How to Understand Franchising Royalties

Franchising royalties can vary from a monthly percentage of profits to a per annum profit split to a monthly flat rate, depending upon the stipulations of the Franchise Agreement. Franchising royalties are usually used to support the overhead of the franchise operation itself. Frequently, royalties are paid as a percentage of monthly profits for the life of the Franchise Agreement, and are non-negotiable.

Difficulty: Moderately Easy

Instructions

Things You'll Need:

• Computer with Internet access

1. Structure a fair and reasonable franchise royalty system when creating a franchise of your existing or startup business. Allow for sufficient funds to meet to your overhead costs, and realize a reasonable profit margin without breaking the bank of your fledgling franchisees.

2. Expect to pay regularly scheduled franchise royalty payments as a per-unit fee, a flat monthly rate or a percentage of net or gross profits per month or per year, depending upon the nature of the franchise operations.

3. Understand that franchise royalties are designed for much more than franchisor profits alone. Royalties sustain education, outreach, publicity, advertising, trademark and branding development, and other positive initiatives to propel the success of the entire franchise organization to benefit both franchisor and franchisee.

4. Remember that royalty payments are the price that franchisees pay for buying into a ready-made business structure rather than incurring the expense and time of structuring and creating a business model independently. Your royalty payments are in exchange for the existing structure and brand you purchased the privilege of selling.

5. Be sure that you have thoroughly interviewed both the franchisor and franchisees so as to have a thorough understanding of the royalty structure. Visit FranchiseLaw.com for additional insight and information about royalty payments and structure before agreeing to payment (see Resources below).

6. Calculate royalties as a function of your monthly input and output report. Franchisors may prefer a flat rate for planning purposes, while franchisees often enjoy a percentage-based fee structure in the beginning stages.

7. Realize that a flat rate that seems high in the beginning may actually become a marginal percentage of your ultimate profits once your business has been established.

Tips & Warnings

• If you're a franchisor, try to strike a balance between creating a marginally profitable, self-sustaining franchise and allowing your franchisees to thrive when you structure your franchise royalty arrangement.
• The American Franchisee Association is a good place to find more information on franchising royalties and other issues important to franchisors and franchisees (see Resources below).
• If you're a franchisee, make sure to spend at least several hours going over your Franchise Agreement in detail, paying special attention to the section dealing with franchise royalties.
• Franchise royalty fees are strictly non-negotiable in most cases. Be certain that you completely understand and are comfortable with the structure before signing the Franchise Agreement, or renegotiate acceptable terms in advance of binding yourself to a potentially uncomfortable arrangement.
• You're liable for whatever is stated in the contract you sign, regardless of whether or not you thoroughly comprehend it. To avoid legal difficulties later on, ask an attorney specializing in franchise law go over your contract to make sure that points such as franchise royalties are handled fairly.

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