept advice

� can demonstrate financial viability

� has the support of their spouse or partner

� can show a background of enterprise

� motivated to make profits

� sales ability

� receptive to franchisor’s training

� keen to grow their business

� happy to delegate

� takes the long-term view

� believes that individuals can ‘make things happen’.

To help you screen franchisee candidates, we’ve included a diagnostic franchisee questionnaire in appendix 5.


Figure 8: Estimated cost of franchisee recruitment by length of time in franchising


Motivation

We carried out research amongst prospective franchisees visiting exhibitions to find out why franchising appeals

to them. This showed that previous experience of running their own business is a key differentiator (figure 9):

� those who had never been self-employed rated independence most highly

� those who were currently self-employed opted most strongly for the economic security of a proven system

(business format franchise)

� those with experience of being self-employed who were currently back in the labour market also tended to

prefer a proven business system.

These results show that you can target prospective franchisees from each of these segments more accurately by

using appropriate messages.

Figure 9: Main appeal of franchising (to prospective franchisees): by employment status

Getting enquiries

We used a postal survey to ask UK franchisors which of 14 different communications methods they found most

cost-effective in recruiting franchisee candidates (figure 10).

The most popular, in rank order, were:

1. Franchise exhibitions

2. Franchise magazines

3. National advertising.

Figure 10: First choice preferences for franchisee enquiry leads: by franchise experience

A small proportion (1-6 per cent) recommended:

� word of mouth

� customers

� local advertising

� direct mail

� out-placement courses

� employment and business transfer agencies.

The following methods received no first-choice selections:

� extended family

� seminars

� trade press.

the main legal issuesIn the UK, the franchise industry is lightly regulated compared with the US. There the Federal Trade Commission

enforces disclosure rules for franchisors. The main legal issues for a firm operating in this country are:

� European Commission Block Exemption

This effectively deregulates franchising provided franchisors follow certain specified courses of action.

� Trading Schemes Act 1996

This excludes franchise systems provided they comply with specific conditions. For example, by registering all

franchisees for VAT, and operating only single tier (i.e. non-pyramid) systems.

� Community Trade Mark 1997

This gives a branded system copyright protection throughout the European Union.

The following summaries outline the other areas of law that will impact on UK franchisors.

� Contract law

This covers the franchise contract, which should include:

– granting the licence

– obligations of both franchisor and franchisee

– provisions for the franchisee’s death or incapacity through illness or accident or insolvency

– sale of the business by the franchisee

– terminating the agreement

– restrictions following termination.

The franchise contract should have viable property to licence (the business system). You should also avoid

including terms that may be deemed unfair. We give examples of typical acceptable clauses in appendix 6.



� Competition law

It is reasonable for the franchise contract to include restraint of trade clauses that cover geographical area and

post-termination restrictions. However, a larger system, aiming for a total turnover of more than £20 million

a year (franchisor and franchisees together) will need to clear its agreement with the Office of Fair Trading.

� Tax law

Income that you receive as initial licence fees is liable to corporation tax. Other franchisor income for the services

and materials you supply to franchisees is usually treated as revenue. For the franchisees, their initial licence fee

is not tax-deductible.

� Agency law

You will need to avoid inadvertently creating an agency relationship with your franchisees. This can happen

where a franchisor acts as a trustee for the franchisee. Exercising too great a control through the contract could

lead to this. It may also require you to disclose more about the business than you planned to.

In addition, a franchise system is subject to the same employment and data protection laws as any other business.

Before you go further we’d always recommend taking legal advice from a specialist firm of solicitors with

experience of franchising agreements.

guidance

5. where you can find more informationOne of the principal sources of useful information for franchisors and franchisees alike is the British Franchise

Association (BFA). Originally set up in 1977 as primarily a franchisor organisation, this is now the industry’s trade

body. Its aims are:

� to develop and continuously improve standards of good practice in franchising

� to accredit franchisors who meet those standards

� to promote good franchising, as represented by accredited franchisors, to the general public, the business

community, government and the media

� to provide to the general public, as prospective franchisees, information and education to help them make

effective judgements in choosing the best franchises for them.

Membership of the BFA includes over 200 franchisors, plus accountants, banks, specialist consultants and

solicitors. Before becoming a member, a franchisor has to demonstrate that they have a proven and reliable

business that can be cloned. Potential franchisors can receive early development guidance.

Membership progresses from provisional to full status as the business develops. But all members can use the

appropriate BFA logo in their promotional material.

The BFA accredits UK franchisors against wide-ranging criteria, which include a European Code:

� Viability – a financial record that shows a sound business.

� Franchisable – a record of at least one successful franchised outlet, and no significant record of failures.

� Ethical – a franchise agreement and structure conforming to the European Code of Ethics.

� Disclosure – offer documents and brochures that reasonably represent the performance of the system.

If you are thinking of offering a business format franchise, you should consider joining the BFA. You’ll find more

details about the BFA and other useful sources in appendix 1.



6. your alternatives to franchisingHaving read about franchising so far, you may feel that other methods of growing your business will suit you better.

Figure 11 sets out the advantages and disadvantages of various expansion stratregies. But here are outlines of the

main options you may want to consider:

� Distribution/dealerships

This is an agreement between two independent businesses: the vendor and the re-seller. The latter has a licence

only to stock the vendor’s products, so they won’t benefit from the ongoing support of a franchise system.

In addition, they will be legally obliged to hold sufficient stock and maintain their premises in a way that reflects

well on the brand or product concerned.

� Licences

With this arrangement you allow a licensee to use your brand name in exchange for a royalty on sales. There are

usually few restrictions on how the licensee may run the business, apart from maintaining the quality image of

your brand.

� Agencies

You agree to appoint an agent to act on your behalf, in exchange for commission on sales. The agent never buys

products on their own account, but arranges purchases by a third party – who will usually make direct payments

to you.

� Multi-level marketing

With this method groups of self-employed distributors build sales organisations of their own to work for a particular

manufacturer or supplier. Their financial rewards, which are paid by the supplier, are based on the total sales

value achieved by each distributor organisation. Pyramid selling is a type of multi-level marketing in which

higher levels of distributors receive payments for recruiting sales agents at lower levels. Despite bad publicity,

the concept remains legal in the UK, but governed by specific legislation.

Figure 11: Advantages and disadvantages of various business expansion strategies


Company options Advantages Disadvantages

Franchisee-ownedstores

Company-ownedstores

Partnerships

Licensing of rightto use nameor product

SalesRepresentatives

Co-operativeAssociation ofSimilar Businesses

Mail order/0800 Number

� may use franchisee’s capital to expand

� may be able to recruit higher level ormore motivated managers

� may permit more rapid expansionbecause of greater advertising andbroader geographical presence.

� may lose some control

� may not teach franchisee to operateunit as well as franchisor

� may be difficult to find qualifiedfranchisee

� may have lower profitability per unitbecause of franchisee’s share

� franchisee may pursue maximum profit as goal whereas franchisor wants maximum sales

� may generate higher legal costs andlawsuits

� may have unmanageable growth iffranchisor is better at selling franchisesthan at support.

� offers direct control

� able to change more quickly from top

� may have higher potential profitbecause there is no franchisee share.

� rapid expansion may be limited bycapital shortage, personnel availability

� units may not be run as well becauseof lack of motivated managers.

� defined legal entity with body of law

� able to recruit complementary partnerwith skills or capital.

� limited control over partner

� possible liabilities, legal/tax regulations

� difficult geographical expansion.

� allows expansion easily

� low initial costs.

� limited control in how licensee runs business.

� direct control over employees

� less expensive than company office.

� may be expensive to train andmaintain staff

� continued motivation, supervision often difficult.

� may allow trade of information

� cheaper group purchase of items.

� may be difficult to form and maintain

� has limited function

� not designed to promote individual unit growth.

� easy to set up. � not suitable for many products or services

� offers limited geographical presence.

Franchising’s Growing Role in the US Economy, 1975-2000, US Small Business Administration, Washington D.C., 1993


7. key stages in growing your franchiseThere is a pattern to the development and growth of a franchise, although no two systems – nor the problems to

overcome – will be identical. These are the basic, underlying challenges you should expect to encounter on the

route to franchise success.

1. Finding a business idea

You may be running a business already – coffee shop, sign manufacturer, fast print, bookkeeping service –

that you want to use as your business idea. Or you may decide to devise an idea from scratch by brainstorming,

networking and researching a range of possible options.

2. Organising the first pilot operation

To build a franchise, you should consider devoting at least one year to piloting your basic business idea. This will

enable you to test your strategies for sales, marketing, product or service delivery, pricing and staffing. Virtually

every business start-up plan has to be changed during the first months of its implementation. High failure rate

figures, particularly during the first 30 months after start-up, confirm this. However, if you have an established

business which is doing well, you may decide to let this represent your pilot.

