Initial Franchise Fees and Royalty Fees

Initial franchise fees and royalty fees lie at the heart of franchising, and for start-up and existing franchisors alike, they can prove big stumbling blocks to fashioning a viable business model.
This is true because initial franchise fees and royalty fees must reflect three intangibles crucial to your success as a franchisor – the unique strengths of your brand, your business systems, and your capacity to help your franchisees prosper.

It is, however, no easy task to analyze these intangibles; you can’t just plug numbers into a set formula and hope things work out. Certainly, as your franchise system matures, these fees should cover your operating costs and provide sufficient profits to make it worth your while to be a franchisor and, at the same time, leave enough on the plate for your franchisees. But the analysis must cover legal as well as financial matters. Here are two key legal questions to consider:

  • How strong are the legal fences protecting your brand and trademarks from competition? To be sure, a franchisor without a brand and trademarks is a cowboy without a horse. But it can take as much work to protect these assets as it does to create them in the first place, and the more successful you get, the more likely it becomes that competitors will try to get in on the action. Ray Kroc may have been among the first to see opportunity in fast food, but McDonald’s isn’t the only place serving up hamburgers.
  • What about your business systems? Like your brand and trademarks, your business systems constitute valuable intellectual property. You must protect the unique processes you develop to manage your supply chain, your inventory, and your production or delivery processes. This means shielding these systems from outside view, for starters. It also means understanding that outsiders will figure things out sooner or later and keeping watch to make sure that, once they do, they don’t copy what you do to your disadvantage.

Initial franchise fees and royalty fees must reflect the existing and future value of these assets. It follows that they aren’t just sources of income. They are the means by which you will help existing and new franchisees to prosper, not to mention yourself. They are, in other words, the wellspring of the future, and you must analyze and protect them carefully.

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