6 Unexpected Costs When Starting A Franchise | Fora Financial Blog
6 Unexpected Costs When Running and Starting A Franchise
February 22, 2020

6 Unexpected Costs When Running and Starting A Franchise

Have you ever considered starting a franchise? This type of business offers a proven business model, and you can also choose the type of franchise you’d like to run. One downside is there can be unexpected costs after you get started. These costs will eat into your profits. However, when you learn of the costs, you can account for them.

This article will describe some of the benefits of operating a franchise and will help you be aware of unexpected costs.

The Benefits Of Running And Starting A Franchise

A franchise is a turnkey business. You obtain start-up capital to pay the franchise fee, and in many cases, you’re ready to start your business. Many franchises require training, but some of that training occurs at the franchise location.

You have the choice on which franchise to select. If you do your homework, you’ll look for franchises based on businesses that are successful. Although franchises don’t guarantee success, they usually offer support to help you succeed, as your success extends to the franchisor.

One criticism of franchises is that the franchisees must follow the rules of the organization. However, this can be a benefit as those rules are often what make the business model work. A framework increases the odds of success.

As a franchisee, you’ll participate in the branding of the company. It takes years for many businesses to establish brand recognition. This isn’t true with a franchise. You piggyback off this recognition from the beginning.

Ethical franchisors will ensure that your location is exclusive. It doesn’t make sense for the business to have competing business units. The franchisor will also help in the selection of the right location for your business. They usually perform market research to determine this.

Many franchises provide a formula for you to follow. This ensures that the brand is consistent from one location to the next. A McDonald’s hamburger will taste the same, whether it’s served in New York or Florida. This consistency is what will give your business an edge.

When you learn how to start a franchise, you may discover that some financing is available from the franchisor. However, you may not receive 100 percent funding. The franchisor wants to make sure you have a stake. In addition, some franchises may not allow you to take out loans for the down payment or the franchise fee.

Unexpected Expenses   

When you start a franchise, you’re likely to be hit with unexpected costs. Many people believe the franchise fee is all that is needed to start. This realization can be disappointing, but it doesn’t have to derail your dream.

When you understand that costs will emerge, you can adjust your business plan to account for them. Having a more accurate estimate of the costs may help you when seeking financing, too.

The following sections describe six of the most common costs that franchisees experience. Knowing about these costs will help when making a decision about starting a franchise.

1. Costs Of Traveling

Often, you’ll be required to travel when you run a franchise. For instance, you may need to attend meetings or training sessions at the headquarters. You’ll be on the hook for most of these travel costs, although you may ask the company to pitch in.

Travel costs include flights, hotel stays, and rental cars. Further, you’ll likely eat at restaurants, which will cost your business money. Any other items your purchase for business purposes will add to the cost.

The franchisor may require you to attend trade shows or other conventions. There may even be a need for you to run an event on behalf of the business. These provisions should be discussed before you decide to start your business.

The costs of travel may be beneficial to your business. Training and events can present opportunities, and you’ll always learn something new. The best part is most of the expenses can be deducted on your taxes. Your tax advisor can help.

2. Additional Franchise Fees

Franchisors are required by law to disclose all franchise fees upfront. However, the devil is in the details. Often, extra fees can be required, which are labeled as something else. For instance, ongoing marketing fees can increase your budget significantly.

Charging ongoing franchise fees aren’t illegal if the franchisor discloses them. The time to be cautious is when the franchisor hits you with other fees that seem out of place. It’s crucial to ask the right questions before you join the franchise.

Franchisors can charge for legal fees associated with starting the franchise. This includes legal documents, time, and materials for the legal team.

Some franchisors may ignore the law and charge an ongoing franchise fee. They either don’t know about the law, or they disregard it without disclosing the fees. When searching for a franchise, ask if there are any other fees. If these fees seem unreasonable, it’s time to search for another opportunity.