3. Establishing transferability

With the pilot in place, your next step will be to set up an identical outlet in a different location. This will test how

easy it will be to find new premises, hire new staff, organise a launch and all the other aspects of transferring the

skills and success of your original enterprise. It involves a steep learning curve, but there is no more certain test of

your business idea’s transferability.

4. Drawing up key documents

Before you can start looking for franchisees, you’ll need three essential documents:

� Operating manual: this puts on paper detailed instructions that will guide your franchisees in running their outlets.

� Franchise contract: this sets out the legal obligations of the franchisor and franchisee.

� Franchise prospectus: your marketing tool for recruiting franchisees.

Expect to put a great deal of time and hard work into each of these. You may also need to pay for external help

from management consultants, solicitors and accountants.

5. Arranging financial support

Setting up a franchise system is costly. You may have to invest over £50,000 in development costs to franchise

even the least expensive systems, before reaching break-even point. Trying to finance system development purely

from franchise sales and royalty fees seldom succeeds. When planning the financial side of your franchise, you

could consider bank loans, investment by business partners, or family members – in addition to your own funds.

6. Franchisee recruitment

The tried and tested methods of attracting the interest of potential franchisees are usually quite costly. But with

no previous track record or brand awareness to draw upon, spending this money may be unavoidable. Expect to

spend money on taking stands at franchise exhibitions and advertising in the national press. Expect to spend time

filtering down the 40 or 50 leads that are typically required to yield a single franchisee.

7. Establishing management control and field support systems

As you gain franchisees, to ensure that the system runs smoothly you will need to reinforce your own management

team in such areas as: franchisee training and support, advertising, setting up reliable supply lines, and

collecting royalties.

8. Achieving break-even

The franchise process is heavily front loaded, in that you need to have in place a tried-and-tested business

system, management team and fieldwork support well before a steady flow of money starts to come in from

franchisee fees and royalties. For most systems you can expect break-even only after 4-5 years and with

30-40 outlets trading.


9. Communicating with your franchisees

As your franchise continues to grow, business systems will come to replace the personal communications that

you used in the early days. For any business, two-way communications are essential – especially if you want to

introduce changes. You may need to set up a formal franchisor-franchisee advisory committee, publish company

newsletters and fact sheets, and hold national or regional conferences.

10. Surviving post-maturity

Your franchise will have reached ‘maturity’ when regular royalty fees are coming in from the franchisees. It may

take five years to reach this point, but this will be no time to relax. You need to be constantly alert for competition

in your chosen field, and to come up with improvements to your product or service that will help to keep you

ahead. As your army of franchisees continues to grow, the scale of your management support systems should also

grow. Here careful management is particularly important. If you expand your support systems too soon, you’ll

have to carry high overheads. But if you do so too late, you risk undermining the confidence and goodwill of your

franchisees.

franchising internationallyLooking further ahead, as your well-established franchise system faces a saturated home market, a logical route

to further expansion could be into overseas markets. It’s worth noting that the US government encourages

American franchisors to expand abroad and publishes reports on markets outside North America.

As you’d expect, franchising internationally is complex and demanding. Before you can exploit it, you’ll need to

address such issues as: intellectual property and trademark protection, market research, overcoming cultural

barriers, local taxation and protectionism.

Before investing time or money, look for professional guidance. The BFA can supply details of affiliate members

who may be able to help.

develop


8. tips for successful franchising� Clonability: it should be easy to transfer your service expertise or know-how to franchisees.

� Competitiveness: think how to make your product or service unique, to attract both franchisees and

customers. What’s so special about another fast print, home-delivery pizza or cleaning franchise?

� Profitability: profit margins should be large enough to support both franchisor and franchisee.

� Specialist advice: to develop a sound franchise agreement, along with effective training documentation,

seek specialist help.

� Franchisee recruitment: be discriminating when you start out. Otherwise a weak foundation may wreck the

whole system.

� On-going support: To maintain your franchisees’ motivation it is essential to make sure you provide ongoing

support. Otherwise they will ask “What are we getting for our fees?” Do not under-estimate the resources and

effort required to sustain a network of franchisees.

� Ailing businesses: franchising is not the way to rescue a struggling enterprise. Payback time will be long,

initial investment high, and initial franchisee fees might cover only recruitment and training costs.

� Contingencies: changing circumstances can blow the best-prepared plan off course. Make sure that sufficient

additional finance is readily available.

what can go wrong?Business specialists have recorded five key reasons why a franchise may fail. These are not generic business

problems, but specifically related to franchises:

� Business fraud

For example, using celebrities to attract franchisees to systems that were not well-founded – as happened in

the US during the 1960s and 1970s.

� Intrasystem competition

This occurs when outlets are located too closely together – or company-owned outlets are too near franchised

outlets. The result is that each outlet cannibalises the other’s sales, although the franchisor may only see this as

a way of earning the maximum level of royalty income, ignoring the long-term effects on the system.

� Insufficient support

If too little is invested in supporting franchisees – with pre-opening programmes, management assistance,

advertising and so on – the outlets may simply wither away.

� Poor franchisee screening

A mismatch between the criteria required for success and the qualities of franchisees actually recruited.

Sometimes this arises because a franchisee wants to maximise their initial fee income.

� Persistent conflict between franchisor and franchisee

Faults can arise on either side – inconsistency of support by the franchisor, or inattention to product or service

quality on the part of a franchisee.

From figure 12 you can track the fortunes of almost 140 US franchisors who started trading in the early 1980s.

After 10 years only a quarter of these newcomers were still franchising. Studies of franchise system withdrawals

in the UK show similar results.

Figure 12: Franchisors starting to franchise in 1983: Proportion still franchising in subsequent years


In theory US franchise systems should be less likely to fail. The law requires franchisors to give each potential

franchisee a detailed prospectus, so creating an additional hurdle before a franchise can be launched.

But even when franchisees commit themselves to a substantial initial investment, it seems clear that success can

never be guaranteed.

In our own postal survey of UK franchisors we asked what they thought were the greatest threats to a franchise

system’s survival during the first two years. The most frequently cited problems were:

1. Shortage of funds

2. Difficulties with franchisee recruitment

3. Difficulties in building the support network.

So if you intend to grow your business through franchising, there would seem to be two lessons:

� Be prepared to thoroughly research and understand the principles of franchising.

� Make sure that you can quickly arrange extra finance – for example, if system development progresses

more slowly than anticipated.


appendix 1useful contacts/sources

Advice/Information

British Franchise Association (BFA)Thames ViewNewtown RoadHenley-on-ThamesOxon RG9 1HG

Tel: 01491 578049 Fax: 01491 573517

www home page: http://www.british-franchise.org.uk

The Business Link network has numerous offices based around the country, primarily to aid business development, usually free of charge:

“Business Links are open to all businesses great and small and are run by private sector-led partnerships of Training and Enterprise Councils, Chambers of Commerce, Enterprise Agencies, Local Authorities, Government and other providers of business support. They’re staffed by dedicated teams of advisers and specialists committed to help you succeed.”

www home page: http://www.businesslink.co.uk/

The BFA is the single regulatory body for franchising in the UK. It is a non-profit making body responsiblefor developing fair and ethical franchising through its member franchisor companies. The BFA has 160 franchisor members, with more than 10,000franchised outlets, and it also has accredited over 70 professional advisors (lawyers, bankers,accountants and consultants). It publishes guides to help prospective franchisors and franchisees.

Assistance offered:Developing your Business – developing businessplans and strategies.Selling and Marketing – marketing businesses andproducts more effectively.Developing You and Your People – improving skillsand effectiveness of managers and employees.Doing Business Abroad – winning a share of keyoverseas markets.New Ideas, Innovation and Technology – identifyingappropriate new techniques and managingimplementation.Quality – boosting standards of quality andperformance of products, processes and people.IT & Computers – new developments in informationtechnology, computers, peripherals and software.Money and Financial Management – planningfinancial strategies and accessing available funding.Legislation and Regulation – understanding andcomplying with the plethora of complex commercial,employment and financial law and legislation.Starting a Business – supporting start-up business at every stage including information, advice, training and counselling.


