Franchisees are typically required to pay numerous fees to their franchisor. These are commonly set out in a schedule to the Franchise Agreement and also itemised in the Disclosure Document. But what are common franchise fees, and what are they paid for? This article explores the most common franchise fees, how much they are, and what they are paid in consideration for.
Upfront Fees – Initial Franchise Fees, Training Fees and Documentation Fee
Almost all franchisors charge an initial franchise fee. In most cases, this is a fixed sum. Sometimes, that fee can be inclusive of initial training. Other times, an additional initial training fee is charged. The quantum of the initial franchise and training fees charged vary greatly based on the type of franchised business, the level of goodwill of the franchisor, and how long the franchisor has been operating. It’s common for newer franchisors to discount the initial franchise fee to the first franchisees to come on board. This helps expand their network and get some runs on the board.
A documentation fee is almost always charged in addition to the initial franchise fee. This is money paid in consideration for the franchisor’s lawyers to prepare the franchise paperwork and manage the contract formation process. This fee is typically between $1,500 and $4,000.
If the franchisor will assist with an initial marketing campaign or launch, they may also charge a fee for that. The quantum is typically a few thousand dollars. Similarly, a fee is charged if the Franchisor assists with site location and selection, or manages the fit-out of the premises.
Importantly, the Franchising Code provides that if the franchisee exercises their cooling off rights, the initial fees paid must be refunded to the franchisee within a reasonable period. However, the franchisor may deduct from this amount its reasonable expenses, if the expenses or their method of calculation have been set out in the franchise agreement. The amount typically deducted includes the documentation fee, but can also include an amount attributable to initial training and administrative expenses.
Ongoing Fees
An ongoing fee becomes payable once the initial fee is paid and the franchised business commences operation. There are two main models of ongoing franchise fee; fixed or percentage based. In a fixed ongoing franchise fee, the franchisee will pay the same sum each week or month. In a percentage based fee, the franchisee will pay a percentage of their gross revenue, typically between 4% – 11%. The precise percentage charged will depend on the model adopted by the franchisor, the cost base of running the franchised business and the industry in which the franchise operates.
Sometimes, a franchisor will allow a franchisee a ‘grace period’ of, say, 6 months during which no ongoing fee is payable. This is to enable the franchisee to build up their business without the burden of ongoing franchise fees.
In addition to this ‘main’ ongoing fee, there are a number of other ongoing fees a franchisor may charge. These include:
- Technology fees – If the franchisor provides certain technology, for example a bespoke CRM system, they will typically charge a fee for that.
- Ongoing training fees – If the franchisor provides ongoing training, there will usually be a fee.
- Lead fees – Similarly, if the franchisor generates leads, for example via an online marketing campaign, a ‘per lead’ fee is typically charged to franchisees.
Marketing Fund Contributions
A marketing fund contribution is not a fee per se, but instead a contribution to a collective pool of money. That pool of money is used by the franchisor to fund marketing and promotion for the benefit of the entire franchise network. Not all franchisors have a marketing fund, but a lot do. In particular, larger franchisors almost always have a marketing fund, so they can undertake large-scale marketing campaigns. Those catchy I’m lovin it/ did someone say KFC?/ Love Ya! adds were almost certainly funded from marketing funds.
Most marketing fund contributions are between 1.5% and 2.5% of revenue. However, fixed sum marketing contributions also exist.
The Franchising Code sets out a number of obligations for franchisors operating a marketing fund.
Renewal Fees
The initial franchise fee notionally entitles the franchisee to operate the franchised business for the initial term. If a franchisee wishes to continue operating for a further term, they will almost always pay a renewal fee. Like the other fees, this can be calculated as a fixed sum (for example, $10,000) or a percentage of something. For example, some franchisors charge as the renewal fee ‘50% of the then current franchise fee typically charged by the franchisor at the time of renewal’. This method of calculation is problematic, as it leaves the franchisee unsure of what they are contractually bound to pay. If you are a franchisee and the franchisor proposes a renewal fee charged on this basis, you may wish to negotiate a fixed sum instead.
Assignment Fees
If a franchisee wishes to sell their franchised business as a going concern (i.e. while it is operating), the franchisor’s consent will be required. In addition, an assignment fee becomes payable. This fee is either a fixed sum (often around $5,000) or a percentage of the sale price. It can also be a combination of these. For example, the assignment fee may read something like ‘5% of the sale price, or $5,000, whichever is greater’. This fee notionally covers the franchisor’s costs of undertaking due diligence on the proposed purchaser, reviewing necessary paperwork, and answering additional questions once the purchaser takes over.
Key Takeaways
- While the fees charged by franchisors vary, there are some commonalities between franchise networks in Australia;
- Reviewing a franchisor’s disclosure document and the schedule to the franchise agreement is a good step to identify franchise fees charged;
- If you are a franchisor and are wondering what fees to charge, financial modelling is key. Of course, you need to have fees that are competitive within your market. However, you also need to ensure both you and the franchisee can derive financial benefit from the franchised business.
If you would like further information, either because you’re a franchisee considering entering into a franchise agreement, or if you are looking to establish a franchise, Magnolia Legal would love to assist. Please contact us for an obligation-free initial chat.