Why The Cost Of The Average Franchise Keeps Rising

Franchising provides a great opportunity for countless entrepreneurs, both those just getting started in their careers and those continuing to diversify their portfolio. The process for deciding which franchise to go with can be a daunting one, however, as the costs that go into getting your business off the ground—from franchise fees to real estate costs and beyond—add up, making budget a critical factor in any franchise deal. 

When considering franchise options, it’s important to understand the costs associated with each and what might be driving those costs in today’s marketplace. These costs fluctuate based on the current landscape, the type of company a person is looking to buy and the position the franchisor is currently in. 

“Rising costs are simply a part of doing business, so it’s no surprise that 94% of franchisors charge a royalty fee,” said Keith Gerson, President of Franchise Operations and CMO of FranConnect. “Paying a lower royalty fee to a franchisor doesn’t necessarily mean you're spending less money overall, either. A lower royalty could be a product of a distribution model, meaning if you own a bakery, you could be on the hook for purchasing all of your batter, ingredients and additional food supplies. These costs can add up rather quickly over each year.” 

When taking a look at a franchise business, it’s important for prospective franchisees to understand and analyze what type of revenue they could ultimately earn. 

“It’s a requirement in the FDD to provide three years’ worth of financial information,” said Gerson. “This gives potential owners the opportunity to review the financials and work to understand cash flows, sources of revenue for the business and more to see if the opportunity could be fruitful for them.” 

The average royalty is roughly 6% of monthly revenues in today’s market. Sometimes, these costs are higher, but that doesn’t necessarily mean a buyer is getting a worse deal than an opportunity with a lower royalty fee. 

Another area driving costs for franchisees today is the implementation of technology, particularly in the fast casual and QSR restaurant space where companies like McDonald’s are testing systems like facial recognition in drive-thrus and “to-go only” restaurant locations. 

“Franchisees can expect fees to increase as more brands implement new technology,” said Gerson. “According to FranConnect data, franchise organizations that charged a tech fee grew 36% faster over a two-year period than those who do not. McDonald’s adopted kiosks—requiring franchisees to increase their spends—and the ROI was significant as it relates to sales increases.”

Technology creates such a competitive advantage for franchisors who are able to capitalize on innovations early on.

“I was sitting next to a technology installer a couple of weeks ago who was a project lead for McDonald’s facial recognition tech,” Gerson said. “Now, every time a customer goes to order, the technology detects who they are and what they’ve purchased previously to speed up the order process should they order the same things regularly. While the cost of technology might increase fees for franchisees, imagine not having that sort of fee and being unable to compete against this type of technology.”

For potential buyers, the alternative to buying into a franchise with higher fees could land them with a business yielding smaller revenue generation and into a system with no marketing and no brand awareness or support. Be cognizant of what a small marketing fee gets you—do your homework to ensure you’re not doing a disservice to yourself for the lower price point.

Citing FranConnect data, Gerson had this to say: “More than 80% of franchisors don’t believe they are requiring franchisees to pay enough to compete locally in their market. Nobody would say that 2% of revenues is enough to drive brand awareness. Greater brand awareness means there is less marketing needed at the local level. 72% of franchisors charge advertising fees, but potential buyers should be concerned about the 28% who don’t, as that’s just a cost of doing business.”

Innovations in technology, marketing campaigns, real estate support and more can all lead to increased costs for buying into a franchise business. However, these fees can often be a necessity for those looking to run a successful business, as companies are fighting daily to stay competitive within their industries. The more a franchisee invests in a franchisor, the more that company can invest in owners system-wide to help drive profitability.