Buying a franchise is the most effective way to start small business, especially for those who do not have prior business experience. The benefits of franchise such as brand recognition, operational support and marketing make it easier for the first-time business buyers to realize their dream of owning a business.
Not all franchises are created equal, however. While many franchises do provide above mentioned benefits, you may also run into few whose primary goal is to make money for themselves, many times at the expense of franchisees. You have to be careful about the type of franchise you choose.
When looking at the issues that franchisees are likely to come across a few themes emerge. You have to pay attention to these issues before you send the check of initial fees, which run into tens of thousands of dollars. Listed below are the 5 common traps you need to watch out for.
# 1. Too many units
Most franchises require their franchisees to pay royalty bases on gross sales. They can maximize their royalty by opening as many units as possible to reach broad customer base. However, when this is taken to the extreme and many units are opened in close proximity the franchisees will suffer as a result of sales cannibalization from nearby units. Many Subway franchisees have been complaining about this recently.
# 2. Discounting
The Great Recession of the last few years has increased the amount of promotions and discounts announced by well-known franchises. Their goal is to keep sales from declining when customers are cutting back on their spending. Of course, the franchisees will see their profit decline as a result. Again, the franchise will continue to make money in royalty at the expense of franchisee profits.
# 3. High commissary cost
Most franchises require you to purchase some or all of the ingredients from their commissary. Their primary explanation is that it ensures quality and consistency. The franchisees can also benefit from the economy of scale especially for large franchises like Subway and McDonald’s. However, in some cases, franchises take advantage of their power by charging a lot more than the market price. This is especially true for smaller franchises. You should do your homework to compare quality and price of the products you are required to purchase from commissary versus in the market.
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