Publishers of franchise magazines and directories

Franchise World Magazine: Franchise WorldHighlands House Directory: Franchise World Directory165 The BroadwayWimbledonLondon SW19 1NE

Tel: 020 8605 2555 Fax: 020 8605 2556

www home page: http://www.franchiseworld.co.uk

Franchise Development Services Ltd. Magazine: The Franchise MagazineFranchise House Directory: The UK Franchise Directory56 Surrey StreetNR1 3FD

Tel: 01603 620 301 Fax: 01603 630 174

www home page: http://www.franchise-group.com

Hands Down Publishing Magazine: Business Franchise83-84 George StreetRichmondSurrey TW9 1HE

Tel: 020 8332 9995 Fax: 020 8332 9307

www home page: http://www.businessfranchise.com

Exhibition organisers

Venture Marketing Group The British Franchise Exhibitions111 Upper Richmond Road, (BFA-sponsored)Putney, London SW15 2TJ

Tel: 020 8394 5288 Fax: 020 8785 3388

Research into franchising issues

International Franchise Research CentreUniversity of Westminster35 Marylebone RoadLondon NW1 5LS

Tel: 020 7911 5000 Fax: 020 7911 5059

www home page: http://www.wmin.ac.uk /~purdyd/

Researchers and publishers of academic andcommercial research. The University maintains a website with information about franchising and also showing links to other franchising-related sites,include the International Franchise Association (IFA)

Lloyds TSB

Lloyds TSB Franchise UnitBusiness BankingPO Box 112Canons HouseCanons WayBristol BS99 7LB

Tel: 0117 943 3089 Fax: 0117 943 3990

You can contact us through your business manager/corporate manager or directly on 0117 943 3089

www home page: http://www.lloydstsb.com/success4business

Lloyds TSB Franchise unit maintains a watching brief on the Franchise Industry, helping managersunderstand the special circumstances that bothfranchisors and franchisees are faced with. We arehappy to give help to potential franchisors as well as point you in the direction of specialisedassistance when appropriate. We also maintain adatabase of UK franchisors, accessible viacomputers based at our branches.


Further reading

Franchisors GuideFranchisees Guidepublished by: British Franchise Association

Franchising: A Legal & Commercial GuideBy Gordon D. Harris (1993)published by: Wragge & Co., 55 Colmore Row,Birmingham B3 2AS

International Franchising: A ChecklistLex Mundi World Reports,Supplement No. 12, January 1992

By Andrew C. Selden, Esq.Briggs and Morgan, 2400 IDS Center,Minneapolis, Minnesota 55402, USA

http://www.hg.org/supp12.txt[via Hieros Gamos – Legal and Government Web Site]

The Guide To FranchisingBy Martin Mendelsohnpublished by: Cassell

Taking Up A FranchiseBy Colin Barrow and Godfrey Golzenpublished by: Kogan Page

Both comprise a variety of useful material to informboth sides of franchising – sponsored by Lloyds TSB.

A useful guide to the legal aspects associated withfranchising (116pp, unpriced).

A checklist of issues (over 20pp), including: Goals and Motives (business objectives, methods,options, resources), Feasibility, Legal Barriers(regulatory costs, economic barriers) and BusinessIssues (management issues, economic concerns).

appendix 2further reading


appendix 3British Franchise Association membership criteria

In joining the British Franchise Association, Members, both Associate and Full, commit themselves to comply

with the terms of the following policies and procedures as published by the Association:

� the Code of Ethical Conduct

� the Disciplinary Procedure

� the Complaints Procedure

� the Appeals Procedure

� the Terms of Annual Re-Accreditation.

Members also agree to comply with the Code of Advertising Practice as published by the Advertising

Standards Authority.

In addition Members also agree to provide to the Association any non-confidential information relating to their

franchise business, or relating to the standing and qualifications of its Directors, as may be requested by an

authorised official of the Association.

Members also agree to provide a full-time official of the Association, so authorised by Council, access (at reasonable

times and on reasonable notice to confidential information relating to the franchise and its standing, on the

understanding that such information remains confidential to the authorised official.

The Association offers a conciliation service and an Dispute Resolution Scheme which is available to franchisors

and franchisees who jointly agree to use the service.

Members of the Association also seek to comply with the spirit and intent of the Guidelines to Best Practice

as published by the Association from time to time.

In respect of both the foregoing general conditions of Membership, and the following specific terms, whilst the

Association will use its best endeavours to establish the eligibility of an applicant, the onus for demonstrating

that the criteria have been met on initial accreditation or re-accreditation lies finally with the applicant.

Summary of membership criteria and categories1. Viable

2. Franchisable Associate

3. Ethical and Full Members

4. Disclosed}

5. Proven trading and franchising record Full Members

The following specific terms of Membership apply to both Associate and Full Members. Each term sets out a

general condition that the applicant must fulfil. Each general condition is followed by examples of how applicants

will ordinarily be expected to demonstrate that the condition has been met.


1. Demonstrate that the Business itself is Viable – The production of 24 months recent audited accounts,

including trading accounts, which show that the business is capable of being run at a profit that will support

a franchised network.

2. Demonstrate that the Operating Units in the Business can be Successfully Replicated – The production

of 12 months recent audited accounts for a managed arms-length pilot franchise, or a fully fledged pilot

franchise, which show a trading performance at least in line with the business plan set for it and which

is supported by a developed operating system.

3. Demonstrate that the Contractual Terms to be offered to Prospective Franchisees comply with the

Association’s Code of Ethical Conduct and such other terms as it may publish from time-to-time –

Lodge with the Association for its accreditation, and to be available for inspection by appointed franchisees,

a copy of the then current agreement and any changes thereto.

4. Demonstrate that the Offer Documents to be used with Prospective Franchisees Present a Full and

Realistic Picture of the Franchise Proposition – Lodge with the Association for its accreditation, and to be

available for inspection by appointed franchisees, a copy of the then current offer documents and any

changes thereto.

Applicants who comply with the foregoing general conditions of membership and the specific terms 1 to 4 set

out above will be eligible for admission as an ‘Associate Member of the British Franchise Association’.

Applicants who comply with the following, additional specific condition will be eligible for admission as a

‘Full Member of the British Franchise Association’. Associate and Full Members may refer to themselves as such

in their offer documents, advertising and other published material. Only Full Members are entitled to use the

Association’s logo.

5. Demonstrate that the Franchise Network has Developed over Time with a Proven Trading and Franchising

Record – Provide a record of franchise openings, withdrawals and disputes (which required external

intervention to resolve) together with evidence of the profitability of individual units and of the network as

a whole sustained over a period of 24 months.

Franchise operations which form part of a larger group or company will be required to submit evidence

concerning the franchised network, on a confidential basis if necessary, which is confirmed by a Director of the

company as representing a true and fair picture of the franchised network. Additionally such franchised operations

will be required to provide a statement from the holding company or group confirming its intention to maintain

the franchised operation for at least the forthcoming year.

Overseas Franchisors franchising directly into the UK, and the Master Licensee of Overseas Franchisors are

eligible to apply for Associate or Full Membership in respect of their UK operation. Additionally Overseas

Franchisors seeking only to operate through a Master Franchisee are eligible to apply for ‘Overseas Membership’.

To gain admission their overseas operation must comply with the general conditions of Membership and the

specific conditions applicable to a Full Member (excepting any terms of the Association’s Code of Ethical Conduct

which would not be recognised by an Association of similar standing in the Country concerned). July 1990.


appendix 4sample cash flow forecast

The following cash flow example is not intended to represent any given franchise system, but is to illustrate the

timing and extent of the finance that might be needed when launching a new system. A ‘worst-case’ scenario has

also been included to convey an indication of the additional finance that would be needed to allow the system to

continue until it reached ‘break-even’.

At the outset, it has been assumed that the owners invested £100,000 in the system and also obtained a 5 year

loan of £150,000. If everything goes as expected, then a peak borrowing requirement of a further £199,000 will

be needed. Alternatively, if the ‘worst-case’ outcome materialised, then the peak requirement will rise to £345,000.

Other assumptions� Franchisee initial fee £8,500 plus VAT.

� Franchisee ongoing fees (management service fees) 7% of turnover.

� Franchisee sales turnover:

Year 1 £100k

Year 2 £120k

Year 3 £140k

Year 4 £155k

Year 5 £165k

Year 6 £175k

Year 7 £185k.

� All franchisees open at the start of each year, rather than the usual phased openings.

� Variation for worst case, income –10%; costs +10% from Year 2 onwards. No franchisee opened in Year 1.

� Two year capital repayment holiday on 5 year bank loan.

� No failures of franchisees.

� All figures rounded to nearest £1,000 for clarity.


