01 Nov Feel Like A King? The Secret Behind Franchise Royalties
Royalties are a part and parcel of being a franchise owner or franchisee and almost all franchise companies use them to gain profit from their brand. It’s important to understand the concept because an incomplete understanding can cause franchisors to undervalue their brand, and franchisees to pay too much. We recommend that you consult with a professional and gain a complete understanding of royalties before you take any step further. Here’s a brief guide that can help.
What Are Royalties?
Royalties are essentially fees paid to the franchisor for the continuous use of their brand and intellectual property. They ensure the franchisor gets a fixed monthly income from their business. The amount is decided based on the profitability of the brand and the potential earnings a franchisee can expect.
For the franchisee, royalties are a portion of the profits that they have to hand over to the franchisor on a monthly or annual basis. This has an impact on their bottom line as it eats into the profits. This isn’t a problem in a thriving franchise because they make more than enough profit to cover all expenses. However, if the franchise isn’t successful, royalties can be a burden.
Why Are Royalties Essential?
Royalties are a vital aspect of a franchise business and essential for its success. Most franchisors will reinvest a significant portion of their earnings in the maintenance and growth of their brand. Without royalties, they won’t have enough money to invest and the brand would stagnate. Here are some reasons why they are absolutely essential for your franchise:
- They allow the franchisor to maintain their company and keep all the technology and infrastructure up-to-date. This will ensure all day-to-day activities run smoothly.
- Franchisors would have room to develop and market new products and services if they receive substantial royalty payments regularly. New products and services will keep the brand fresh and ensure customers stay interested. They would also increase profits and revenue.
- Royalty payments allow the brand to grow and expand to different locations and even different countries. Such expansions require a significant amount of investment and that’s only possible with the help of franchise fees.
- Franchisors also have expenses of their own to consider and these include employee compensation, rent or mortgage of their commercial property, utilities, etc. They need to maintain their commercial headquarters to ensure all branches of the franchise work well.
As you can see, royalty fees are very important for the success of a franchise business. The franchisor uses the money to improve the company and that has an impact on all attached branches.
How Are Royalties Calculated?
Different franchises have different ways to calculate fees. Some charge a direct franchise fee of a fixed amount per month. For example, a franchisor might charge a franchisee a fixed fee of $20,000 for use of their brand and intellectual property. This protects the franchisor from the uncertainties of sales but also limits the amount of profit they can earn.
Some franchisors will charge 4% to 6% of the gross sales revenue, which can change according to the performance of individual franchise branches. This is just an average figure because many franchisors will charge less or more based on the success and format of their business.
The best way to determine if the franchise fee is right for you is to figure out how much potential profit you can gain from the branch. This would help you decide if the investment is worth it.
If you want to know more about franchising, or want some advice, feel free to get in touch with us at The Franchise Institute. You can call us on 1300 855 435 or fill in this contact us form and we’ll reply as soon as we can.
Thanks for reading,
The Franchise Institute Team
1300 855 435