3. Purchase of Equipment

Depending on the type of franchise, you may need to purchase additional equipment. If you open a gym, for instance, you’ll need exercise equipment and weights. You may also want vending machines and other supplemental items to drive more sales. These may cost money.

Restaurant owners will need to purchase ovens, dishwashing machines, and other equipment. They’ll also need to replace equipment as it breaks or becomes obsolete. The equipment needed for your business will depend on the type of business the franchise licenses to you.

Franchisors may require you to purchase the same equipment that exists for other business units. They may even have set suppliers for the equipment. Depending on the franchise, some standard equipment may be included as part of the initial franchise fee, but this isn’t always the case. Even so, additional equipment will likely be needed.

4. Construction and Building Costs

Your franchise agreement will determine whether the initial franchise fee will cover your construction costs. It’s not common for a franchisor to do so. They offer advice and support to help get your building ready. However, the burden of building the project is on you.

The real estate agent’s commission, construction crews, permits, and any other costs associated with getting your building construction need to be considered. If you can find a qualified general contractor, this person can be helpful during the process. The franchisor may have tips on where to find someone.

Hiring an interior designer is another choice, but will add to the cost. However, it may be a good investment when you’re ready to open your doors. The design elements may attract your customers and encourage them to return. You’ll want to clear any designs with your franchisor, though.

5. Material Sourcing Costs

McDonald’s sells food items, such as hamburgers and fries. These food items are purchased ahead of time and are the material sourcing costs for the franchise restaurants. If your business sells products, you’ll need to find vendors to source your materials.

Franchisees are often required to source products from specific suppliers. This limits your ability to negotiate deals. In fact, the prices you pay may be higher as a result. The franchisor wants to ensure consistency in the products, as their reputation is at stake.

Try to negotiate lower prices with vendors on the approved list. Establish a working relationship with them from the beginning. These vendors may offer discounts when your volume is high.

If you find ways to save on material sourcing costs, you may need to ask permission from the franchisor. Their rules are strict, and you could risk violating the terms of your agreement.

6. Royalty Fees

When you agree to a franchised business, you aren’t the owner of the business. Instead, you’re licensed by the franchisor to sell the products and services of the parent organization. You’re piggybacking off the success of the franchise, including the intellectual property rights.

These rights are valuable to an organization, and most franchises will charge royalty fees for your right to participate in their brand recognition. This cost isn’t included in the franchise fee and is often ongoing.

The royalty fee is how the franchise makes its money. The initial franchise fee offsets the startup costs, but the owners want a residual payment. That is what makes franchising successful.

The fee is usually charged as a percentage of sales. However, some franchisors may charge a base residual and a percentage of sales. Ask about this before agreeing to the arrangement. It’ll save you from any misunderstandings.

Our Final Thoughts

A franchise isn’t the right solution for every entrepreneur. However, it can be perfect for people who want to follow a proven formula for success. They do require that you give up some freedom, however, as you’ll have to follow the franchise’s rules. Still, the financial rewards often overcome this issue.

Running a franchise comes with costs, as described in this article. But when you focus on the business itself, these costs won’t stand in your way. If the costs are too high, though, it’s better to know before signing on the dotted line. Knowledge of the costs could also help when negotiating your contract for the franchise.

At Fora Financial, our Capital Specialists can assist you with your business financing needs. Click here for a free quote today.

Frequently Asked Questions

What is a Franchise Disclosure Document (FDD)?

The franchise disclosure document (FDD) is a crucial document when considering this opportunity. Franchisors are required by law to disclose all the fees and other aspects of the agreement. The FDD is where they publish that disclosure. Any potential franchisee should take this document seriously.

Fora Financial

Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.

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Fora Financial is a working capital provider to small business owners nationwide. In addition, the Fora Financial team provides educational information to the small business community through their blog, which covers topics such as business financing, marketing, technology, and much more. If you’d like to see a topic covered on the Fora Financial blog, or want to submit a guest post, please email us at [email protected].