Expected scenario Set-up period Year 1k Year 2k Year 3k Year 4k Year 5k Year 6k Year 7k

Franchisees recruited 1) 4) 8) 13) 15) 11) 8)Total franchisees 1) 5) 13) 26) 41) 52) 60)

ReceiptsFranchise fees (initial) £10k) £40k) £80k) £130k) £150k) £110k) £80k)Management service fees (from franchisees) £7k) £15k) £99k) £208k) £348k) £476k) £591k)Owners’ share capital £100kBank loan (5 year term) £150k

Total receipts (A) £250k £17k) £55k) £179k) £338k) £498k) £586k) £671k)

PaymentsCapital expenditure £35kDevelopment expenditure £150kFranchisee recruitment costs £3k £20k) £24k) £39k) £45k) £33k) £24k) £24k)Loan repayments (24 month capital repayment holiday) £50k) £50k) £50k)Loan interest £15k) £15k) £10k) £5k) £2k)Direct costs £4k) £20k) £52k) £104k) £164k) £205k) £240k)Staff costs £44k) £49k) £71k) £74k) £79k) £84k) £104k)Overheads £20k) £22k) £30k) £31k) £32k) £32k) £40k)ACT (Advance Corporation Tax) £20k)VAT (£26k) £6k) £12k) £20k) £23k) £17k) £12k)Professional fees £2k) £4k) £8k) £13k) £15k) £11k) £8k)Dividends £100k)Overdraft interest £4k) £6k) £7k) £5k) £3k)

Total payments (B) £188k £79k) £144k) £278k) £349k) £403k) £376k) £548k)

Net cash flow (A) – (B) £62k (£62k) (£89k) (£99k) (£11k) £95k) £210k) £123k)Opening balance £62k) £0k) (£89k) (£188k) (£199k) (£104k) £106k)

Bank balance credit (overdraft) £62k £0k) (£89k) (£188k) (£199k) (£104k) £106k) £229k)

Worst case scenario (see accompanying notes for explanation)

Total receipts (C) £250k £50k) £161k) £304k) £448k) £527k) £604k)Total payments (D) £188k £80k) £156k) £305k) £381k) £439k) £410k) £436k)

Net cash flow (C) – (D) £62k (£80k) (£106k) (£144k) (£77k) £9k) £117k) £168k)Opening balance £62k) (£18k) (£124k) (£268k) (£345k) (£336k) (£219k)

Bank balance credit (overdraft) £62k (£18k) (£124k) (£268k) (£345k) (£336k) (£219k) (£51k)


appendix 5franchisee diagnostic questionnaire

IntroductionThe question of who will make a good franchisee is one which exercises the minds of all franchisors.

The statements below, plucked from various franchise articles, quite clearly spell out the overriding importance

of franchisee selection:

� “Franchising is a partnership. A franchise’s major asset, once established, is its franchisees.”

� “A model franchise company will recruit as franchisees people who are not only qualified financially, but also

by ability, energy and enthusiasm to make the most of the opportunity available to them.”

� “Setting up a franchise is less difficult than managing it later on – you have to live with your earlier mistakes

and a lot of those are people you pick when the urge for rapid growth takes over from all other considerations.”

Picking winnersPicking winners is not a simple task and the difficulties inherent in the situation tend to be compounded by a

number of additional factors:

� Most developing franchises have much in common with the typical small firm, in that they have only a few

key staff members undertaking a multitude of tasks. These may be very able and committed people but,

usually, none of them is expert in the field of personnel selection and management, which is the relevant

specialism here.

� Some franchisors may feel that they can rely on ‘instinctive’ or ‘gut’ feelings to signal good or bad franchisee

prospects. Just as few people would admit to being a bad driver, so they feel it reflects badly upon them to

admit to difficulties in selection of personnel.

� Very often people fall into the trap of looking for people exactly like themselves when what they may be best

advised to do is look for people who complement rather than duplicate their own abilities and weaknesses.

� In as much as franchising is a team effort, one of the key front line teams is the franchisee husband/wife team.

If this team is not operating effectively, then a source of potential strength can descend into a weakness.

Costs and conversionsFor businesses having four or more years experience of franchising, research has indicated that nearly 60 per cent

report an average recruitment cost in excess of £5,000 per franchisee (1994 prices).

This cost is a reflection of appreciable numbers of applicant rejections and most of the more professional franchise

companies convert no more than 4 per cent of initial enquiries for franchise prospectuses into sales. Even this

is judged by some to be, if anything, on the high side with 2 per cent being a better target figure. But why should

this figure be so low?

One reason is that self-employment is a pipe-dream for quite a large army of people who like to indulge in

‘half-way-house’ experiences. They may subscribe to small business magazines, attend seminars, join business

clubs and, in this way, get an arm’s-length thrill of a ‘share of the action’.

Some of these people may, eventually, take the plunge, should they lose their job, or come into money, etc.

But, in the meantime, they are not serious prospects.


Another reason is that self-employment is a widely held desire in our society, albeit one that is often associated

with very little knowledge of precisely what is involved. Grand notions abound of independence – ‘doing your own

thing’, ‘no one looking over your shoulder’, ‘being able to play a round of golf midweek when the course is empty’.

Thus, the bait is strong enough to at least initially interest a great many people.

Finance is often thought to be no great problem by potential franchisees since, as they see it, the clearing banks

exist to address precisely this problem. However, many prospects will never have raised bank loans before and

the idea of having to offer security or collateral (their house perhaps) can often come as a shock to them.

PsychologistsSome psychologists have made an industry out of attempting to devise tests which will predict those likely to

make a success of running their own small business and those who are unlikely to do so. Whilst success in the

field of psychological profiling here has been very limited, it is perhaps worth mentioning a couple of the more

hopeful approaches.

Probably the best known is that associated with Professor McClelland and his attempts to measure

‘achievement-need’, or ‘the desire to do well for the sake of an inner feeling of personal accomplishment’.

In the 1960s this was used in many countries for selection and training purposes but, after some initial

claims of success, has come in for increasing criticism.

Another psychological test is the so-called ‘locus of control’, which is based upon the proposition here that

potentially, entrepreneurs will have a high ‘locus of control’ or, in other words, believe that they can control their

own behaviour and that their behaviour determines what happens to them. Put simply, this amounts to a belief

that they control their environment rather than the reverse. Again, there have been some successes claimed here

but ‘locus of control’ testing is still not widespread in the field of entrepreneurial selection. Also, knowing that

many people who become self-employed have been ‘pushed’ by environmental circumstances, e.g., redundancy,

a ‘locus of control’ test would not appear very appropriate.

There appears to be a common misconception amongst franchisors that franchisees are very different animals

from conventional independent small business people. However, research shows that around one-third of

franchisees have previously been conventional small business people and around half of all potential franchisees

attending franchise exhibitions have current or previous experience of conventional self-employment.

Looking through the eyes of potential franchiseesIt is important to keep in focus the goals of potential franchisees. Their prime aim in life is not, and will never be,

to make your firm ‘the biggest in its market’. Potential franchisees will have their own goals and these will vary

with their past experience.

For instance, we now know that people without any previous experience of self-employment have goals

practically identical to most other people in their situation. Thus, their main goal is the search for independence

and autonomy, achieved through structuring their own time and efforts rather than being directly supervised

and controlled by others.

For potential franchisees with previous experience of self-employment, the lure of franchising as a proven

business system takes prominence. Thus, goals such as ‘security’, ‘access to a known tradename’ and

‘business backup’ assume great importance.

Some guidelines for the franchisorSome franchise companies may wish to explore the possible advantages of psychological profiling in depth.

If so, they would be well advised to seek specialist help. Short of this, what do the lessons of research and

management theory generally hold to assist the franchisor in improving franchisee selection methods?


In a nutshell, they offer three main messages for the franchisor:

� First we know that people who have either first hand experience of self-employment themselves or, alternatively,

come from a family which has such experience, are statistically more likely to take up franchises than people

randomly drawn from the population. Thus, ensure that you are addressing this question at an early stage.

� Make use of standard personnel selection techniques to ensure that your interview and selection techniques

are as scientific as possible and protect you against subjective or whimsical judgements. For instance,

you should develop a proper franchisee role description outlining the purpose, functions, responsibilities,

conditions and prospects linked to the role.

� Then, you should have a proper franchisee specification which should outline the kind of person best suited

to the role. This document should be based upon the answers to two questions:

– which attributes are essential in a franchisee and

– which are desirable.

� In addition to the above, you should develop your own diagnostic questionnaire schedule, suited to your own

franchise operation (see below).

Whilst it remains true that there is no single foolproof formula, or litmus paper test, that will guarantee a

franchisor 100 per cent success in selecting good franchisees, the more scientific the approach used, the better

your choices should be, thus bringing long-term benefits for franchisors and the franchise network. The remainder

of this paper will concentrate upon assisting franchisors to develop their own diagnostic questionnaire schedule.

The diagnostic franchisee questionnaireThe following diagnostic questionnaire was developed by Professor John Stanworth of the University of

Westminster’s International Franchise Research Centre. It can be used in exactly the form outlined below or,

alternatively, can be modified to fit any franchise company’s precise needs.

When should it be used?

