Franchise agreement: advantages and disadvantages
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Jul 8, 2024
The benefits of starting a franchise business are well-established. The collaboration between the franchisor and the franchisee helps to multiply strengths to capture more market share, more rapidly. The surveys conducted by the Banque Populaire group and the French Franchise Federation have shown that about 80% of franchisees would sign their franchise agreement again if they had to do it all over again, which leads us to believe that franchising still has many bright years ahead. But concretely, what are the advantages and disadvantages of starting a franchise business? Let's break it down.
Some prerequisites for starting a franchise business
First and foremost, let’s quickly review the franchise agreement. What defines it?
An existing business (the franchisor) grants another business (the franchisee) the right to market its products and/or services, provided the franchisee adheres to the concept that the franchisor has established. In fact, the franchisor has already developed a profitable concept, and the franchisee will adopt it in their structure. Thus, the franchisee will benefit from the franchisor’s know-how, brand image, and the recognition of the brand.
In return, the franchisee agrees to follow the initial concept and the rules imposed by the franchisor.
In principle, the franchisee must:
Respect the concept and standards defined by the franchisor during the drafting of the contract
Research and decide on the location of their premises
Make a personal contribution and compensate the franchisor through royalties
Adhere to the commercial and advertising strategy of the franchise
The franchisor must:
Provide the franchisee with the know-how needed to successfully carry out their project
Offer training to their franchisees by providing an operations manual
Provide ongoing support, both technical and commercial
Support their franchisee throughout the opening process
The advantages of the franchise agreement
In recent years, between 3,000 and 5,000 new entrepreneurs sign a franchise agreement to embark on the entrepreneurial adventure. Just in 2020, there were 1,927 franchisors counted! All these figures suggest that this mode of entrepreneurship is becoming increasingly convincing. So what are the reasons?
Freedom to negotiate: Both parties have the freedom to negotiate and agree on what the contract will contain. This particularly concerns certain clauses such as exclusivity and the duration of the contract. This negotiation is essential because since the 2016 law, the franchise agreement should not be treated as a membership contract. In other words, certain clauses of the contract must remain negotiable.
The success of one leads to the success of the other: The franchise agreement is advantageous for both parties, for both the franchisor and the franchisee. Indeed, this type of contract allows the franchisor to expand into the territory and even internationally, thus gaining market share from the competition. The franchisee can benefit from all the advantages: know-how, brand recognition, and shared resources, which represents a lower risk.
The advantages of starting a franchise business for the franchisee
Choice of project: The franchisee can choose the project that best suits their needs based on what they are looking for: If they wish to have a certain degree of autonomy, that can be a possibility; indeed some franchisors do not impose particularly strict rules and tend to foster the creative and entrepreneurial spirit of their franchisees. On the other hand, some major brands are much stricter in this regard. Wanting to maintain coherence and similarity across all their brands, they limit the franchisee's options.
Starting with the brand's recognition: From the moment of establishment, the franchisee benefits from significant recognition through the brand, which is not necessarily the case when starting a traditional business. The advantage of an established brand is clearly a booster for activity at the time of launch as well as afterward; moreover, customers are already familiar with the concept through advertising and because they are already consumers of it. Building one's business on a pre-established economic model also provides financial security.
Almost immediate financial security: Franchisees develop their activities based on an already tested and validated economic model established by the franchisor. Thus, the franchisee can rely on the reputation of the brand. Based on these figures, the franchisor often guarantees a minimum turnover to their franchisees. Moreover, thanks to all the resources in place, franchisees can rapidly develop their business.
Acquisition of know-how: One of the elements on which the franchise agreement is based is the transfer of know-how from the franchisor to the franchisee. This represents a real advantage and, above all, a time saver since acquiring know-how requires a lot of time! Thus, the franchisee will no longer need to devote themselves to certain tasks such as research, testing, etc.
Support from the franchisor: The franchise agreement generally provides for assistance from the franchisor towards the franchisee. The franchisor can implement:
Commercial assistance
Technical assistance
Financial assistance
Legal assistance
Stock management assistance
Moreover, this assistance includes many services (help with installation, visits, and advice from professionals). This support can reassure the franchisee and gradually allow them to become independent.
The advantages of starting a franchise business for the franchisor
If a business owner opts for franchising to develop their network, it is for good reasons! Beneficial for both the franchisee and the franchisor, as the franchisee invests in their business and the franchisor in what allows them to grow their network. Apart from the sharing of investment, the advantages are numerous:
A financial advantage: being a franchisor allows, at first, to develop their network and market share much more rapidly and at lower cost since the financial burden is shared between the franchisor and the franchisees, but also to develop their structure while amortizing it more quickly with the expansion of the network.
