What Is Franchise Fee & Why Is It Charged | SkillsAndTech

Creating a business from scratch and achieving success with that business is not for everyone, and there are massive risks involved.

Franchises are a way of reducing those risks by using the brand of an already established business.

Instead of spending time building systems and a brand, franchising allows you to take all that and make money from it.

See Also: What Is Franchise Fee & Why Is It Charged

It seems like a great opportunity for many, but all these benefits come with their costs. One of the major driving costs in the franchise world is the franchise fee.

They can be complicated as the way of working changes from franchise to franchise, and there are both one-time and ongoing fees, so learn about what franchise fees are and how they work in this article. 

What Is A Franchise Fee?

See Also: What Is Franchising & How Does It Work

There are different explanations about what exactly is franchise fee because it varies on a state level.

In a short explanation, it is the fee that a franchisee pays to the franchisor to get the rights to use the company’s brand and anything associated with the brand.

These fees are both paid upfront in a lump sum and on an ongoing basis by the terms of the franchise agreement.

The Federal Trade Commission (FTC) says that for a business relationship to be qualified as a franchise, the agreement must meet three criteria.

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Two of the three criteria explain how the franchise will work and what the franchisor is lending to the franchisee. And here is the last criterion:

• The franchisee must pay the franchisor before or after six months of starting to run the business in the amount of at least $500.

This criterion makes it extremely obvious that there has to be a fee if you want a franchise agreement to be official.

Even though the criteria state a minimum number, franchisors will define their own numbers with their franchise fees.

See Also: Xfinity Franchise

How Much Does Franchise Fees Cost?

Regarding the number of franchise fees and how much you have to pay, the numbers change significantly from brand to brand or industry to industry.

Nowadays, minimum initial franchise fees start around $15,000 and could go up to millions of dollars depending on the brand and how their franchise fees work.

Let’s say you want to get a franchise branch of Marriott Hotels. The franchise fee will not be the same as a McDonald’s.

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You must remember those franchise fees are the fees you must pay to use the brand’s name. These fees don’t include anything else, and you will need to invest more after you pay these fees.

On top of this, apart from the initial lump-sum fee, ongoing franchise fees generally come in percentages, meaning that you have to pay a percentage of the revenue you get each month.

How Do Franchise Fees Work?

Franchise fees are not just one fee. There are three different main pillars of franchise fees that you have to pay to the franchisor.

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Because you are running a brand of someone else’s, they are doing most of the work with things like marketing.

This means that you have to cover them, as well, and these fees are mostly on an ongoing basis and not a one-time fee like the initial fee.

• Initial Fee

The initial fee is the one-time fee that you pay to the franchisor before you start your business relationship and sign the agreement.

See Also: Franchise Disclosure Document

Under the same criteria FTC states for franchise business relationships, they define it as the fee you pay for goods and services you receive from the franchisor.

This fee is only paid lump-sum, but you can get installments if you can agree with your franchisor.

The initial fee covers the intellectual property rights and licenses, such as the right to use the brand’s name, trademarks, and service marks.

On average, initial fees are between $25,000 to $50,000. For example, McDonald’s initial franchise fee is $45,000.

See Also: Sheetz Franchise

• Marketing Fee

Because you are using the brand’s name and its trademarks, you also become a part of the marketing services this brand does.

Since it indirectly helps you, you have to pay your shares for the marketing campaigns, and these might even support special marketing campaigns for you only.

Generally, marketing fees are somewhere between 1%-2% of the gross revenue.

See Also: Cracker Barrel Franchise

• Royalty Fee

The royalty fee is another ongoing fee that you have to pay to the franchisor because you are using their brand’s name and profiting under their name.

You can think of this fee as some sort of subscription fee to the brand. Royalty fees generally work as percentages taken from your gross revenue.

This is beneficial to the franchisee as the franchisee only pays from the revenue they make.

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The typical royalty fees are around 6% of the gross revenue in most industries. However, from business to business, these numbers could also change.

The lowest royalty stands around 5%, and the highest is about 10% on average.

How Do You Calculate Franchise Fees?

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The calculation of these franchise fees is mostly a combination of several franchise fees. Franchisors determine the numbers for royalty and marketing fees by the monthly gross revenue of the franchise branch.

Almost exclusively, franchisors use percentages to determine the ongoing fees based on the revenue. There are generally no set numbers apart from the initial fee.

These percentages generally come from the industry and business market sentiment.

See Also: Self Storage Franchise

Also, they sometimes already have a set number as corporate guidance. You can see all the calculations in detail in your franchise disclosure document.

The Verdict

If you have the idea to open your own franchise business, you should now have a clear picture of what franchise fees are and how much you can expect to pay.

Normally, there are three different fees for franchise fees, and they vary based on quite a lot of variables.

That is why it is always better to do your own research about the industry and the business before making the decision to purchase a franchise.

Once you know the franchise’s finances, you can start negotiating with the franchisor to open your franchise.