The timing of the franchisor’s use of the Diagnostic Questionnaire can be organised to suit the needs of individual

companies but the possibilities are numerous:

� It can be sent out with the company’s initial information pack as part of a first response to enquiries.

This can have the advantage of making prospects think through their own position whilst spelling out some

of the issues involved in being a franchisee. This initial educational function can be useful in ‘cooling down’

some of the ‘dreamers’. Franchisors might even suggest that potential franchisees not only complete the

exercise for themselves but also get other people who know them to complete it for them as an aid to

checking out the image others have of them. Both versions should then be returned to the franchisor for

discussion at the interview stage.

� Its use can be delayed until, say, the first interview stage when the franchisor has the choice of allowing the

prospective franchisee to complete it in private unprompted, or with the franchisor administering it as part of

a face-to-face interview.

� It can be used when discussions are well advanced and then used to the advantages of both parties as an

additional check of their understanding of one another.

Which of the above alternatives is preferable depends on the franchisor’s other selection/recruitment techniques

but, on balance, the first probably has most to offer since it makes the prospective franchisee think through

his/her situation as well as providing the franchisor with valuable information later on.


Questions

Twenty questions are listed below and these are designed to get the potential franchisee to analyse his/her ability to:

� Cope with the isolation of self-employment (Q1)

� Exercise self-discipline (Q2)

� Work long hours under pressure (Q3)

� Learn from failures (Q4)

� Compete with self-imposed standards (Q5)

� Take unpopular decisions (Q6)

� Resist impetuous or emotional behaviour (Q7)

� Take a balanced view of events (Q8)

� Tolerate uncertainty (Q9)

� Accept advice (Q10)

� Demonstrate financial viability (Q11)

� Demonstrate support of spouse (Q12)

� Demonstrate enterprise background (Q13)

� Demonstrate profit motivation (Q14)

� Demonstrate sales orientation (Q15)

� Demonstrate receptiveness towards franchisor’s training (Q16)

� Demonstrate growth orientation (Q17)

� Demonstrate a favourable attitude towards task delegation (Q18)

� Take the long-term view (Q19)

� Demonstrate belief that individuals can ‘make things happen’ (Q20)

Interpreting replies

The marking scheme, contained in the body of the questionnaire and presented in square brackets [ ], should,

in practice, be separated out if the franchisor does not wish the prospective franchisee to be able to conduct

his/her own marking. A good score for the exercise in its present form would be 25+ of a possible maximum

score of 40 marks. It is worth remembering that no exercise like this can ever be totally efficient in predicting

success. It is essential that it is used in association with other personnel management techniques. With that

proviso, it should pay good dividends.

The twenty questions, along with marks in brackets [ ] are presented overleaf. These are ‘forced choice’ questions

where the respondent is asked to opt for one of a choice of 3 possibilities: (a), (b) and (c) on each of 20 questions.

This ‘forced choice’ format is designed to stop people sitting on the fence. It is quick and easy to administer,

whilst giving the franchisor leads on issues that can be followed up in greater detail later.

If you the franchisor wish to use this exercise essentially to inform a prospective franchisee of whether or not they

are likely to be suitable material, you may provide them with the marking scheme to facilitate self-assessment

and, in the process, allow them to see which statements are regarded favourably by you, in terms of relevance

to your franchise.

On the other hand, if the main reason for running the exercise is to get information from the prospective

franchisee in as accurate a form as possible, you the franchisor should mark the completed questionnaire.

If the prospect does not know which statements carry most marks, he/she is less likely to be tempted to

deliberately select the statements attracting most marks. It is worth, in any case, stressing the point that

giving dishonest answers in order merely to accumulate points is a fruitless exercise from all points of view.


Twenty questions

Q1 Are you regarded by those who know you as:

(a) Generally a fairly self-contained person? [2](b) Generally a rather gregarious person? [0](c) Somewhere in between (a) and (b)? [1]

Q2 Are you regarded by those who know you as:

(a) Frequently frustrated by tasks you find boring? [0](b) Able to endure a reasonable amount of boredom and frustration? [1](c) Generally good at concentrating on whatever tasks face you? [2]

Q3 Would you say that:

(a) You possess an excess of mental and physical stamina and enjoy excellent health? [2](b) You find that you tire easily if you work long hours and your health is not always of the best? [0](c) You estimate that your health and stamina are about average for a person of your age? [1]


(a) You find mistakes and setbacks very demoralising? [0](b) You feel that mistakes can be a very useful way of learning as long as they are not repeated? [2](c) You try to learn from your mistakes but often find it easier said than done? [1]

Q5 Which of the following most accurately describes you?

(a) You set yourself targets and almost obsessively chase after them? [2](b) You get fed up if you find yourself ‘on the go’ all the time? [1](c) You like to take life at a modest pace and respond to pressures as and when they arrive? [0]


(a) You find it almost impossible to make tough decisions, particularly if they involve people? [0](b) You can make tough decisions when necessary but it takes a lot out of you emotionally? [1](c) You see tough decisions as a fact of life – you don’t necessarily enjoy them but, on occasions,

see no alternative? [2]


(a) You do not suffer fools gladly and make little effort to hide your feelings? [0](b) You have notable patience and self-control? [2](c) You are situated in between positions (a) and (b)? [1]


(a) Your mood is very influenced by events? [0](b) Your mood is very little influenced by events? [1](c) You tend to adopt a policy of ‘taking the rough with the smooth’? [2]

Q9 Are you regarded by people who know you as:

(a) A person who needs to know exactly where they stand? [0](b) A person who can live with uncertainty? [2](c) A person who can endure a reasonable amount of uncertainty? [1]

Q10 If you go into business would you:

(a) Resent people who appear to be telling you how to run your own business? [0](b) Regard the views of others as a potential source of useful information and guidance? [2](c) Be willing to listen to others when you had the time but likely to ‘take it all with a pinch of salt’? [1]

Q11 Would you say that your total personal assets and savings together:

(a) Exceed the full buy-in cost of the franchise? [2](b) Exceed two-thirds of the full buy-in cost? [1](c) Amount to less than two-thirds of the full buy-in cost? [0]

Q12 Do you feel that your spouse:

(a) Feels that how you earn a living is very much your own affair? [0](b) Would prefer to see you doing something you enjoy? [1](c) Is very keen on you taking a franchise and willing to back you very strongly? [2]


Twenty questions continued

Q13 Which of the following is true of you?

(a) There is no prior history of self-employment in your family involving either yourself or close relatives? [0](b) Though you have not personally been self-employed previously, there is some history of

self-employment in your family via close family and/or relatives? [1](c) You have personally been self-employed previously? [2]

Q14 Is your main reason for wanting to be a franchisee:

(a) To achieve a good standard of living? [2](b) Because most of the alternative options for making a living appear closed? [0](c) For the independence and autonomy involved in having your own business? [1]

Q15 Do you feel that, in taking a franchise:

(a) You would have a tried and tested product/service which should sell itself? [0](b) No matter how good the product/service, customers still respond to sales effort? [1](c) Selling would still be a key activity? [2]

Q16 Is your prior work experience:

(a) Unrelated to the franchise in question? [0](b) Very closely related to the franchise in question? [2](c) Marginally related to the franchise in question? [1]

Q17 In running your own business, would you:

(a) Prefer to stay small? [0](b) Wish to grow as big as circumstances allowed? [2](c) Just grow to a size where you could begin to take more time out of the business? [1]

Q18 Do you feel that:

(a) To get a job done properly, you must do it yourself? [0](b) Delegation allows you to spend more time doing what you are best at? [2](c) Delegation is a necessary evil? [1]

Q19 Do you feel that it usually pays to:

(a) Take a long-term view of things? [2](b) Make hay whilst the sun shines? [0](c) Adopt the medium-term view? [1]

Q20 Do you feel that

(a) Your future lies largely in your own hands? [2](b) You can at least partly influence your own future? [1](c) The individual is merely a puppet on the end of a string and can do little to influence events? [0]

The points behind the questionsTo add more ‘meat to the bone’, what follows here is a more detailed background on the issue being investigated

in the questions above:

Q1 Franchisees need to be able to survive feelings of isolation. In contrast to being an employee, they have no

immediate boss, or peers, who can give help, advice or moral support.

Q2 Franchisees need to be able to exercise self-discipline. In running their own business they will be responsible

for a wide range of tasks. Some of these will almost certainly prove satisfying whilst others will prove highly

frustrating. The franchisee will be responsible for allocating his/her own time and can, at their peril,

neglect tasks such as paperwork, financial control, invoicing and chasing payment. Although these tasks

are sometimes viewed by franchisees as stopping them from getting on with the ‘real job’ of producing and

selling, no business can survive without them.