A gain in visibility: By developing their franchise, the franchisor enhances their brand value and can retain customers more easily. Through all the advertising implemented, they can also increase their notoriety and brand image.
A competitive advantage: Some brands are already opting for franchising. By doing the same, the franchisor puts all chances on their side to be more present in the territory and thus increase their potential customer base.
A limitation of constraints: The franchise agreement limits the constraints to manage for the franchisee in that it is the franchisor who will be responsible for creating and managing their profit center.
The disadvantages of the franchise agreement
The franchise is primarily a contract binding two parties, requiring them to adhere to certain conditions and assume all the disadvantages associated with the contract. On the franchisee's side, they are obliged to follow any directives from the franchisor. The franchisor, in turn, must keep an eye on the franchisee, if only to provide all the assistance they may need.
The disadvantages of starting a franchise business for the franchisee
Becoming a franchisee is not as simple as one might think, so it is necessary to understand the associated risks before embarking on this project.
Personal investment: Initially, personal investment will be greater in the case of a franchise than in starting a traditional business. In addition to basic installation costs (premises, goodwill, renovations, stocks), franchise fees are added. Secondly, there is also a significant personal investment in time and energy. The franchisee must wear multiple hats to meet the franchisor’s performance obligations. Finally, as with any investment, franchising represents a risk in case of bankruptcy:
A lack of autonomy: The trusting relationship between the franchisor and the franchisee is primarily an advantage but can also turn into a disadvantage. Indeed, this dependency can quickly backfire against the franchisee if they wish to obtain more autonomy. Some franchises intentionally limit their trust and scope of action by systematically imposing their decisions on franchisees:
The concept: the franchisee must adhere to the graphic and architectural charter of the network to identify with the visual identity of the concept.
Choice of products and services: The franchisee cannot sell other products than those of the brand. They are also obliged to adhere to their presentation and packaging, which can even extend to the selection of suppliers.
Location choice: The franchisee must comply with the conditions imposed by the franchisor regarding the layout of the sales point so that the concept of the network is replicated identically across all sales points.
The duration of the contract: The contract’s length can also be a source of issues if the franchisee wishes to terminate it and develop another activity. At that point, they will be forced to wait until the end of their contract and will be blocked in a situation that no longer suits them.
The disadvantages of starting a franchise business for the franchisor
The financial aspect: Initially, implementing the concept and its follow-up increases intangible investments at startup; consequently, creating a franchise agreement can represent a risk for the franchisor. In case of bankruptcy, the franchisor can be very negatively affected (safeguard, liquidation, or judicial recovery). Similarly, the franchisor will suffer repercussions since the goodwill does not belong to the franchisee.
The brand image: As mentioned earlier, the franchise agreement is based on trust between the franchisor and the franchisee. The failure of the franchisee (e.g., poor customer service at one of the franchises) can have consequences for the brand.
Conflict between the two parties: Tensions can arise between the two parties if the franchisee wants to experiment with entrepreneurship in total autonomy. Indeed, bolstered by this first experience and benefiting from training, some entrepreneurs wish to later launch independently and develop their own methods.
In summary:
Starting a franchise business presents advantages and disadvantages for both the franchisee and the franchisor. The franchise agreement defines the obligations of each party, with a freedom to negotiate for certain clauses. The advantages for the franchisee include choosing the project, brand recognition, financial security, acquisition of know-how, and assistance from the franchisor.
The advantages for the franchisor include a financial advantage, a gain in visibility, a competitive advantage, and a limitation of constraints. However, there are also disadvantages for both parties, such as personal and financial investment, lack of autonomy, contract duration, financial risks, and potential conflicts.
F.A.Q:
1. What defines a franchise agreement?
A franchise agreement is a contract between an existing business (the franchisor) and another business (the franchisee), in which the franchisor grants the franchisee the right to market its products and/or services in exchange for respecting the concept and rules imposed by the franchisor.
2. What are the advantages for the franchisee in starting a franchise business?
The advantages for the franchisee include choosing the project, brand recognition, financial security, acquisition of know-how, and assistance from the franchisor.
3. What are the advantages for the franchisor in starting a franchise business?
The advantages for the franchisor include a financial advantage, a gain in visibility, a competitive advantage, and a limitation of constraints.
4. What are the disadvantages for the franchisee in starting a franchise business?
The disadvantages for the franchisee include personal and financial investment, lack of autonomy, contract duration, and financial risks.
5. What are the disadvantages for the franchisor in starting a franchise business?
The disadvantages for the franchisor include financial risks, potential conflicts with the franchisee, and the negative impact on the brand image in case of the franchisee’s failure.