Q3 Franchisees will usually need to work harder than they have ever worked before. This requires both mental

and physical stamina. In the early days of building up a franchise, there will be little time for leisure activities,

holidays or illness. Some advisers go as far as recommending that anyone considering setting up in business

should consult their doctor first.

Q4 Franchisees need to be able to learn from failure. Disappointments are inevitable in business and can lead

to demoralisation. A good businessman/woman, however, must possess the resilience to survive setbacks

and learn from them.

Q5 Franchisees need to be able to compete with self-imposed standards. When working on your own, targets

and standards need to be set which act as goals reinforcing motivation. If these goals are set too low they

will have little motivating value. If they are set unrealistically high, they will not be achieved and a sense of

failure and demoralisation will result. Thus, modestly ambitious, though not unrealistic, goals need to be

set and used as markers of achievement.

Q6 Franchisees need to be able to take unpopular decisions. It is impossible to remain popular at all times and

any attempt to do so is likely to have costly consequences for your business.

Q7 Franchisees must be able to resist impetuous or emotional behaviour. It is tempting, especially when you are

your ‘own boss’, to exercise the associated independence by reacting to frustration in what might later be

seen as a whimsical manner that is not in the longer term interests of the business. This may be emotionally

satisfying in the short term but should be resisted at all costs.

Q8 Franchisees should be able to take a balanced view of events. In business it is easy to yield to the temptation

of feelings of euphoria or depression in response to good or bad news. This can prove extremely stressful

and wearing. A successful businessman/women needs to be able at all times to take a a balanced view of

events and to set an attitude of ‘taking the rough with the smooth’.

Q9 Franchisees, running their own outlets, need to have a facility for surviving uncertainty. The setting up of a

new business entity is a creative venture and requires a facility for coping with ambiguity. People with a low

stress tolerance may find difficulty in running their franchise.

Q10 Franchisees must have a facility for taking advice. Having gone into business with ‘independence’ one of

their main goals, franchisees need to avoid maximising that independence by resisting advice whether it be

from the franchisor or some other expert source.

Q11 Franchisees must demonstrate financial ability. Though the clearing banks tend to lend to would-be franchisees

more readily than to would-be conventional small business start-ups, it needs to be remembered that all

loans have to be repaid, with interest. A large financial repayment overhead in the early days of trading can

impose additional pressures.

Q12 Franchisees should, ideally, be able to demonstrate support from their spouse. Most franchise outlets work

long hours involving domestic disruption. Anything less than positive spouse support here can have very

negative consequences.


Q13 Franchisees should, ideally, be able to demonstrate an enterprise background. Despite the desire for

self-employment being quite common, only a minority make the jump from aspiration to reality. Those who

have previous direct experience of self-employment or, alternatively, have a close relative self-employed

(usually a father) appear to find the transition easier. Some evidence exists to suggest that they may also

be more successful in terms of business growth.

Recent analysis suggests that newer franchisors are keen on franchisees having prior experience of

self-employment, but franchisors with a longer track-record are less inclined to do so.

Q14 Franchisees should demonstrate profit motivation. Amongst small business people generally, profit

motivation is of a relatively lower order than other goals such as independence and autonomy.

Profit motivation tends to promote greater growth.

Q15 Franchisees should demonstrate sales orientation. Despite national advertising and promotion of brand

awareness by the franchisor, sales skills on the part of the franchisee can still make a substantial difference

to levels of local market penetration. Local advertising and good interpersonal skills and service at the

customer interface can be crucial.

Q16 Franchisees should demonstrate receptiveness towards the franchisor’s training. Franchisors are inclined to

the view that ‘starting with a clean sheet’ is the best basis for initial training rather than competing with

previous training that a potential franchisee may already have previously received in the field of operation.

Q17 Franchisees should demonstrate growth orientation. The income of the franchisor is directly related

to the growth of franchisees. Thus, franchisees easily satisfied with low levels of growth may require

considerable motivation.

Q18 Franchisees should demonstrate an ability to delegate rather than attempt to undertake all jobs themselves.

Failure to delegate will limit business growth and lead to the franchisee spending time on tasks that could

be performed by less key staff.

Q19 Franchisees must be capable of taking the long-term view. In an economy suffering endemic ‘short-termism’,

long term planning and goal setting is likely to pay dividends by giving an edge over the competition.

Q20 Franchisees should have an ability to ‘make things happen’. People with an ‘internal locus of control’ tend to

believe they personally can influence their environment. This belief can become a self-fulfilling prophecy.

Change to suit your companyObviously, any company using this technique can add additional questions, drop others and even reallocate the

points on certain questions in line with their own specific requirements.

By way of example here, Q1 refers to the ability of an individual to cope with feelings of isolation. Depending upon

the precise nature of your franchise, and also the stage of its development, this factor may be upgraded or reduced

in its importance. Also, many franchisors express a preference for potential franchisees coming from outside the

line of business in question. Others, however, may see advantages in recruiting people from similar lines of

business (Q16). Further, some companies look for franchisees who are very ambitious and wish to grow (Q17).

Others, selling what may be called ‘job franchises’ better suited to a one-person operation, may feel that such

ambition could be stifled or counterproductive.

Changing the points scheme to accommodate such in-house preferences is a relatively simple matter.


appendix 6outline franchise agreement

Main headings and notes

This has been derived from an agreement intended for use by a company acting as franchisor and wishing to

enter into a formal agreement with an individual or a partnership as a franchisee.

The original agreement was developed by Wragge & Co., solicitors based in Birmingham. The notes are based

on a commentary in ‘Franchising: A Legal & Commercial Guide’, prepared by a partner in the firm, Gordon Harris.

It should be noted that the exact wording in any agreement will be strongly influenced by the circumstances of

the given franchise system.

This is only a specimen and prospective franchisors should seek independent legal advice from a lawyer

experienced in franchising.

Clause headings:

1 Definitions

2 Grant of the franchise

3 Duration of this Agreement

4 Renewal of this Agreement

5 Payment

6 What the Company must do

7 Intellectual property, trade marks

8 Records and accounts

9 Equipment and products

10 Control of standards and training

11 What the franchisee must do

12 Marketing, advertising and promotion

13 Insurance and vehicle formalities

14 Improvements

15 Force majeure

16 What happens if the franchisee wants to sell the business

17 What happens if the franchisee is ill, becomes physically or mentally

incapacitated or dies

18 Termination of the Agreement

19 What happens after termination

20 Restrictions after termination

21 Partnership and agency

22 Waiver

23 Incorporation

24 Entire Agreement

25 Independent advice

26 Notices

27 Severance

28 Law and jurisdiction

29 Set-off

30 Restrictive Trade Practices Act and Schedules


1 Definitions

Contains descriptions and meanings of important expressions, such as the ‘advertising fund’, ‘franchise fee’,

‘intellectual property’, ‘know-how’, ‘marketing materials’, ‘management services fee’, ‘premises’, ‘operations

manual’, ‘territory’ and ‘training’.

Also, ‘Substantial Term’ means a term or condition of the agreement which is listed in an appended schedule

and which is considered to be of particular significance.

2 Grant of the franchise

This additionally notes that an exclusive territory is not being granted to the franchisee (should the franchisor later

‘reasonably consider’ that a single franchisee cannot service the given territory, then the franchisor has the right

to reduce the size of that territory). The franchisee may not sub-franchise or use the premises for other purposes

without prior consent.

3 Duration of this Agreement

An initial term might be five years, with one or more options to renew for a similar period. The provisions for

termination are shown later in the agreement.

4 Renewal of this Agreement

Requires careful drafting not only to permit the removal of recalcitrant franchisees, but also to provide an incentive

to renew for those who comply substantially with the agreement. The BFA’s code of ethics provides that no fee

should be paid on renewal.

5 Payment

This covers the ongoing management services fee and also any payments towards advertising funds. Also specified

will be the steps that the franchisor will be allowed to take in the event of late payment by the franchisee.

6 What the Company [franchisor] must do

The franchisor’s obligations are described so that the franchisee can assess what support he or she will get.

An active interest in the franchisee, by the franchisor, should be to the benefit of both parties. It commits the

franchisor to provide the initial and subsequent training, and also to supply an operations manual. Marketing

support is to be supplied as the franchisor thinks appropriate, but franchisee requests for such support will be

met only at the franchisee’s expense. National and/or local meetings for franchisees are to be provided at the

franchisor’s expense (but excluding the franchisee’s out-of-pocket expenses).

7 Intellectual property, trade marks

An important section, setting out the franchisor’s intellectual property rights and the licensing of the same to the

franchisee. The franchisee is not to infringe these rights – for example, by trading using a ‘confusingly similar name’

– and he/she must acknowledge the confidentiality of the operations manual and any associated ‘know-how’.

8 Records and accounts

The main purposes of this section are to determine the operating efficiency of the outlet and to deter/detect fraud.

This will require the franchisee to maintain ‘full and accurate’ records, and also to provide the franchisor with

regular management accounts and a copy of any VAT returns submitted by the franchisee to H.M. Customs & Excise.

9 Equipment and products

Requires the franchisee to purchase goods and services from nominated suppliers, but the use of alternative

suppliers of at least a comparable standard and cost may be permitted, at the franchisor’s discretion. The franchisee

is required to purchase or lease additional equipment as the franchisor considers reasonably necessary. Inspections

of the franchisee’s operation by the franchisor are permitted at any time, without notice. Minimum prices to

customers are to be recommended, but not set, by the franchisor, except in the case of ‘national account customers’.


10 Control of standards and training

As one of crucial importance, this section is considered to be a ‘substantial term of the agreement’, whereby a

failure to comply can lead to the franchisee being removed.

The franchisee must comply with all of the procedures set out in the operations manual. Premises must be kept

clean and tidy, and such as refurbishment and alterations reasonably stipulated by the franchisor are to be made

at the franchisee’s expense. Employees of the franchisee failing to maintain the requisite standards must be

removed. Failure by the franchisee to reach the minimum standards necessary to successfully complete the initial

training programme results in the franchisor having the right to terminate the franchise agreement, however,

the franchisee will usually receive a predetermined part-refund of fees. Changes to the nature of the business,

introduced by the franchisor and requiring additional franchisee training, will be provided at the franchisor’s

expense (but will not cover ‘out-of-pocket’ expenses, such as salaries, travelling or accommodation).

All ‘material’ customer complaints are to be notified to the franchisor. Inventory (equipment) and stock checks are

to be conducted at a specified frequency.

11 What the franchisee must do

The franchisee’s main obligations are noted here, including a requirement to comply with the operations manual.

He/she must “devote whatever time and attention to the Business as is necessary to carry out and procure the

greatest volume of business consistent with the provision of a good service to Customers”, and do “everything that

he/she possibly can to promote and expand the Business”. The franchisee must not compete with the franchisor,

nor borrow money using the franchised outlet’s business as security without prior consent. Comprehensive customer

records are to be maintained, for supply to the franchisor upon request. Cover for the franchisee is to be arranged

in case of absence and prior permission is to be obtained if any self-employed person is to be engaged.

12 Marketing, advertising and promotion

The advertising fund is to be used as the franchisor thinks fit, but an audited report will be available to franchisees

upon request. Prior permission will be needed for the use of ‘non-standard’ marketing material by the franchisee.

13 Insurance and vehicle formalities

A copy of each of the franchisee’s insurance certificates and policies is to be supplied to the franchisor, or the

franchisor themselves may set up a group policy and the franchisee may be expected to participate in that.

14 Improvements

All suggestions for improvements to the franchised service must be supplied to the franchisor. The rights to any

improvements will be licensed on a perpetual worldwide royalty fee basis.

15 Force majeure

In the event that either party is prevented from complying with the terms of the agreement and/or operating the

franchised outlet for reasons beyond their control – such as the usual ‘war, act of God, national emergency’ types

of occurrences – it is important that they are able to withdraw from the agreement and mitigate their losses.

16 What happens if the franchisee wants to sell the business

Prospective purchasers need to be just as strictly vetted as the original franchisee, and so the franchisor’s prior

consent is required. So, when framing the conditions here, a balance has to be reached, whereby there is still an

incentive for the franchisee to build up the value of the business so that it can be sold on, whilst also ensuring

that a reliable and effective replacement is introduced.


Permission to sell is not to be ‘unreasonably withheld’ by the franchisor, provided that the necessary conditions

are met. No information in the operations manual or any other ‘know-how’ can be conveyed to a prospective

purchaser until a confidentiality agreement has been signed. The franchisee is liable to pay the franchisor’s legal

and other expenses associated with the transfer, and also 5 per cent of the purchase price to the franchisor

in respect of administrative expenses. If the franchisor is asked to find a suitable candidate, then a reward of

15 per cent of the purchase price (including the 5 per cent for administrative expenses) will be paid to the

franchisor. Also, the franchisor will be given the option to purchase the franchise outlet on the same price and

terms as the proposed purchaser.

17 What happens if the franchisee is ill, becomes physically or mentally incapacitated or dies

For the franchisor, there is a need to ensure that the franchise outlet continues to function if the franchisee is

incapacitated. Nonetheless, the franchisee needs to ensure that his business interests are not unduly compromised.

In the case of illness rendering him/her unable to operate the franchised outlet, the franchisee must notify the

franchisor and appoint an approved stand-in. In the absence of a stand-in being appointed, the franchisor is

entitled to appoint someone else to ensure that the franchised outlet continues to operate as normal.

Permanent incapacity would mean an inability to operate the outlet satisfactorily for a period of 6 months or longer.

Should this arise, the franchisor will be able to terminate the agreement or purchase the franchised outlet at an

agreed market value less 20 per cent.

18 Termination of the Agreement

Careful consideration is needed to ensure that there is a clear distinction between those circumstances which

warrant an immediate termination, and others which will allow time for the franchisee to remedy any breaches

of the agreement.

Circumstances warranting immediate termination include: breach of a ‘substantial term’ by the franchisee,

failing to open the outlet as agreed, the termination of any licence needed for the outlet to function, the franchisee

ceasing or threatening in writing to cease operating the outlet, the franchisee being convicted of a criminal offence

which materially affects the outlet, the franchisee being served with a genuine bankruptcy petition, or the

franchisee providing false or misleading information to the franchisor.

19 What happens after termination

Should the need arise, it is important that upon termination the franchisor is in a position to operate the outlet

itself immediately, so as to avoid the system falling into disrepute or being perceived as ailing.

All monies owed to the franchisor by the franchisee must be paid immediately. The franchisee is to provide

the franchisor with a list of customers and existing contacts. The operations manual and any copies are to be

returned to the franchisor.

20 Restrictions after termination

During the life of the agreement, the franchisor will probably have divulged substantial information about itself,

its finances and vital details required for the efficient operation of a retail business. This presents an opportunity

for the former franchisee to become a significant competitor to the franchisor, and so ‘restraint of trade’

conditions are applied.

The franchisee agrees not to be engaged in another business, in any capacity, which competes with the franchisor’s

business in the designated territory for a fixed period, e.g. within 6 months of termination. The franchisee must

not solicit business from any customer of the franchise outlet within 24 months of termination. Also, the franchisee

must not disclose any information about the franchisor or copy any part of the operations manual to any third

party at any time after the termination.


21 Partnership and agency

A barrier between the franchisor and franchisee is needed, so as to prevent a franchisee’s financial liabilities

falling upon the franchisor. “This Agreement does not constitute a partnership between the Company [franchisor]

and the Franchisee. The Franchisee must act solely as an independent trader and must not act or purport to act

as an agent for the Company.”

22 Waiver

A clause is shown here to protect either party’s right to pursue a remedy for a breach of the agreement which

was previously overlooked.

23 Incorporation

Subsequent incorporation of the outlet by the franchisee as a limited liability company is only possible with the

prior permission of the franchisor.

24 Entire agreement

That for the avoidance of any doubt, this clause makes it clear that only the agreement itself together with

any documents incorporated in it by reference, apply to the franchisor/franchisee relationship and that any

representations or statements made by the franchisor prior to the signature of the agreement are not binding

on the franchisor save for those which have been made fraudulently.

25 Independent advice

“The Franchisee acknowledges that he has been advised by the Company [franchisor] to take independent

professional advice on the terms of this Agreement and his purchase of the Business, prior to entering into

this Agreement.”

26 Notices

A detailed clause lays down a specific mechanism for the issuing and serving of notices by either party.

27 Severance

In the event that any clause in the agreement is deemed invalid, a clause here permits the remainder of the

agreement to remain in force.

28 Law and jurisdiction

This specifies the jurisdiction of the agreement and the forum for the resolution of disputes, i.e. the English courts.

29 Set-off

This is to prevent the franchisee from withholding monies due to the franchisor by claiming that he/she is due

to receive monies owed by the franchisor.

30 Restrictive Trade Practices Act

In any agreement where two parties trading in the UK accept restrictions, the contract may need to be registered

under the Restrictive Trade Practices Act 1976. This clause ensures that if the agreement does fall within the

registration provisions of the Act, then the agreement does not come into effect until the day after it has been

registered with the Office of Fair Trading.

Schedules

1 Franchise fee apportionment

2 Start-up package

3 Substantial terms

4 Territory

5 Trade marks

6 Training

7 Telephone number transfer letter

8 Trade mark licence


appendix 7glossary of franchise terms

Advertising levy/fee

May also be called promotional levy/fee, marketing levy/fee. An identified charge on the franchises by the

franchisor, over and above the management fee, the purpose being to promote the business on a national or

regional basis. The combined funds of all the franchisees make a greater impact than any single outlet could

achieve. It is usual for such a fee to be identified separately in the franchise agreement, a separate fund set up,

and a guarantee given that the monies will be spent on the specified activity with provision for an audit and

independent examination of the fund by the franchisees.

Advisory council

Sometimes called franchises association or review council. The name given to a representative body of franchisees

within a specific franchise nominated by the franchisor or elected by the franchisees. The purpose is to explore

new ideas and opportunities through regular meetings with the franchisor. Usually such bodies are formed at the

instigation of the franchisor but have also been formed by dissatisfied franchisees with the objective of bringing

pressure to bear on the franchisor.

Assignment

A clause, common in franchise contracts, giving the franchisee the right to assign the agreement usually to a

person approved by the franchisor.

Bank franchise finance package

Working primarily with franchisors, bank franchise managers and their staff examine franchise opportunities

and will often offer a funding scheme enabling the prospective franchisees to purchase the franchise. Up to

70 per cent of the total cost of the franchise may be available. These schemes are effected through the branch

network and may be a combination of facilities including term loans, overdrafts and delayed terms for capital

and/or interest repayments.

Blueprint

A term used in franchising to describe the format (as in business format) or plan developed by the franchisor to

describe the complete system for the successful operation of the business.

British Franchise Association (BFA)

The franchisor’s trade association founded in 1977 by eight of the early UK franchising companies with the

objective of raising the profile of ethical franchising in the UK.

Business-format franchise

A franchise term where the franchisor provides a complete formula, blueprint, plan or format for operating the

total business, where the franchisor is actively involved in establishing the franchisee’s business both initially and

ongoing, and the franchises can build equity in the business.

Company-owned units/outlets

See also pilot operations. Outlets owned, operated and managed by the franchisor, they may be used for training

as well as a testbed for new ideas and programmes. They can, more simply, be a continuing source of income

to the franchisor.


Competition laws

Competition laws applicable in the UK include the Fair Trading Act 1973, the Restrictive Trade Practices Act 1976,

and, in the EU, the Treaty of Rome, Article 85, dealing with competition, and Article 86, dealing with monopoly

situations. The purpose of competition law is to increase competition between companies or organisations

through the removal of restraints on trade or monopoly situations. The clauses in franchise contracts most likely

to cause problems with competition laws are full-line forcing, tied-in-sales and restricted or exclusive areas.

Continuing fee

See franchise fee.

Contract – franchise contract

The agreement between the franchisor and the franchises describing the terms of the agreement, the rights and

obligations of both parties.

Disenfranchise

The withdrawal of the rights of the franchise, whether it be a franchise to vote or to operate a business format

business system.

Ethical franchise

A franchise that is operated according to ethical business standards usually referring to the ethics as promulgated

by the British Franchise Association.

European Franchise Federation (EFF)

The EFF comprises the National Franchise Trade Associations in different European countries which includes

the British Franchise Association. A secretariat rotates around the membership, e.g. the BFA held the EFF

secretariat in 1996.

Exclusive area

A territory assigned to franchises with undertakings that the franchisor will not trade in the area nor will other

franchisees be appointed or allowed to trade within the area. There is a difficulty in giving total exclusivity within

the Restrictive Trade Practices Act 1976.

Fast-food franchise

Food outlets usually offering a limited menu, served quickly. Encompasses counter service, table service and

take-away outlets. Wimpy and Kentucky Fried Chicken were the first in the UK, McDonald’s is the largest.

First-generation franchise

Usually used to identify early franchises – car manufacturers, oil companies and soft drink bottlers who used

franchising principally as a means of distribution.

Fixed fee

See franchise fee.

Fractional franchise

Where the franchise is only a part of the franchisee’s interest. Usually related to premises, a franchise shop within

department stores is a good example.

Franchise fee

There are two types of franchise fee common in franchising: the initial fee and the ongoing fee. The initial fee,

sometimes called the front-end fee, is a one-off payment designed to cover the costs of the franchisor in recruiting

and setting up the franchises. The ongoing service fee, sometimes referred to as royalties or management fees

and most commonly based on a percentage of sales turnover, is the usual way for the franchisor to obtain his

continuing income from the franchises. Occasionally a franchisor will choose to charge a fixed fee on a weekly

or monthly basis.


Franchisees

The individual, company or partnership which buys a franchise or licence from the franchisor. Variously referred

to as licensee, franchise owner or associate.

Franchisee association/advisory council

See advisory council.

Franchisor

The company which operates the franchise and sells franchises to franchisees. In some cases the franchisor can

be a franchisee of a franchisor himself, in other words an intermediary franchisee – see master licensee.

Front-end fee

See franchise fee.

International Franchise Association (IFA)

The Franchise Trade Association for the USA.

Investment franchise

‘Investment’, ‘job’ and ‘business’ franchises are terms coined in an attempt to classify franchising. An ‘investment’

franchise is more expensive than the others but has never been quantified.

Job franchise

A term coined in an attempt to categorise franchising along with investment and business. A ‘job’ franchise is

usually described as low-level investment where the franchisee works in the business.

Joint venture

A method whereby a franchisor, usually from overseas, will seek to establish a legal relationship with a partner in

a foreign market and share the costs of setting up a franchise organisation. Commonly the franchisor initiating the

idea will contribute the know-how and expect the host country partner to provide the funds and management.

Know-how

The intellectual property – the systems, methods and expertise of the franchisor. Usually referred to as know-how

in the contract.

Licensee

See franchisee.

Licensing agreement

See franchise agreement.

Location franchise

A franchise operating from fixed premises where the premises tend to be an important part of the business

operation, i.e. retail premises where customers visit.

Management service fee

See franchise fee.

Mark

The name by which the franchisor’s business is known and which the franchisee will be permitted to use.

Marketing levy

See advertising levy.


Master licensee

A franchisee who usually has responsibility for more than one outlet and is commonly totally responsible for the

development of the franchised business (through other franchisees) in an area. As an example, the UK arm of

ServiceMaster was originally a master licensee in Europe.

Mobile franchise

Usually a vehicle-operated franchise which goes out to serve customers, e.g. windscreen replacement, car tuning

and cleaning services. The opposite to a location franchise.

Monthly fee

See franchise fee.

Multiple franchise

Commonly refers to a franchisee who operates more than one, of a specific franchise, outlet.

Network

Usually used to describe the whole franchise organisation. Could be a UK network or worldwide network.

Non-exclusive area

Theoretically the opposite of exclusive areas but usually qualified to assure the franchises of some protection.

Operations manuals

Now a generic term used to describe all the manuals provided by a franchisor to a franchisee to operate the

business. These will include administrative as well as actual operational manuals.

Pilot unit

The term used to describe the test model or outlet set up by the franchisor. See also company-owned units/outlets.

Promotional levy

See advertising levy.

Pyramid selling

Pyramid selling is a marketing system, erroneously associated with franchising in the past, which involves selling

distributorships through a tiered structure. The founders of such schemes rely primarily on selling distributorships

rather than products. Several Acts of Parliament govern pyramid selling in the UK.

Review council

See advisory council.

Royalties

See franchise fee. The use of this term within a franchise may raise questions with the Inland Revenue.

Traditionally royalties are paid on copyrighted works of art such as literature and music and different tax

arrangements may apply.

Second-generation franchises

A term commonly used to describe the franchises which started in and since the franchise boom of the 1950s.

Service fee

See franchise fee.


Service mark

The mark registered by a service organisation applied to services rather than products. A few years ago it was not

possible to register service marks in the UK and the British Franchise Association and its members lobbied MPs

and produced a turn-around in Government thinking on this.

Sub-franchises

A term used to describe franchises set up by an existing franchisee, usually a master franchisee.

Territorial rights

The rights granted by the franchisor to the franchisee within the area allocated. Franchisees will usually seek some

understanding that they will not be in competition with other franchisees or the franchisor within their territory.

Turnkey operation

Basically an expression for a business format franchise where the franchisee turns the key in the door with the

business ready to run.

Up-front fee

See franchise fee, initial fee.

(© John Stanworth and Brian Smith, 1991.)

Lloyds TSB

Professor John Stanworth and David Purdy are affiliated with the International Franchise Research Centre at the University of Westminster.

Due care and attention has been paid to the collection and selection of the information and advice contained herein, and as such, it isoffered in good faith. We regret, however, that neither the Bank, the authors, nor any of the contributors to this publication are able toaccept any liability for losses or damages which could arise for those choosing to act upon the advice or information contained herein.Competent professional advice should be sought when developing a franchise system.

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